Callaway Golf Company — Q1 2019 Form 10-Q
Reporting period: Three months ended March 31, 2019; unaudited. Dollar amounts below are in millions unless noted.
Business context and reporting period
Callaway designs and sells golf equipment and apparel, gear and accessories. In January 2019, it acquired JW Stargazer Holding GmbH, owner of the Jack Wolfskin outdoor brand, for approximately $521.2 million, including acquired cash. The company reorganized reporting into Golf Equipment and Apparel, Gear and Other segments; comparative segment figures were reclassified.
Key financial metrics
| Metric | Q1 2019 | Q1 2018 |
|---|---|---|
| Net sales | $516.2 | $403.2 |
| Gross profit; gross margin | $238.4; 46.2% | $200.5; 49.7% |
| Operating income; operating margin | $69.6; 13.5% | $86.0; 21.3% |
| Net income attributable to Callaway | $48.6 | $62.9 |
| Diluted EPS | $0.50 | $0.65 |
| Net cash used in operating activities | $120.6 | $109.3 |
| Capital expenditures | $11.3 | $8.0 |
At March 31, cash and equivalents were $78.9; current assets were $823.3 and current liabilities $518.2. Borrowings included $214.5 under asset-based facilities and $470.4 of long-term debt carrying value, approximately $684.9 in total debt. Available liquidity, including cash and remaining facility availability, was $223.4. The company reported compliance with applicable credit-facility covenants.
Material changes versus the prior comparable period
- Sales increased 28.0%. Jack Wolfskin contributed $92.7 of quarterly sales; excluding it, Apparel, Gear and Other sales rose 10.0%. Golf Equipment sales grew 3.6%, including growth in clubs and golf balls.
- GAAP net income attributable to Callaway fell $14.2, and diluted EPS declined $0.15. Higher operating expenses, acquisition-related costs and approximately $8.1 of additional term-loan interest weighed on results.
- Gross margin declined 350 basis points. Management attributed about 100 basis points to acquired-inventory fair-value charges, 70 basis points to foreign exchange, and the remaining 180 basis points primarily to product mix and Jack Wolfskin seasonality.
- Operating cash use increased by $11.3, principally reflecting lower net income and seasonal working-capital demands, including higher receivables. Investing cash use was $474.4, largely the $463.1 net cash acquisition outlay. Financing cash provided was $605.8, including the $480.0 term-loan borrowing and net proceeds from credit facilities.
- Jack Wolfskin added $40.6 of operating expenses and reported a $5.5 net loss in the quarter, including purchase-accounting amortization and transition-related costs. Callaway recorded $4.7 of acquisition transaction costs in Q1.
Excluding specified acquisition and transition costs, purchase-accounting amortization and certain acquisition-related hedge losses, management reported non-GAAP net income of $60.5 and diluted EPS of $0.63, versus $63.1 and $0.65 in Q1 2018. These non-GAAP measures are not substitutes for GAAP results.
Outlook, commentary, risks and unusual items
- Management said available resources should fund operating needs, capital expenditures, debt repayments and other commitments for at least the next 12 months. Expected 2019 capital expenditures were approximately $55–$60. No quarterly or full-year earnings guidance is provided in the filing text.
- Seasonality is significant: golf equipment sales and much of that segment’s profitability generally occur in the first half of the year. Management noted Jack Wolfskin’s seasonal transition from fall/winter to spring/summer.
- The $480.0 Term Loan B matures in January 2026 and bears floating-rate interest, subject to hedging on part of the principal. The company’s contractual-obligations table lists substantial debt, interest, lease and purchase commitments.
- Key stated risks include consumer demand and retailer orders, promotional activity, adverse weather, foreign-exchange movements, tariffs and trade policy, supplier and manufacturing disruptions, golf participation, and credit-market or covenant risks. The company also cited tax-law uncertainty and potential exposure from legal and intellectual-property claims; it said pending matters were not expected to have a material annual effect, while noting outcomes are uncertain.
- Approximately 92% of cash was held outside the United States. The company said repatriation could entail foreign withholding taxes and it did not intend to repatriate additional funds for ordinary domestic liquidity needs.
- The company adopted the new lease standard in 2019, recognizing $133.6 of operating lease right-of-use assets and $136.3 of corresponding obligations at adoption; it said the change did not materially affect operations, liquidity or covenant compliance.
Important facts for investors to verify
- Whether Jack Wolfskin delivers the anticipated growth and synergies, and how its seasonality, integration costs and purchase accounting affect margins and cash generation.
- Debt service capacity and liquidity as seasonal working-capital needs, term-loan interest and contractual commitments come due; verify borrowing-base availability and covenant compliance in later filings.
- Whether golf-equipment demand, product launches and retailer reorders sustain sales, and whether gross margins recover from Q1’s mix, foreign-exchange and acquisition-related pressures.
- How foreign-exchange exposure, hedging results and the concentration of cash outside the U.S. affect earnings and accessible liquidity.
- Progress on Jack Wolfskin purchase-price allocation, including lease valuations and tax assessments, and any resulting changes to goodwill, intangible assets or deferred taxes.