Stepan Company — Q2 2014 Form 10-Q
Reporting period: Three and six months ended June 30, 2014. Unaudited results; dollar amounts below are in millions unless noted. Stepan produces intermediate chemicals across Surfactants, Polymers and Specialty Products.
Financial performance and liquidity
| Metric | Q2 2014 | Q2 2013 | H1 2014 | H1 2013 |
|---|---|---|---|---|
| Net sales | $504.1 | $474.4 | $981.6 | $931.0 |
| Gross profit | $71.6 | $73.7 | $134.6 | $146.4 |
| Operating income | $36.9 | $35.9 | $59.4 | $64.2 |
| Net income attributable to Stepan | $24.4 | $22.7 | $37.4 | $41.8 |
| Diluted EPS | $1.06 | $0.99 | $1.63 | $1.82 |
| Gross margin | 14.2% | 15.5% | 13.7% | 15.7% |
| Operating margin | 7.3% | 7.6% | 6.1% | 6.9% |
- H1 operating cash flow was $15.0 million, down from $41.8 million. Capital expenditures were $39.1 million; cash declined $36.9 million to $96.4 million.
- At June 30, total debt was $271.3 million and net debt was $174.9 million. The $125 million revolving facility had no borrowings and $122.0 million available, net of letters of credit. The facility’s maturity was extended to July 2019 after quarter-end.
- Management said operating cash, available credit and cash on hand should fund anticipated capital expenditures, working capital, dividends and other planned commitments for the foreseeable future. Estimated 2014 capital expenditures are $100–$110 million.
Material changes and segment performance
- Q2 sales increased 6%, mainly from higher selling prices and Polymers growth; consolidated volume declined 2%. Q2 net income attributable to Stepan rose 7%, while gross profit fell 3%.
- H1 sales increased 5%, but attributable net income declined 11% and operating income fell 7%. Management attributed weaker first-half earnings largely to severe winter weather in Q1.
- Surfactants: Q2 segment sales rose 1%, but operating income declined 26% to $19.2 million. H1 sales were nearly flat, while operating income fell 32% to $37.6 million. Lower North American volumes, higher operating and maintenance costs, and production and transportation issues weighed on results. Management cited customer insourcing, weak agricultural demand and the decision not to produce biodiesel when uneconomic.
- Polymers: Q2 sales rose 22% and operating income rose 36% to $18.4 million. H1 sales rose 23% and operating income rose 21% to $29.3 million, driven by volume growth and the acquired polyester resins business. Comparisons also reflect the BMS business being acquired in June 2013.
- Specialty Products: Q2 sales were essentially unchanged and operating income declined 15%; H1 sales rose 5% and operating income rose 8%.
Outlook, risks and unusual items
- Management said lower Q1 earnings make it difficult to exceed 2013 full-year operating earnings. North American Surfactants challenges are expected to continue; consumer product volumes are expected to decline and North American agriculture is expected to have a down year. Brazil agriculture may improve in H2. EOR contributions and efficiency projects are expected to improve in H2.
- Management expects continued global Polymers volume growth, supported by improving U.S. and European economies and insulation demand; it expects the acquired polyester resins business to deliver income as projected.
- A July 2014 agreement to acquire a 30,000-metric-ton-capacity sulfonation facility in Bahia, Brazil, remained subject to regulatory approvals and customary conditions. Closing was projected for Q3 or Q4 2014, with minimal expected impact on 2014 results; financial terms were not disclosed.
- The Canadian Surfactants restructuring is expected to finish by year-end 2014, eliminate about 20 positions and generate approximately $2.5 million of annual savings at full run rate, with savings expected to begin in H2. Q2 included $0.9 million of accelerated depreciation; H1 included $1.8 million.
- Environmental and legal loss estimates were $10.1–$29.1 million, with $15.1 million accrued. Some site exposures cannot be estimated; adverse determinations could materially affect cash flow or results in a period. A multistate unclaimed-property examination was in early stages and any liability was not determinable.
- Deferred compensation tied to company stock and investments caused notable period-to-period expense changes: it contributed to lower reported operating expenses in Q2 and H1. The filing also cites higher interest expense from the $100 million private placement borrowing made in 2013.
- The filing reported no material changes to the risk factors or market risks described in the 2013 Form 10-K. Management reported effective disclosure controls and compliance with debt agreements at June 30.
Important facts for investors to verify
- Whether Surfactants’ North American volume and margin pressures persist, and whether the projected H2 recovery in Brazil agriculture, EOR and efficiency savings materializes.
- How much of Polymers’ growth reflects underlying demand versus the acquired BMS business and comparison-period effects.
- Cash conversion and working-capital needs: H1 cash flow was pressured by inventory growth and receivables despite higher sales.
- Final approvals, purchase terms and integration outlook for the proposed Bahia facility acquisition.
- Changes in environmental reserves or outcomes from the Maywood remediation process and unclaimed-property examination.
- Execution of the $100–$110 million capital-spending plan and continued compliance with debt covenants.