Callaway Golf Company — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Unaudited results are compared with the corresponding 2018 periods. Amounts are in U.S. dollars; financial statement amounts below are in millions unless stated otherwise.
Business context and reporting period
Callaway designs and sells golf equipment and apparel, gear and accessories. In January 2019, it acquired Jack Wolfskin, an international outdoor apparel, footwear and equipment brand, for approximately $521.2 million, including cash acquired. The company reorganized its reporting into Golf Equipment and Apparel, Gear and Other segments; prior-period segment figures were reclassified.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net sales | $446.7 | $396.3 | $962.9 | $799.5 |
| Gross profit | $206.8 | $192.7 | $445.3 | $393.2 |
| Gross margin | 46.3% | 48.6% | 46.2% | 49.2% |
| Operating income | $45.2 | $74.3 | $114.8 | $160.3 |
| Net income attributable to Callaway | $28.9 | $60.9 | $77.6 | $123.7 |
| Diluted EPS | $0.30 | $0.63 | $0.81 | $1.28 |
Q2 sales rose 12.7%; first-half sales increased 20.4%. Jack Wolfskin contributed $48.4 million of Q2 sales and $141.1 million for the first half. Excluding Jack Wolfskin, Apparel, Gear and Other sales also grew, supported by TravisMathew. Golf Equipment sales declined 2.1% in Q2 but rose 0.8% in the first half; golf balls gained sales while golf club results were affected by launch timing and foreign exchange.
Margin contraction reflected the product mix, unfavorable currency effects and $10.7 million of first-half inventory fair-value step-up amortization from the acquisition (about 110 basis points of margin). Operating expenses rose with Jack Wolfskin’s addition, growth investments and acquisition-related costs. Q2 interest expense was $10.7 million, versus $2.0 million a year earlier; first-half interest expense was $20.6 million, versus $3.6 million, primarily due to acquisition financing.
Jack Wolfskin recorded a net loss of $22.5 million in Q2 and $28.3 million in the first half, including purchase-accounting and transition-related charges; management cited the business’s fall/winter seasonality. Callaway reported non-GAAP diluted EPS of $0.37 for Q2 and $0.99 for the first half, excluding specified acquisition costs and purchase-accounting amortization. These are company-presented non-GAAP measures, not substitutes for GAAP results.
Cash flow, debt and liquidity
For the six months, operating cash flow was negative $50.8 million, compared with positive $5.1 million in 2018. Investing cash flow was negative $486.5 million, including $463.1 million for the acquisition, net of acquired cash, and $23.4 million of capital expenditures. Financing cash flow was positive $554.4 million, including $480.0 million of term-loan borrowings. Cash increased $17.5 million to $81.5 million. The large seasonal accounts-receivable outflow was a major working-capital use.
At June 30, cash was $81.5 million and borrowings under asset-based facilities were $165.5 million. The Term Loan B had $462.0 million outstanding net of issuance costs, and the equipment note had $8.5 million outstanding. Available liquidity, including cash and undrawn capacity under the asset-based facilities, was $273.4 million. The company reported compliance with applicable credit-facility covenants. Subsequent to quarter-end, it paid $30.0 million toward the term loan.
Current assets were $786.0 million and current liabilities $461.8 million. Operating lease liabilities totaled $171.0 million on the balance sheet following adoption of the new lease standard. Management said it expected available cash, operating cash flows and credit facilities to fund operating needs, planned capital expenditures, debt payments and other obligations for at least the next 12 months. Planned 2019 capital expenditures were approximately $55–$60 million; $23.4 million had been spent in the first half.
Outlook, risks and other notable items
Management anticipated higher sales and earnings in the second half of 2019 than in the comparable 2018 period, citing Jack Wolfskin’s fall/winter product sell-in and additional golf-equipment launches. It noted that Jack Wolfskin generally earns most of its annual profit in the back half; this expectation is forward-looking, not a guarantee.
Key disclosed risks include consumer demand and retailer purchasing, seasonality and weather, currency movements and hedging effectiveness, import tariffs and trade policy, supplier and manufacturing disruption, debt-market conditions and covenant compliance, and integration of Jack Wolfskin. The company also cited tax estimates and uncertain tax positions, and stated that it could not estimate the ultimate aggregate loss from pending legal matters, though it did not expect currently pending matters to materially affect annual results. About 94% of cash was held outside the United States; repatriation could incur foreign withholding taxes.
In August 2019, the board authorized a new $100 million share-repurchase program, subject to credit-facility limits. The company also amended its bylaws, including a Delaware Court of Chancery exclusive-forum provision for specified claims and additional advance-notice requirements. Management concluded disclosure controls were effective; integration of Jack Wolfskin’s internal controls was ongoing.
Most important facts for investors to verify
- Whether Jack Wolfskin’s second-half seasonal sales and profitability materialize, and how integration, synergies and purchase-accounting charges develop.
- Operating cash generation and working-capital trends, particularly receivables and inventory, alongside the company’s $273.4 million reported available liquidity.
- Debt repayment, interest costs, floating-rate exposure and continued compliance with facility covenants; review the $30 million post-quarter repayment and facility terms.
- Underlying segment margins and growth, including the drivers of lower golf-equipment profitability and the distinction between GAAP and management’s non-GAAP results.
- Foreign-exchange exposure, tax estimates and uncertain tax positions, and the effect of the new repurchase authorization and bylaw amendments.