Ecolab Inc. — Q3 2011 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2011. Interim financial statements are unaudited; comparisons are with the corresponding 2010 periods unless noted. Amounts are in U.S. dollars.
Business context and results
Ecolab provides cleaning, sanitizing, pest elimination and related services. Its reportable segments are U.S. Cleaning & Sanitizing, U.S. Other Services and International. Management cited strong sales growth in Latin America and Canada, solid Asia Pacific and U.S. Food & Beverage results, and acquisition contributions; higher delivered product costs and European restructuring weighed on margins.
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Net sales | $1,736.1m | $1,561.9m | $4,953.2m | $4,514.2m |
| Operating income | $239.6m | $245.1m | $589.6m | $603.2m |
| Net income attributable to Ecolab | $154.3m | $174.2m | $373.8m | $399.0m |
| Diluted EPS | $0.65 | $0.74 | $1.58 | $1.68 |
| Operating cash flow | Not separately provided | Not separately provided | $540.7m | $638.2m |
Key financial metrics and changes
- Q3 sales rose 11% reported; fixed-currency sales rose 6%, including 2% volume, 1% pricing and 2% acquisitions/divestitures, plus a 5% favorable currency effect. Excluding acquisitions, fixed-currency sales grew 3%. Nine-month sales increased 10% reported and 6% at fixed currency.
- Reported Q3 gross margin fell to 49.4% from 51.1%; nine-month gross margin declined to 49.3% from 50.6%. Management attributed the decreases to delivered product costs and restructuring, which pricing and sales gains did not fully offset.
- Reported operating income declined 2% in both periods. Excluding special gains and charges, adjusted operating income increased 11% in Q3 and 10% year to date; adjusted fixed-currency operating income increased 7% in both periods. These are non-GAAP measures.
- Reported net income attributable to Ecolab decreased 11% in Q3 and 6% year to date. Adjusted diluted EPS, excluding special items and discrete tax effects, increased 14% to $0.75 in Q3 and 13% to $1.84 for nine months. The reported Q3 effective tax rate was 31.8% versus 24.3%; adjusted rates were 30.2% and 30.3%, respectively.
- Nine-month operating cash flow fell about $98m, primarily reflecting a $100m voluntary U.S. pension contribution. Capital expenditures were $228.3m; cash used for investing was $551.7m, including $281.9m net cash paid for acquisitions. Cash was $207.3m at September 30, versus $242.3m at year-end 2010.
- At September 30, total debt was approximately $1.04bn (short-term $336.8m; long-term $700.2m), versus approximately $846m at year-end. Debt-to-capitalization rose to 30% from 28%. Current assets were $2.09bn and current liabilities $1.62bn. Management said the company complied with debt covenants and had sufficient borrowing capacity for foreseeable operating needs.
- Dividends declared were $0.175 per share in Q3 and $0.525 for nine months, up from $0.155 and $0.465, respectively. Nine-month share repurchases were about $120m, versus $345m in 2010.
Outlook, material events and risks
- 2011 Restructuring Plan: The company expects approximately $150m pretax charges through 2013, including $60m–$70m in 2011; approximately $125m is expected to be cash expenditures. Expected annualized savings are about $120m when fully realized, with $8m–$10m expected in 2011. Approximately 900 positions are expected to be eliminated.
- Proposed Nalco merger: Announced in July, the transaction was expected to close in Q4 2011, subject to shareholder and regulatory approvals and other conditions. Consideration was approximately 68.3m Ecolab shares and $1.6bn cash; stated total transaction value was $8.0bn, including Nalco net debt. Ecolab expected to fund the cash portion through short- and long-term borrowing. The filing reports the merger was not yet completed as of the reporting period.
- In September, Ecolab replaced its $600m multi-year credit facility with a $1.5bn five-year facility and added a $2.0bn 364-day facility. The U.S. commercial paper program was expanded to $3.5bn; $305m was outstanding at September 30. S&P subsequently lowered its short-term rating to A-2; Moody’s indicated a planned reduction to P-2, and both agencies indicated potential long-term downgrades upon merger completion.
- On October 27, 2011, Ecolab agreed to issue $500m of private-placement senior notes, expected to fund in November: $250m due 2018 at 3.69% and $250m due 2023 at 4.32%.
- A $1.0bn share-repurchase program was announced contingent on closing the Nalco merger, with completion expected by the end of 2012; debt financing may be used. The merger agreement may require a $275m termination fee and up to $8m expense reimbursement in specified circumstances.
- Merger-related risks include approval or financing delays, integration and execution challenges, added debt and possible rating changes. Other disclosed exposures include litigation, environmental matters, tax contingencies, pension obligations and foreign-exchange and interest-rate risks. Management stated that adverse legal developments could cause material charges or cash-flow effects, though it did not expect such charges to materially affect consolidated financial position. A settlement in principle was reached in an Nalco shareholder lawsuit, subject to customary conditions and court approval.
- No full-year revenue or earnings guidance is clearly provided in the filing. Management noted interim results are not necessarily indicative of full-year results. The financial statements received a limited interim review, not an audit opinion.
Most important facts for investors to verify
- Whether the Nalco merger closed on the anticipated terms and timing, and its eventual financing, dilution, integration costs and realized benefits.
- Whether the restructuring achieves the projected $120m annualized savings and how actual charges and cash expenditures compare with estimates.
- Whether delivered-cost pressure eases and reported gross margins recover, particularly given the gap between reported and adjusted earnings growth.
- Cash generation and working-capital trends, pension funding needs, debt maturities, credit ratings and borrowing capacity following any merger-related financing.
- Final outcomes and financial effects, if any, of merger litigation, other legal and environmental contingencies, and uncertain tax positions.