UniFirst Corporation — Q2 Fiscal 2018 Form 10-Q
Reporting period: Thirteen and twenty-six weeks ended February 24, 2018, compared with the respective periods ended February 25, 2017. Unaudited interim results; amounts below are in U.S. dollars.
Business context
UniFirst provides uniform and protective-clothing rental, cleaning, delivery and sales, plus facility services, specialty garment services and first-aid supplies. It operates across the U.S., Canada and Europe and reported five segments: U.S. and Canadian Rental and Cleaning, Manufacturing, Corporate, Specialty Garments and First Aid. The filing notes that results are typically lower in the second and fourth fiscal quarters and can vary with economic conditions, customer workforce levels, acquisitions and nuclear reactor outages.
Financial performance
| Metric | Q2 FY2018 | Q2 FY2017 | First half FY2018 | First half FY2017 |
|---|---|---|---|---|
| Revenue | $419.3 million | $391.4 million | $835.0 million | $777.5 million |
| Operating income | $42.0 million | $36.1 million | $93.9 million | $81.9 million |
| Operating margin | 10.0% | 9.2% | 11.2% | 10.5% |
| Income before taxes | $43.6 million | $37.4 million | $96.6 million | $83.4 million |
| Income tax (benefit) provision | $(14.8) million | $14.9 million | $4.0 million | $32.7 million |
| Net income | $58.4 million | $22.5 million | $92.6 million | $50.7 million |
| Diluted EPS, Common Stock | $2.85 | $1.10 | $4.53 | $2.49 |
Revenue rose 7.1% in Q2 and 7.4% in the first half. Core Laundry Operations revenue increased 5.7% and 6.0%, respectively; management estimated organic growth of 5.0% in Q2 and 4.8% year to date. Q2 Core Laundry growth reflected new-account sales, price adjustments and improved collections on merchandise recovery charges, partly offset by moderately higher lost accounts. Specialty Garments revenue grew 24.0% in Q2, primarily from more nuclear outages and project work and cleanroom growth; First Aid revenue rose 18.2%, including the effect of an earlier acquisition.
Q2 cost of revenues declined to 63.3% of revenue from 63.7%, while selling and administrative expense declined to 21.1% from 21.7%. Lower merchandise and production costs and lower stock compensation helped, partly offset by higher healthcare claims and administrative payroll. For the first half, cost of revenues was 62.2% versus 62.8%; selling and administrative expense was 21.1% in both periods. Depreciation and amortization increased 10.0% in Q2, mainly due to prior capital spending and acquisition-related amortization.
Net income growth substantially exceeded operating-income growth because of tax effects. The Tax Cuts and Jobs Act produced a provisional $22.7 million benefit from remeasurement of deferred tax balances, partly offset by a $2.5 million transition-tax charge, for a stated net benefit of $20.2 million. The quarterly effective tax rate was (34.0%), versus 39.8% a year earlier; the first-half rate was 4.2%, versus 39.2%. Tax accounting remained incomplete and estimates could change.
Cash flow, balance sheet and capital
- Operating cash flow: $118.9 million for the first half, versus $114.7 million; management attributed the increase mainly to higher earnings and tax-payment timing.
- Investing cash flow: $77.4 million used, including $56.7 million of capital expenditures and $21.7 million for acquisitions. The comparable prior-year period used $163.5 million, largely due to the Arrow Uniform acquisition.
- Cash and short-term investments: $387.7 million at February 24, up from $349.8 million at August 26, 2017. Working capital was $679.0 million, compared with $636.4 million.
- Debt and borrowing capacity: No revolver borrowings were outstanding at February 24. Of the $250 million facility, $172.4 million remained available after $77.6 million of letters of credit; the company was covenant-compliant. The facility matures April 11, 2021.
- Equity and distributions: First-half cash dividends were $1.4 million. On March 27, after the reporting date, UniFirst repurchased 1.105 million Class B shares and 0.073 million Common shares for $146.0 million, or $124 per share. Management said cash and short-term investments after the transaction exceeded $200 million. On March 28, the company announced higher quarterly dividends: $0.1125 per Common share and $0.09 per Class B share, subject to quarterly board approval.
Changes, outlook and risks
Operating income grew 16.1% in Q2 and 14.6% in the first half, with improvement across the reported business segments. Management said energy-price recovery had stabilized or improved wearer levels in energy-dependent North American markets. It also warned that higher energy prices can increase operating costs, while a sharp decline could hurt customer activity more than it lowers costs. The company expects labor costs to rise in fiscal 2018 amid minimum-wage increases and wage pressure; healthcare costs have also outpaced revenue growth.
No specific revenue or earnings guidance is provided in the supplied filing text. Management stated that cash, future operating cash flow and revolver availability should be sufficient for anticipated working-capital and capital-expenditure needs for at least the next 12 months, including after the subsequent share repurchase.
Key risks include customer and economic conditions, retention and new-account growth, labor and healthcare costs, energy prices, acquisition integration, currency movements, dependence on suppliers and personnel, information-technology and cyber risks, and regulatory changes. Specialty Garments results can fluctuate with nuclear outages and project timing. Environmental remediation liabilities were $24.3 million at period-end; the company described uncertainties at multiple sites, including Woburn and Somerville, and said future changes in estimates or circumstances could materially affect results. Three acquisitions were completed in the first half for approximately $25.8 million; purchase-price allocation remained incomplete. Management disclosed the passing of former CEO Ronald D. Croatti and identified the performance of the new CEO as a risk factor.
The company adopted new share-based payment guidance in fiscal 2018, including recognizing certain tax benefits in the income statement. It also early adopted guidance permitting reclassification of certain tax effects from accumulated other comprehensive income, increasing that balance by $1.2 million with an offset to retained earnings. Management was evaluating the impact of upcoming revenue-recognition and lease-accounting standards.
Important facts for investors to verify
- Whether provisional tax-reform estimates, including the $20.2 million net benefit and transition-tax calculation, are revised as the company completes its analysis.
- The final purchase-price allocations and ongoing performance of the three first-half acquisitions, including the contribution from acquisitions to reported growth.
- The cash, liquidity and share-count effects of the $146.0 million post-quarter repurchase and the sustainability of the announced dividend increase.
- Whether environmental remediation estimates remain adequate, particularly given unresolved regulatory comments and the Somerville transit-authority reimbursement matter.
- Whether organic growth, account retention, labor and healthcare costs, and outage-driven Specialty Garments activity develop as management describes.