AptarGroup, Inc. — Q3 2017 Form 10-Q
Reporting period: Quarter ended September 30, 2017; financial statements are unaudited. Dollar amounts below are in millions unless otherwise noted.
Business context and reporting period
AptarGroup makes dispensing systems and sealing solutions for beauty and home care, pharmaceutical and consumer health care, and food and beverage markets. It reports three segments: Beauty + Home, Pharma, and Food + Beverage.
Financial performance and liquidity
- Q3 revenue: Net sales were $624.3 million, up 6% year over year; core sales grew 3%, with currency translation adding 3%. Operating income was $80.4 million, down from $82.3 million; operating margin fell to 12.9% from 14.0%. Net income attributable to AptarGroup was $53.5 million versus $53.1 million. Diluted EPS was $0.83 versus $0.82.
- First nine months: Net sales were $1,843.4 million, up 3%; core sales increased 2%, with Mega Airless contributing 1%. Operating income was $242.8 million versus $245.2 million, and operating margin was 13.2% versus 13.6%. Net income attributable to AptarGroup rose to $170.5 million from $156.0 million; diluted EPS was $2.64 versus $2.40.
- Margins and taxes: Q3 cost of sales rose to 65.4% of sales from 64.6%; adjusted EBITDA margin was 18.9% versus 20.8%. The effective tax rate fell to 23.0% from 29.2% in Q3 and to 22.0% from 28.8% for nine months, benefiting from a foreign tax settlement and, year to date, share-based compensation accounting and repatriation-related tax effects.
- Segment trends: Q3 Beauty + Home sales increased 6%, but segment income fell 14% to $21.8 million. Pharma sales rose 4% and segment income rose 1% to $55.4 million. Food + Beverage sales increased 10% and segment income rose 16% to $11.7 million. For nine months, Pharma sales and income increased 6% and 4%, respectively; Beauty + Home income declined 13%, and Food + Beverage income declined 5%.
- Cash flow: Nine-month operating cash flow was $265.2 million, up from revised $202.4 million. Investing used $189.2 million, including $120.8 million of capital expenditures and a $5.0 million minority investment. Financing provided $447.3 million. Cash ended at $1,018.7 million, compared with $466.3 million at year-end 2016.
- Debt and liquidity: Total interest-bearing debt was $1,517.8 million and net debt $499.1 million at September 30; net debt to net capital was 27.4%, versus 29.0% at year-end 2016. Current assets were $1,941.4 million and current liabilities $705.0 million. The company reported leverage and interest coverage covenant ratios of 1.17x and 13.38x, respectively, against limits of 3.50x maximum and 3.00x minimum.
- Capital returns: The company paid $60.0 million in dividends and repurchased $113.3 million of shares during the first nine months. It had $190.2 million remaining under its $350 million repurchase authorization at September 30. The board declared a $0.32-per-share quarterly dividend payable November 22, 2017.
Material changes and unusual items
- Q3 revenue growth included a 3% favorable currency effect; lower tooling sales weighed on core growth, particularly in Pharma, where a large consumer-health tooling project had benefited Q3 2016.
- Management cited European custom decorative packaging inefficiencies, higher material costs, and increased project-related professional fees and salaries as pressures on operating performance. Beauty + Home was also affected by weaker European prestige fragrance demand and unfavorable Argentina currency impacts.
- During 2017, Aptar repatriated approximately $1.0 billion from Europe to the U.S. The third-quarter €700 million repatriation was funded in part by new UK borrowing arrangements. Total debt rose substantially from year-end, while cash also increased.
- Q3 miscellaneous expense included significant foreign-exchange effects. For the nine months, the company recorded $64.7 million of losses on non-designated foreign-exchange contracts, largely associated with the €700 million repatriation; the forward-contract loss was substantially offset by revaluation gains on the related intercompany receivable.
- The 2017 tax rate benefited from an $8.8 million reduction in tax expense associated with employee share-based payments for the nine-month period. Aptar also recognized a $5.0 million tax benefit related to repatriation activities.
- Aptar revised the 2016 comparative cash-flow presentation for an RSU-vesting classification error: nine-month operating cash flow was reduced by $1.9 million, with a corresponding increase in financing cash flow. The company said the correction was not material to prior statements but was significant enough to revise.
- The 2016 Annecy, France facility fire continued to affect results. Q3 2017 fire-related costs were $4.5 million, and nine-month costs were $14.4 million; $12.0 million of insurance proceeds had been received during the nine months. The company reported a $1.0 million insurance prepayment at quarter end and did not recognize uncertain potential insurance gains.
Outlook, risks, and contingencies
- Q4 guidance: Management expected continued revenue growth in all three segments, but raw-material costs and weaker European custom decorative packaging results to pressure profitability. Q4 EPS guidance was $0.68–$0.73, compared with $0.77 in Q4 2016. The guidance assumed a 26.5%–28.5% effective tax rate; prior-year EPS included about $0.08 of certain tax benefits.
- Investment plans: Estimated 2017 capital expenditures were $155–$160 million. Management said repatriated funds should meet U.S. funding needs for several years and expected European cash flows to service the new European debt.
- Environmental matter: Soil and groundwater contamination was found at the Jundiaí, Brazil facility. Initial investigation and potential remediation costs were estimated at $1.5–$3.0 million; $1.5 million was accrued. The investigation was preliminary, and fines or penalties were possible.
- Other risks: The filing identifies foreign-exchange movements, material and component costs and availability, customer demand and concentration, operational execution, facility expansions, litigation and intellectual-property claims, environmental matters, cybersecurity, regulation, and economic and political conditions as risks. Aptar said ordinary-course lawsuits and claims were not expected to have a material adverse effect, while acknowledging outcomes are uncertain.
- Accounting outlook: Aptar expected the upcoming revenue-recognition standard to change accounting for some tooling contracts, potentially requiring revenue recognition over the period of tool construction. Adoption was anticipated using the modified retrospective method.
Most important facts for investors to verify
- Whether European decorative-packaging inefficiencies and higher input costs improve, and how they affect margins and Q4 guidance.
- Whether underlying sales growth persists after separating currency, tooling, acquisition, and product-mix effects.
- How the repatriation-related borrowing, cash deployment, debt maturities, and foreign-exchange hedges affect interest expense and net leverage.
- The eventual scope and cost of Brazil remediation, including any regulatory penalties, and the timing and amount of insurance recoveries for the Annecy fire.
- The final effect of revenue-recognition changes on tooling revenue timing, reported results, and internal controls.
- The revised 2016 cash-flow comparison and the specific non-GAAP adjustments used in reported adjusted EBITDA measures.