Procter & Gamble Co. — Fiscal 2016 Second-Quarter Form 10-Q
Reporting period: Three and six months ended December 31, 2016, compared with the corresponding 2015 periods. P&G sells consumer packaged goods in more than 180 countries through five continuing segments: Beauty, Grooming, Health Care, Fabric & Home Care, and Baby, Feminine & Family Care.
Key Financial Metrics
| Metric | Three months 2016 | Three months 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net sales | $16.856 billion | $16.915 billion | $33.374 billion | $33.442 billion |
| Operating income | $3.875 billion | $3.853 billion | $7.646 billion | $7.621 billion |
| Net earnings from continuing operations | $2.561 billion | $2.905 billion | $5.436 billion | $5.682 billion |
| Net earnings attributable to P&G | $7.875 billion | $3.206 billion | $10.589 billion | $5.807 billion |
| Diluted EPS from continuing operations | $0.93 | $1.01 | $1.93 | $1.97 |
| Total diluted EPS | $2.88 | $1.12 | $3.81 | $2.03 |
| Operating cash flow | Not separately provided | Not separately provided | $6.025 billion | $8.018 billion |
Margins: Second-quarter gross margin was 50.8%, up 80 basis points; operating margin was 23.0%, up 20 basis points; and continuing-operations net margin was 15.2%, down 200 basis points. For the six-month period, gross margin was 50.9%, up 60 basis points; operating margin was 22.9%, up 10 basis points; and continuing-operations net margin was 16.3%, down 70 basis points.
Cash flow and capital allocation: Six-month adjusted free cash flow was $4.725 billion, or 83% productivity. Capital expenditures were $1.429 billion, dividends were $3.637 billion, and treasury stock purchases were $2.503 billion. Cash and cash equivalents declined from $7.102 billion at June 30, 2016 to $6.051 billion at December 31, 2016.
Debt and liquidity: Debt due within one year was $13.007 billion and long-term debt was $16.460 billion at December 31, 2016. Current liabilities exceeded current assets by approximately $3.3 billion. Management expects operating cash flow, debt-market access, and available credit arrangements to support liquidity and refinancing needs.
Dividends and shares: Dividends per common share were $0.6695 for the quarter and $1.3390 for the six months. Diluted weighted-average shares declined to 2,737.6 million in the quarter and 2,780.2 million year to date, principally following shares tendered in the Beauty Brands transaction.
Material Changes Versus Prior Comparable Period
- Reported sales were essentially flat, while organic sales increased 2% for both the quarter and six-month period. Unit volume increased 1%, and foreign exchange reduced sales by approximately 2%.
- Continuing-operations earnings declined 12% in the quarter and 4% year to date, despite slightly higher operating income. The primary adverse item was a $345 million after-tax charge for early extinguishment of long-term debt.
- Total earnings increased sharply because of the $5.3 billion after-tax gain from the October 1, 2016 sale of 41 Beauty Brands to Coty. Discontinued operations contributed $5.335 billion in the quarter and $5.217 billion year to date, versus $323 million and $181 million, respectively, in the prior-year periods.
- Core EPS increased 4% to $1.08 for the quarter and $2.11 year to date, excluding discontinued operations, incremental restructuring charges, and the debt-extinguishment charge.
- Gross margin benefited from manufacturing productivity savings, but results were pressured by foreign exchange, higher commodity costs, promotional pricing, product mix, and increased marketing spending.
- Segment trends were mixed. Six-month organic sales increased 7% in Health Care, 3% in Beauty and Fabric & Home Care, 2% in Grooming and 2% in Baby, Feminine & Family Care. Reported segment earnings declined in Beauty, Fabric & Home Care, and Baby, Feminine & Family Care, while increasing in Grooming and Health Care.
- Six-month operating cash flow fell $1.993 billion year over year, primarily reflecting working-capital uses, including accounts receivable, inventory, and accounts payable and accrued-liability movements, as well as tax payments related to the Beauty Brands transaction.
Guidance, Outlook, Risks, and Unusual Items
- No specific updated full-year sales or EPS guidance is provided in the filing. Management’s long-term target is adjusted free cash flow productivity of at least 90% annually.
- P&G expects approximately $5.5 billion of before-tax restructuring costs over fiscal 2012–2017; approximately 95% had been incurred through December 2016. Six-month 2016 restructuring charges were approximately $348 million.
- The productivity program targets approximately $3 billion of annual gross savings before tax; cumulative savings were estimated at approximately $2.5 billion to $3 billion through the period.
- Key risks include foreign-exchange volatility, commodity and transportation costs, pricing and promotional pressure, competitive activity, changing consumer demand, supply-chain disruption, customer concentration and retailer bargaining power, geopolitical and economic instability, tax changes, litigation, cybersecurity, and execution of productivity and portfolio initiatives.
- The Shave Care reporting unit’s goodwill and indefinite-lived intangible-asset fair-value cushion had fallen to approximately 20% or below, increasing its sensitivity to adverse currency, operating-plan, or macroeconomic changes.
- P&G disclosed approximately $180 million of accrued uncertain tax positions that could be affected by audit activity over the following 12 months. Management stated that pending litigation and environmental matters were not expected to materially affect financial position, results, or cash flows, although outcomes remain uncertain.
- The company early adopted the share-based-payment tax guidance, recognizing a $129 million discrete tax benefit in the six-month period. Deferred-tax balance-sheet classification was also adopted prospectively with no significant impact.
Most Important Facts for Investors to Verify
- Whether organic sales and volume growth can offset foreign-exchange pressure, promotional pricing, and competitive share losses.
- The sustainability of margin improvement after adjusting for productivity savings, marketing investment, restructuring charges, commodity costs, and currency effects.
- The company’s ability to refinance or repay the $13.007 billion of debt due within one year while maintaining dividends and share repurchases.
- The extent to which reported EPS is being driven by the nonrecurring Beauty Brands gain and share-count reduction rather than continuing operations.
- Progress toward completing the restructuring program and achieving the estimated annual savings.
- Potential impairment risk for Shave Care goodwill and indefinite-lived intangible assets.
- Final outcomes of tax audits, including the approximately $180 million of accrued uncertain tax positions, and any material litigation or regulatory developments.