Lincoln Electric Holdings, Inc. — Q3 2013 Form 10-Q
Business context and reporting period
For the quarter and nine months ended September 30, 2013. Lincoln Electric designs and manufactures welding, cutting, brazing and soldering products, operating through five segments: North America Welding, Europe Welding, Asia Pacific Welding, South America Welding and The Harris Products Group. Financial amounts below are in millions of U.S. dollars unless stated otherwise.
Financial performance and liquidity
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Net sales | $691.9 | $697.6 | $2,137.9 | $2,168.7 |
| Gross profit / margin | $232.7 / 33.6% | $213.4 / 30.6% | $699.6 / 32.7% | $653.6 / 30.1% |
| Operating income | $95.2 | $88.7 | $288.1 | $276.4 |
| Net income | $66.0 | $64.8 | $205.5 | $195.3 |
| Diluted EPS | $0.80 | $0.77 | $2.47 | $2.32 |
- For the nine months, operating cash flow was $242.1 million, investing cash outflow $68.0 million, and financing cash outflow $128.7 million. Cash rose $43.8 million to $330.3 million.
- At September 30, total debt was $16.1 million and debt to total invested capital was 1.1%. The company reported no borrowings under its $300 million credit facility and compliance with its covenants.
- Current assets were $1,182.6 million and current liabilities $481.2 million. The company’s defined net operating working capital-to-sales measure was 20.5%, versus 18.8% at year-end 2012.
- Cash dividends declared were $0.20 per share in Q3; $0.60 per share for the nine months. Treasury-share purchases used $113.6 million during the nine months.
Material changes versus comparable periods
- Q3 sales declined 0.8% year over year; nine-month sales declined 1.4%. Lower volume and unfavorable foreign exchange outweighed acquisition contributions. Management attributed weaker volumes to soft demand in domestic and international markets.
- Despite lower sales, gross margin improved in both periods, primarily from geographic mix, stable pricing and lower input costs. Operating income and net income increased; nine-month diluted EPS rose from $2.32 to $2.47.
- Q3 SG&A rose 7.9% to $131.2 million; nine-month SG&A rose 8.1% to $403.3 million, driven by acquisition costs and higher general and administrative spending, including employee compensation.
- Segment performance diverged: North America improved; Europe and Asia Pacific weakened, with Asia Pacific adjusted EBIT negative in Q3. South America improved, supported by Brazil and inflation-related pricing in Venezuela. Harris sales and adjusted EBIT fell, partly reflecting lower silver and copper prices and associated lower margins.
- Acquisitions contributed to sales growth, including Tenn Rand and Kaliburn (acquired in late 2012) and Wayne Trail and Weartech (acquired in 2012). The company reported approximately $143.5 million in aggregate acquisition consideration for these businesses.
Outlook, commentary, risks and unusual items
- Management said it expects to meet ongoing cash needs through operating cash flow, existing cash and, if needed, credit facilities. It anticipated 2013 capital expenditures of approximately $75 million; no specific earnings or revenue guidance is provided in the filing.
- Q3 rationalization and asset impairment charges were $6.3 million, including $4.7 million for long-lived asset impairment in Asia Pacific. Nine-month charges were $8.2 million, including restructuring and impairment; Europe restructuring may incur a further $0.6–$1.5 million.
- Venezuela’s February 2013 currency devaluation generated an $8.1 million transaction loss in SG&A and $4.1 million of higher cost of goods sold from inventory liquidation. Management notes potential further losses from exchange-rate changes and government price or currency controls.
- The Canadian tax reassessment dispute concerns 2004–2011 intercompany dividends and could increase taxes by $60.7 million plus approximately $16.5 million interest, net of tax. The company deposited $86.8 million, recorded as a non-current asset, and has not accrued for the uncertain tax position; an unfavorable resolution could materially affect results in the period decided.
- Other risks include weak demand, foreign-exchange and commodity-price movements, litigation, restructuring costs and acquisition risks. The company was a co-defendant in asbestos-related cases involving approximately 15,056 plaintiffs; it stated that it believes the claims are defensible and does not expect the proceedings, individually or in aggregate, to materially affect its financial statements.
- Management reported disclosure controls were effective at quarter-end and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether soft demand, especially in Europe and Asia Pacific, continues and whether gross-margin gains persist as input costs, pricing and product mix change.
- Actual and potential costs of the Canadian tax dispute, timing of a court decision, and recoverability of the $86.8 million deposit.
- Further currency, inventory and operating impacts in Venezuela, including any changes to exchange rates or government controls.
- Cash conversion and working-capital trends, pension funding, and execution of the announced restructuring and capital spending plans.
- How much reported and adjusted earnings depend on non-GAAP exclusions: nine-month adjusted diluted EPS was $2.69 versus GAAP diluted EPS of $2.47, with adjustments including Venezuelan devaluation and rationalization and impairment charges.