Sensient Technologies Corporation — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017. Sensient reports Flavors & Fragrances, Color, and Asia Pacific segments. Financial amounts below are in U.S. dollars; millions unless otherwise noted.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $338.5 | $360.8 | $679.9 | $703.3 |
| Gross margin | 35.2% | 34.5% | 35.3% | 34.2% |
| Operating income | $44.4 | $43.7 | $68.4 | $91.2 |
| Operating margin | 13.1% | 12.1% | 10.1% | 13.0% |
| Continuing-operations net earnings | $30.8 | $24.8 | $44.0 | $55.9 |
| Diluted continuing-operations EPS | $0.69 | $0.55 | $0.99 | $1.25 |
| Adjusted diluted EPS (non-GAAP) | $0.87 | $0.84 | $1.69 | $1.59 |
| Operating cash flow | Not stated by quarter | Not stated by quarter | $62.8 | $100.8 |
Q2 revenue fell 6.2% (5.1% excluding foreign exchange); six-month revenue declined 3.3% (2.2% excluding foreign exchange). Q2 GAAP operating income rose 1.6%, but adjusted operating income fell 8.6% to $52.3 million. For the six months, GAAP operating income fell 25.0%, while adjusted operating income was nearly flat at $107.6 million, down 0.5%. Adjusted measures exclude restructuring and other costs and are non-GAAP.
Q2 net earnings from continuing operations increased 24.3%, principally alongside a lower effective tax rate (22.4% versus 36.6%). Six-month continuing-operations earnings declined 21.4%. The 2016 comparisons include discontinued-operations gains of $3.4 million for Q2 and $3.3 million for the first half; 2017 had none. Comprehensive income was $59.2 million in Q2 2017 versus $7.2 million in Q2 2016, reflecting substantial other comprehensive income, including foreign-currency translation effects.
Segments and period-to-period changes
- Flavors & Fragrances: Q2 external revenue declined 10.6% to $180.7 million; segment operating income fell 19.6% to $28.5 million. Management cited lower volumes, operational issues during restructuring wind-down, and higher manufacturing costs; higher prices partly offset these pressures. Six-month segment revenue was down 8.7% and operating income down 9.2%.
- Color: Q2 revenue increased 0.5% to $129.3 million and segment operating income increased 2.7% to $29.1 million. Six-month revenue increased 3.2% and operating income increased 5.1%, driven primarily by non-food colors, including cosmetics.
- Asia Pacific: Q2 revenue declined 5.3% to $28.5 million and operating income fell 32.4% to $3.8 million, with higher manufacturing and raw-material costs and weaker volume/mix. Six-month revenue was nearly flat; operating income declined 20.3%.
Segment revenue figures above are external-customer revenue; segment operating income is before restructuring and other costs, interest, and taxes. Certain businesses were reassigned between segments in 2017, and 2016 segment figures were restated.
Cash, debt, and liquidity
- At June 30, 2017, cash was $26.0 million; current assets were $726.7 million and current liabilities were $188.5 million.
- Long-term debt was $586.9 million and short-term borrowings were $20.4 million. Long-term debt fair value was estimated at $602.9 million. The company reported compliance with loan covenants.
- Six-month operating cash flow was $62.8 million, down from $100.8 million, mainly due to greater working-capital use and timing of tax payments. Investing cash use was $2.0 million, including $19.7 million of capital expenditures and proceeds from business and asset sales. Financing cash use was $68.8 million, including $26.7 million of share repurchases and $26.6 million of dividends.
- Net debt decreased by $14.5 million in the first half, excluding foreign-exchange effects. Cash increased by $0.2 million from year-end to $26.0 million.
On May 3, 2017, Sensient issued fixed-rate euro and U.S.-dollar notes and amended its credit facilities, extending the revolving-credit maturity to May 2022 and increasing the term loan to $145 million. Proceeds refinanced existing debt. The company said operating cash flow and available debt capacity should fund operations, capital spending, dividends, acquisitions, and repurchases.
Restructuring, outlook, risks, and other notable items
- The 2014 restructuring plan was substantially completed as of June 30, 2017. Cumulative restructuring costs were $180 million; first-half 2017 costs were $27.6 million, including a $21.6 million non-cash loss on the sale of the European Natural Ingredients business. Sensient expected about $1 million of further costs by year-end.
- The plan had generated approximately $22 million in cumulative savings. Management expected no additional savings in the remainder of 2017 and approximately $4–$5 million in 2018; expected savings shifted partly to 2018 because of a delay in closing the Indianapolis facility.
- The Strasbourg facility and related business lines were sold in January 2017 for approximately $12.5 million. The company recorded additional non-cash losses of approximately $11 million in Q1 and $0.6 million in Q2, primarily from revised working-capital estimates.
- One defined-benefit plan was terminated in Q2, producing $3.8 million of settlement expense included in restructuring costs. The company also settled an EEOC case: it had accrued $0.6 million for claimant payments and could pay up to a further $0.2 million, in addition to compliance-related measures.
- The company was evaluating the new revenue-recognition standard, planned to adopt it using the modified retrospective method, and had not identified expected significant changes to revenue timing or measurement based on work to date. Its review was expected to conclude by the end of Q3 2017.
- No full-year revenue or earnings guidance is provided in the filing. Risk factors were reported as unchanged from the 2016 Form 10-K. Sensient disclosed an ongoing informal SEC Enforcement Division inquiry concerning restructuring disclosures, long-lived-asset accounting, and non-GAAP measures; it was cooperating and could not predict the outcome or potential impact.
- Management identified risks including raw-material and energy costs, pricing acceptance, customer and market changes, competition, foreign exchange, restructuring execution, litigation or investigations, and information-technology complications. Disclosure controls were deemed effective; a new ERP system was implemented at one significant Flavors & Fragrances location during the quarter.
Investor verification priorities
- Track Flavors & Fragrances volume, product mix, and operational performance as restructuring winds down, and verify whether the expected 2018 savings materialize.
- Separate recurring performance from restructuring and divestiture costs; compare GAAP results with the company’s reconciled non-GAAP measures.
- Monitor working capital and operating cash flow, particularly given the first-half decline and higher inventory and receivables balances.
- Review debt, refinancing terms, covenant headroom, foreign-currency exposure, and the impact of debt designated as net-investment hedges.
- Follow the SEC inquiry and any developments in the revenue-recognition assessment, EEOC settlement process, or other litigation.