Business Context and Reporting Period
The Sherwin-Williams Company filed an unaudited Form 10-Q for the three months ended March 31, 2023. The company develops, manufactures, distributes and sells paints, coatings and related products through the Paint Stores Group, Consumer Brands Group and Performance Coatings Group. Results are seasonal, with most segment sales historically occurring in the second and third quarters.
Effective January 1, 2023, the Latin America architectural paint business was moved from the Paint Stores Group to the Consumer Brands Group; prior-period segment information was recast for comparability.
Key Financial Metrics
| Metric | Q1 2023 | Q1 2022 | Change |
|---|---|---|---|
| Net sales | $5,442.4 million | $4,998.7 million | +8.9% |
| Gross profit | $2,420.9 million | $2,052.9 million | +17.9% |
| Gross margin | 44.5% | 41.1% | +340 bps |
| Income before taxes | $614.8 million | $461.1 million | +33.3% |
| Net income | $477.4 million | $370.8 million | +28.7% |
| Diluted EPS | $1.84 | $1.41 | +30.5% |
| EBITDA | $878.2 million | $693.0 million | +26.7% |
| Adjusted EBITDA | $879.1 million | $693.0 million | +26.8% |
| Net operating cash flow | $88.2 million | $26.3 million | +$61.9 million |
SG&A increased to $1,693.0 million from $1,485.5 million, and increased as a percentage of sales to 31.1% from 29.7%. Interest expense rose to $109.3 million from $88.4 million, primarily because of higher interest rates and increased debt. The effective tax rate increased to 22.3% from 19.6%.
Segment Performance and Material Changes
- Paint Stores Group: Sales increased 14.8% to $2,859.1 million and segment profit increased 22.8% to $526.7 million. Comparable sales from U.S. and Canadian stores open more than twelve months increased 14.2%.
- Consumer Brands Group: Sales increased 2.4% to $872.7 million and segment profit increased 15.1% to $93.8 million. Latin America strength was partly offset by weakness in Europe, China and other regions.
- Performance Coatings Group: Sales increased 3.4% to $1,709.8 million and segment profit increased 51.5% to $218.9 million. Acquisitions contributed 5.4% to segment sales; growth was strongest in Automotive Refinish, while Packaging and Industrial Wood remained soft.
Consolidated sales growth was driven mainly by pricing actions and higher Paint Stores Group volume. Acquisitions added 1.8% to consolidated sales, while currency translation reduced sales by 1.0%. Gross margin benefited primarily from pricing increases across all reportable segments.
Cash Flow, Debt and Liquidity
- Cash and cash equivalents were $151.4 million at March 31, 2023, down from $198.8 million at December 31, 2022 and $401.1 million at March 31, 2022.
- Total debt was $11.075 billion, comprising $9.594 billion of long-term debt and $1.481 billion of short-term borrowings. Net debt was $10.924 billion.
- The company had $2.228 billion of unused capacity under credit agreements and stated that it remained in compliance with its debt covenants.
- Operating cash flow was $88.2 million. Investing cash usage was $233.4 million, including $209.9 million of capital expenditures. Financing cash provided $98.1 million, including $503.0 million of increased short-term borrowings.
- The company returned $458.2 million to shareholders through $301.7 million of share repurchases and $156.5 million of dividends. It repurchased 1.3 million shares and had authorization to repurchase 43.9 million additional shares at quarter-end.
Outlook, Risks and Unusual Items
Management expects a challenging demand environment, particularly in the second half of 2023 against difficult comparisons. It anticipates softness in new residential and retail home improvement markets, slow industrial recovery in Europe and China, and increased pressure in North American industrial markets. No quantitative full-year sales or earnings guidance is provided in the filing.
- Management expects 2023 capital expenditures to exceed 2022 levels, funded primarily through operating cash flow. Construction of the new headquarters and research and development center is expected to continue through at least 2024.
- A restructuring plan is expected to generate total expenses of approximately $154.5 million, of which $47.0 million had been incurred through March 31, 2023. Remaining restructuring liabilities were $29.2 million.
- In April 2023, the company agreed to divest its China architectural business, which has approximately $100 million of annual revenue and 300 employees. Closing is expected in the second half of 2023, and management expects a second-quarter loss but cannot estimate its amount.
- The company also completed the sale of a non-core domestic aerosol business in April 2023 and expects an immaterial second-quarter gain.
- Environmental-related accruals totaled approximately $298.4 million at March 31, 2023. The estimated unaccrued maximum for currently estimable environmental matters was $83.5 million above recorded minimum accruals.
- Lead pigment and lead-based paint litigation, environmental proceedings, including the Gibbsboro, New Jersey site, and insurance coverage litigation remain material uncertainties. Potential losses generally cannot be reasonably estimated, and an adverse outcome could materially affect results, liquidity or financial condition.
- Other risks include inflation, interest rates, raw material and energy costs, supply-chain disruptions, foreign currency, acquisitions and integration, cybersecurity, regulation and economic weakness in international markets.
Important Facts for Investors to Verify
- Whether pricing-driven margin improvement is sustained as demand weakens and cost pressures continue.
- The impact of seasonal second- and third-quarter sales patterns on full-year results and cash generation.
- Debt reduction capacity, short-term borrowing levels and compliance with the 3.75-to-1.00 leverage covenant.
- The timing, cost and financial effect of the restructuring plan, China architectural divestiture and aerosol business divestiture.
- Progress and potential cost changes related to environmental remediation and lead-related litigation.
- Whether expected capital expenditure increases and shareholder returns remain supportable through operating cash flow.