Procter & Gamble Fiscal Q3 2018 10-Q Summary
Business context and reporting period
P&G is a global branded consumer-goods company selling products in more than 180 countries across Beauty, Grooming, Health Care, Fabric & Home Care, and Baby, Feminine & Family Care. The filing covers the three and nine months ended March 31, 2018, compared with the same periods in 2017. The request identifies “2017 Q3,” but the filing is for fiscal third quarter 2018.
Key financial metrics
| Metric | Three months ended March 31 | Year-over-year | Nine months ended March 31 | Year-over-year |
|---|---|---|---|---|
| Net sales | $16.281 billion | +4% | $50.329 billion | +3% |
| Operating income | $3.296 billion | -2% | $11.034 billion | Flat |
| Net earnings from continuing operations | $2.540 billion | -1% | $7.971 billion | Flat |
| Diluted EPS from continuing operations | $0.95 | +2% | $2.94 | +2% |
| Operating margin | 20.2% | -130 bps | 21.9% | -60 bps |
| Net earnings attributable to P&G | $2.511 billion | Flat | $7.859 billion | -40% |
| Operating cash flow | Not separately provided | — | $10.668 billion | +$1.603 billion |
| Free cash flow | Not separately provided | — | $7.858 billion | Not clearly stated |
Quarterly gross margin was 48.8%, down 100 basis points, while SG&A increased 5% to $4.642 billion and rose 20 basis points as a percentage of sales to 28.5%. Nine-month gross margin was 49.9%, down 60 basis points, and SG&A was 27.9% of sales, down 10 basis points.
Organic sales increased 1% in both the quarter and nine-month period. For the nine months, organic sales increased in Beauty, Health Care, and Fabric & Home Care, but declined in Grooming and Baby, Feminine & Family Care. Foreign exchange contributed 4% to quarterly reported sales growth and 2% to nine-month growth.
Core EPS, a non-GAAP measure, increased 4% to $1.00 for the quarter and 7% to $3.28 for the nine months. Adjusted free cash flow productivity was 91%, compared with management’s long-term target of at least 90%.
Liquidity, debt, and capital allocation
- Cash and cash equivalents were $5.326 billion at March 31, 2018, compared with $5.569 billion at June 30, 2017.
- Available-for-sale investment securities were $10.208 billion.
- Current liabilities exceeded current assets by approximately $2.8 billion.
- Debt due within one year was $12.862 billion and long-term debt was $22.437 billion, versus $13.554 billion and $18.038 billion, respectively, at June 30, 2017.
- The fair value of long-term debt was $25.472 billion at March 31, 2018.
- Capital expenditures were $2.810 billion, or 5.6% of nine-month sales.
- P&G paid $5.449 billion in dividends and repurchased $5.634 billion of treasury stock during the nine months.
- The company stated that operating cash flow, debt refinancing capacity, credit ratings, and financial-institution agreements should support short-term liquidity needs.
Material changes versus the prior comparable period
- Reported sales increased, but operating income and continuing-operations earnings were essentially flat because of lower gross margin, higher SG&A, and increased interest expense.
- Net earnings attributable to P&G declined 40% for the nine months primarily because the prior-year period included a $5.217 billion gain from the Beauty Brands divestiture; there was no comparable discontinued-operations income in 2018.
- The nine-month effective tax rate increased to 27.8% from 22.6%, primarily due to a provisional $650 million net charge related to the U.S. Tax Act.
- Interest expense increased to $370 million for the nine months and $133 million for the quarter, driven by higher long-term debt and interest rates.
- Share count declined, supporting EPS growth despite broadly flat continuing-operations earnings.
- Segment performance was mixed: nine-month sales increased 8% in Beauty, 5% in Health Care, and 4% in Fabric & Home Care; Grooming declined 1% and Baby, Feminine & Family Care declined 1%.
Guidance, outlook, commentary, risks, and unusual items
- Management expected approximately $1.2 billion of before-tax restructuring costs during fiscal 2018 and 2019. Restructuring charges were $205 million in the quarter and $516 million for the nine months.
- The U.S. Tax Act produced a provisional nine-month net charge of $650 million, consisting of an estimated $3.9 billion repatriation-tax charge and a $3.2 billion deferred-tax benefit. The final impact could differ materially during the permitted measurement period.
- On April 18, 2018, P&G agreed to acquire Merck KGaA’s over-the-counter healthcare business for €3.375 billion, or approximately $4.2 billion at then-current exchange rates, subject to regulatory approval and customary closing conditions.
- P&G also agreed to dissolve its PGT Healthcare partnership with Teva, with the transaction expected to close in July 2018.
- Management identified risks from foreign-exchange volatility, commodity and transportation costs, pricing and competitive pressure, changing consumer habits, supply-chain disruptions, political and economic instability, regulatory and tax changes, information-technology risks, and execution of acquisitions, divestitures, and cost savings.
- The Shave Care reporting unit and Gillette indefinite-lived intangible asset had fair-value cushions below 10%, increasing sensitivity to competitive pressure, slower category growth, currency devaluation, lower growth assumptions, or higher discount rates. A 50-basis-point discount-rate increase was estimated to reduce fair value by approximately 10%.
- Management stated that pending litigation and environmental matters were not expected to materially affect financial position, results, or cash flows, although tax audits and uncertain tax positions could change within the next 12 months.
Facts investors should verify
- Reconciliation of reported earnings to core EPS, including the $650 million U.S. Tax Act charge and restructuring adjustments.
- Finalization of the U.S. Tax Act transition accounting and any resulting changes to tax liabilities or effective tax rates.
- Execution, timing, and total cost of the fiscal 2018–2019 productivity and restructuring program.
- Whether pricing, commodity inflation, unfavorable mix, and foreign exchange continue to pressure gross margins.
- Competitive trends and impairment sensitivity in Shave Care and the Gillette brand.
- Regulatory approval, financing, and expected earnings impact of the Merck OTC healthcare acquisition.
- Sustainability of cash generation relative to dividends, share repurchases, capital expenditures, and increased debt.