Lincoln Electric Holdings, Inc. — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017. Financial statements are unaudited. Dollar amounts below are in millions unless stated otherwise.
Business context
Lincoln Electric designs and manufactures arc-welding and cutting products, welding consumables, automation systems, and brazing and soldering products. Its operating segments are Americas Welding, International Welding, and The Harris Products Group.
Financial performance
| Metric | Q2 2017 | Q2 2016 | First half 2017 | First half 2016 |
|---|---|---|---|---|
| Net sales | $626.9 | $592.4 | $1,207.8 | $1,143.1 |
| Gross profit | $217.5 | $202.9 | $421.3 | $392.0 |
| Gross margin | 34.7% | 34.3% | 34.9% | 34.3% |
| Operating income | $87.6 | $48.1 | $169.1 | $123.4 |
| Net income | $61.4 | $31.3 | $117.2 | $85.0 |
| Diluted EPS | $0.92 | $0.45 | $1.76 | $1.22 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $151.7 | $126.9 |
- Q2 sales increased 5.8%; first-half sales rose 5.7%. Management attributed growth primarily to higher volume and pricing. First-half sales growth excluding Venezuela was 6.7%.
- First-half Adjusted EBIT, a non-GAAP measure, was $180.4 million, up 12.4%; its margin was 14.9%, versus 14.0%. Adjusted diluted EPS was $1.85 versus $1.60.
- Q2 GAAP net income and EPS comparisons include a $34.3 million pre-tax Venezuelan deconsolidation loss in Q2 2016. The 2016 comparison also included a $7.2 million tax valuation-allowance reversal in adjusted net income reconciliation.
- Q2 2017 acquisition transaction and integration costs were $4.5 million pre-tax ($8.1 million for the first half). The company’s adoption of stock-compensation accounting guidance reduced income tax expense and increased EPS by $0.04 in Q2 and $0.06 for the first half.
Cash, debt, and liquidity
- At June 30, cash and cash equivalents were $395.7 million, versus $379.2 million at year-end 2016. The company also held $103.9 million of marketable securities, included in other current assets.
- First-half investing cash use was $92.0 million, including $28.1 million of capital expenditures and net purchases of marketable securities of $64.9 million. Financing cash use was $55.8 million, including $46.0 million of dividends paid.
- Total debt was approximately $706.7 million; long-term debt was $704.7 million and short-term debt $2.0 million. Debt to total invested capital was 45.3%, down from 49.8% at December 31, 2016.
- The company had no borrowings under its $400 million revolving credit facility and was in compliance with debt covenants. The facility was amended to extend maturity to June 30, 2022. Senior unsecured notes had a weighted-average effective interest rate of 3.3%.
- Cash held by international subsidiaries was $308.2 million and could be subject to U.S. income and foreign withholding taxes if repatriated. Average operating working capital to sales was 16.7%, compared with 15.6% at year-end 2016.
Material changes and segment trends
- Americas Welding Q2 sales rose 4.3% and Adjusted EBIT rose 14.3%; first-half Adjusted EBIT increased 13.1%, supported by higher volume.
- International Welding Q2 sales increased 6.5%, but Adjusted EBIT declined 1.8% as higher material costs pressured margins. First-half Adjusted EBIT increased 20.1%.
- Harris Products Group Q2 sales increased 12.6%, driven largely by retail volume; Adjusted EBIT rose 5.4%, while margin declined amid unfavorable mix. First-half sales grew 7.4% and Adjusted EBIT 7.4%.
- SG&A rose 7.8% in Q2 and 7.6% in the first half, reflecting higher compensation and acquisition-related costs, partly offset by lower legal fees. Interest expense also increased, which management attributed to higher borrowings.
- The company no longer consolidates its Venezuelan subsidiary, effective July 1, 2016, due to deteriorating conditions and loss of control. It reported no remaining financial commitments and did not expect the exposure to future losses to be material.
Outlook, risks, and contingencies
- No earnings or revenue guidance was provided. Management expected to fund ongoing needs through operating cash flow, existing cash, credit facilities, and debt markets as needed. Planned 2017 capital expenditures were $65 million to $75 million.
- The company had agreed to acquire Air Liquide Welding for an approximately $131 million purchase price, including assumption of net debt and subject to working-capital adjustments. It reported required regulatory approvals and other closing conditions met and expected closing on July 31, 2017.
- Risks identified include economic and market conditions, execution of operating initiatives and acquisitions, interest rates and credit-market access, currency movements, litigation, commodity and energy prices, regulatory complexity, and geopolitical or other disruptive events. Management reported no material change in market-risk exposure since year-end.
- Asbestos-related proceedings involved approximately 3,784 plaintiffs as of June 30. The company said it intends to defend the claims and believes resolution of proceedings will not materially affect its financial statements; many potential loss ranges cannot be estimated.
- Management said disclosure controls were effective at quarter-end and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether Air Liquide Welding closed as expected and the final purchase price, financing, and integration costs.
- Whether sales growth and margin improvement persist, particularly given material-cost pressure and segment-level margin differences.
- How working-capital needs, capital spending, dividends, and any share repurchases affect cash generation and debt.
- The treatment and potential tax cost of international cash repatriation, and developments in tax audits and the $14.8 million of unrecognized tax benefits.
- Developments in asbestos litigation and Venezuela-related conditions, including any change in the company’s stated exposure assessment.
- Effects of new accounting standards, particularly revenue recognition, whose impact the company was still evaluating.