Business context and reporting period
Valvoline Inc. is a lubricant producer and distributor and operator of Valvoline Instant Oil Change stores. This Form 10-Q covers the three and six months ended March 31, 2017; amounts are in millions of dollars except per-share data. At quarter-end, Valvoline remained approximately 83% owned by Ashland, with Ashland’s planned distribution of its remaining stake expected in May 2017, subject to conditions.
Financial and operating results
| Metric | Three months 2017 | Three months 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Sales | $514 | $480 | $1,003 | $936 |
| Gross profit | $198 | $192 | $383 | $368 |
| Gross margin | 38.5% | 40.0% | 38.2% | 39.3% |
| Operating income | $117 | $104 | $237 | $200 |
| Net income | $71 | $68 | $143 | $133 |
| Diluted EPS | $0.35 | $0.33 | $0.70 | $0.65 |
| Adjusted EBITDA | $132 | $119 | $259 | $224 |
Adjusted EBITDA is a company-defined non-GAAP measure. Operating income includes pension and postretirement benefit income of $17 million in the quarter and $43 million for the six months, and separation costs of $6 million and $12 million, respectively. The six-month period also includes an $8 million benefit-plan remeasurement gain.
Cash flow, debt and liquidity
- For the six months, operating cash flow was $70 million (prior year: $91 million); capital spending was $27 million (prior year: $14 million), and reported free cash flow was $43 million (prior year: $77 million).
- Cash was $135 million at March 31, including $90 million held by foreign subsidiaries. Total debt was $737 million, including $75 million of short-term securitization borrowings; long-term debt was $646 million and the current portion was $16 million.
- Working capital was $277 million, down from $349 million at September 30, 2016. Cash, cash equivalents and receivables equaled 115% of current liabilities, versus 134% at fiscal year-end.
- The company reported compliance with its credit agreement covenants. The revolver had $436 million of available capacity, and $50 million remained available under the $125 million receivables facility.
Segment performance
Quarterly sales and operating income were: Core North America $253 million and $57 million; Quick Lubes $128 million and $31 million; International $133 million and $18 million. For the six months, segment sales were $490 million, $255 million and $258 million, respectively, and operating income was $108 million, $60 million and $38 million. Core North America faced higher product costs and lower volume; Quick Lubes benefited from acquisitions, volume and mix, but labor costs pressured margins; International sales growth was led by volume.
Material changes versus prior periods
- Quarterly sales rose 7%, with higher pricing, volume and mix, plus $7 million from acquisitions. Six-month sales rose 7%, led by volume and acquisitions; lubricant gallons sold increased 3% in the quarter and 5% year to date.
- Gross margin declined 1.5 percentage points in the quarter and 1.1 points for the six months, largely reflecting higher product costs and changes in volume and mix.
- Quarterly operating income increased $13 million; six-month operating income increased $37 million. Higher pension-related income and the absence of the prior-year remeasurement loss contributed to the improvement. Interest and financing expense was $8 million for the quarter and $18 million year to date, versus none in 2016.
- Quick Lubes sales increased 13% in the quarter and 20% year to date, with acquisitions contributing $7 million and $21 million, respectively. Core North America operating income declined year over year for both periods.
Outlook, risks and unusual items
- Management forecast fiscal 2017 capital expenditures of approximately $70 million to $80 million and expected approximately $15 million of additional separation costs for the remainder of the year.
- Valvoline expected operating cash flow and other resources, including cash and revolving credit, to be sufficient for planned requirements and debt covenant compliance. This outlook depends on operating results, working capital, spending, acquisitions, pension funding and tax items; no earnings or revenue guidance is stated in the provided filing text.
- Subsequent to quarter-end, the board authorized a share repurchase program of up to $150 million through December 31, 2019. A $0.049-per-share dividend was also declared for payment in June. Ashland’s planned May distribution of its remaining 170 million Valvoline shares was subject to stated conditions, which management expected to be met.
- Key risks include raw-material price and margin pressure, demand and customer concentration, international and currency exposure, substantial indebtedness and restrictive covenants, stand-alone company costs, separation execution, acquisitions and integration, product liability, and tax consequences or indemnification obligations if the distribution fails to qualify for tax-free treatment.
- The company disclosed pending commercial, tax, product-liability, toxic-tort and environmental matters. It said recognized losses were not material and potential additional losses were not currently expected to be material, though outcomes remain uncertain. It also noted possible material changes in uncertain tax positions that it could not estimate.
Important facts for investors to verify
- Whether the Ashland distribution closed as planned and whether the separation created the expected stand-alone costs, cash needs and tax outcomes.
- How much reported operating-income growth reflects recurring segment performance versus pension income and remeasurement items.
- Whether pricing and product mix can offset raw-material and labor cost inflation, particularly in Core North America and Quick Lubes.
- Whether Quick Lubes acquisitions deliver expected returns and same-store sales trends remain sustainable.
- Cash conversion, working-capital requirements, debt levels and covenant headroom alongside planned capital spending, dividends and share repurchases.