Stepan Company — Q1 2018 Form 10-Q
Business context and period: The filing covers the three months ended March 31, 2018, compared with Q1 2017. Stepan produces intermediate chemicals through Surfactants, Polymers and Specialty Products. Surfactants accounted for 72% of quarterly sales, Polymers 24% and Specialty Products 4%.
Financial performance
Amounts are in millions, except per-share data and margins.
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net sales | $499.3 | $468.3 | +6.6% |
| Gross profit / gross margin | $89.6 / 17.9% | $92.1 / 19.7% | Profit down 2.8% |
| Operating income / operating margin | $39.7 / 7.9% | $46.2 / 9.9% | Down 14.2% |
| Net income attributable to Stepan | $30.7 | $31.9 | Down 3.7% |
| Diluted EPS | $1.31 | $1.37 | Down 4.4% |
| Operating cash flow | $1.0 | $3.3 | Down $2.3 |
| Capital expenditures | $27.4 | $20.4 | Up $7.0 |
- Sales growth reflected $17.6 million of favorable foreign-currency translation, $9.4 million from higher average selling prices, and $4.0 million from higher consolidated volume.
- Surfactants sales rose 11% to $358.9 million and segment operating income rose 5% to $40.3 million. Polymers sales fell 4% to $121.9 million and operating income fell 21% to $16.9 million. Specialty Products sales fell 3% to $18.5 million; the segment recorded a $0.35 million operating loss versus $1.29 million income a year earlier.
- Polymers’ results were pressured by lower volume and margins in North America and Europe. A $2.1 million class-action settlement partially offset the North American gross-profit decline.
- The effective tax rate was 18.4%, down from 28.0%, primarily reflecting the lower U.S. federal statutory rate and higher excess tax benefits from stock-based awards.
Financial position and liquidity
- At March 31, cash and cash equivalents were $244.6 million, down $54.3 million from year-end; current assets were $782.0 million and current liabilities were $299.6 million.
- Total debt was $290.8 million, essentially unchanged from December 31, 2017. Net debt increased to $46.2 million from net cash of $8.1 million at year-end.
- The new five-year, $350 million revolving credit facility matures January 30, 2023. No borrowings were outstanding at quarter-end; $345.1 million remained available after letters of credit. Management reported compliance with debt covenants.
- Operating cash flow was constrained by working-capital outflows, including receivables ($24.2 million) and accounts payable and accrued liabilities ($19.5 million). Investing cash use was $47.1 million, including $21.5 million for the Mexico acquisition and $27.4 million of capital expenditures. Financing cash use was $8.8 million, including dividends and share purchases.
Material changes, outlook and notable items
- Reported diluted EPS declined to $1.31, while the company’s non-GAAP adjusted diluted EPS rose to $1.37 from $1.36. Adjusted net income was $32.0 million versus $31.7 million; adjustments principally concerned deferred compensation and restructuring.
- Deferred compensation expense increased $1.2 million year over year, largely because Stepan’s share price rose during Q1 2018 versus a decline in Q1 2017. The company cautions that these plans can cause period-to-period earnings fluctuations.
- On March 26, Stepan acquired a BASF surfactants facility and part of its related business in Ecatepec, Mexico, for $21.5 million cash. The acquired facility has capacity exceeding 50,000 metric tons. Purchase-price allocations were preliminary; management expected minimal impact on 2018 results.
- Management said Surfactants should build on its strong start. It expected improved weather to support insulation demand and European Polymers, while North American Polymers was expected to remain challenged. Management remained optimistic about the rest of 2018; the filing provides no specific earnings or revenue guidance.
- Estimated 2018 capital expenditures were $105 million to $115 million. Management said cash, operating cash flow and committed credit facilities should cover expected capital needs, working capital, dividends and other planned commitments.
- Environmental and legal losses were estimated at $23.9 million to $45.2 million; $23.9 million was accrued. For certain sites, potential costs could not be estimated, and adverse determinations could materially affect cash flows or results in a period.
- The company was still completing its accounting for certain Tax Cuts and Jobs Act provisions, including GILTI, executive compensation deductibility and cost recovery. Revenue-standard adoption had no material effect. Management reported effective disclosure controls and no material changes to internal control over financial reporting.
Key facts for investors to verify
- Whether Polymers’ volume and margin pressures persist, particularly in North America and Europe, and whether the anticipated weather-related recovery materializes.
- How much reported sales growth reflects underlying volume and pricing versus foreign-currency translation, and whether Surfactants’ margin gains continue.
- Working-capital trends and cash conversion, given operating cash flow of only $1.0 million and the quarter’s substantial investing outflows.
- Final purchase-price allocation and operating contribution from the Ecatepec acquisition, alongside execution of the $105 million to $115 million capital-spending plan.
- Changes in the environmental and legal loss estimate, including exposure at sites where costs remain indeterminable, and the completion and effects of the company’s Tax Act accounting.