Generac Holdings Inc. — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018. Generac designs and manufactures power generation equipment and other engine-powered products for residential, commercial and industrial markets. Financial statements are unaudited; amounts below are in U.S. dollars, rounded to millions unless noted.
Financial results
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $559.5 | $455.8 | $1,452.1 | $1,181.2 |
| Gross profit | $197.9 | $156.2 | $514.1 | $398.0 |
| Gross margin | 35.4% | 34.3% | 35.4% | 33.7% |
| Operating income | $106.5 | $72.5 | $248.3 | $155.3 |
| Net income attributable to Generac | $75.8 | $39.4 | $162.7 | $76.9 |
| Diluted EPS | $1.11 | $0.63 | $2.34 | $1.24 |
| Adjusted EBITDA | $124.5 | $88.4 | $298.5 | $204.9 |
Q3 sales grew 22.7% year over year, operating income 46.8%, and net income attributable to Generac 92.2%. Domestic sales increased 24.9% and International sales 14.3%. Residential product sales rose 24.2%; commercial and industrial sales rose 18.7%. Management cited strong home standby generator demand and growth in C&I mobile and stationary products. Selmec contributed $13.4 million to Q3 International sales.
For the first nine months, sales increased 22.9%, operating income 59.9%, and net income attributable to Generac 111.5%. Adjusted EBITDA is a non-GAAP measure; it increased 40.7% in Q3 and 45.7% year to date. Q3 Domestic Adjusted EBITDA margin was 25.8% versus 22.8%; International was 6.9% versus 6.1%.
Cash flow, balance sheet and debt
- Cash and liquidity: Cash was $174.0 million at September 30, 2018, versus $138.5 million at December 31, 2017. Current assets were $1,040.0 million and current liabilities $553.1 million. ABL availability was $207.5 million, net of letters of credit.
- Cash flows, nine months: Operating cash flow was $139.0 million, up from $120.6 million. Investing used $94.5 million, including $71.9 million for acquisitions and $25.6 million for property and equipment. Financing used $9.1 million. Cash increased $35.5 million.
- Debt: The Term Loan had a $879.0 million principal balance and a May 2023 maturity. ABL borrowings totaled $61.0 million at quarter-end; total facility availability was $207.5 million. The company reported a secured leverage ratio of 1.82x and compliance with credit covenants. It repaid $50.0 million of ABL borrowings in October 2018.
- Working capital: Inventory rose to $496.1 million from $387.0 million at year-end. Management attributed increased operating working capital partly to sales growth and inventory replenishment.
Material changes, outlook and risks
- Generac acquired Selmec, a Mexican industrial generator manufacturer, on June 1, 2018, for $86.5 million, including estimated earnout payments. The purchase price allocation was preliminary and included approximately $47.9 million of goodwill, which is not tax-deductible.
- Management attributed improved gross margin to favorable home standby product mix, fixed-cost leverage, pricing and margin initiatives; these benefits were partly offset by inflation in commodities, currencies, wages and logistics. Q3 margins also benefited from improved manufacturing overhead absorption.
- The effective tax rate was 20.8% in Q3 and 23.3% year to date, compared with 33.9% and 35.3% in the respective 2017 periods. The decrease primarily reflected the Tax Cuts and Jobs Act; Q3 also included a favorable tax-return adjustment. Management expected a 23%–25% combined federal and state effective tax rate for 2018. No specific revenue or earnings guidance is provided in the supplied filing text.
- Management said outage-related awareness continued to support generator demand, while emphasizing that major outages are unpredictable and can cause significant period-to-period sales and profit fluctuations. Other identified risks include raw-material and labor costs, interest and currency movements, tariffs, acquisition integration and synergies, dependence on distribution partners, product liability or recalls, and changing technology and regulation.
- In June, the company amended its Term Loan and ABL Facility, reducing interest margins; the ABL commitment increased to $300 million and maturity extended to June 2023. A $50 million Term Loan prepayment resulted in a $1.3 million debt-extinguishment loss. The company repurchased $25.7 million of shares in the first nine months and approved a new $250 million repurchase program to begin in October.
- Ordinary-course lawsuits were not expected by management to have a material adverse effect. The filing reports no material changes to risk factors. Management considered disclosure controls effective; it was still reviewing and integrating Selmec’s internal controls.
Important facts for investors to verify
- How much of sales growth and margin expansion reflects ongoing underlying demand versus outage-driven demand, favorable mix, and acquisition contributions.
- Whether inventory growth and working-capital use normalize, and how they affect future operating cash flow.
- Current debt balances, ABL availability and the effect of the October $50 million repayment; distinguish reported debt carrying values from principal balances.
- Selmec’s final purchase accounting, integration progress, and contribution to earnings and cash flow.
- Tax-rate and cash-tax assumptions, including the remaining impact of Tax Act accounting adjustments and tax amortization benefits.
- The terms and use of the new share-repurchase authorization, and the assumptions underlying non-GAAP Adjusted EBITDA and Adjusted Net Income.