Avery Dennison Corp. - Q3 2003 10-Q Summary
Business Context and Reporting Period
This Form 10-Q covers the fiscal third quarter ended September 27, 2003, and the nine-month period year-to-date. Avery Dennison Corporation operates in two primary segments: Pressure-sensitive Adhesives and Materials, and Consumer and Converted Products. The company completed the sale of its European package label converting business in October 2003, which is reported as discontinued operations.
Key Financial Metrics
| Metric (in millions) | Q3 2003 | Q3 2002 | 9M 2003 | 9M 2002 |
|---|---|---|---|---|
| Net Sales | $1,204.1 | $1,101.7 | $3,531.5 | $3,063.9 |
| Gross Profit | $355.5 | $348.6 | $1,085.3 | $995.3 |
| Gross Margin | 29.5% | 31.6% | 30.7% | 32.5% |
| Net Income | $66.5 | $63.1 | $208.6 | $201.7 |
| Diluted EPS | $0.67 | $0.64 | $2.08 | $2.03 |
| Operating Cash Flow (9M) | $266.5 (vs $314.1 prior year) | |||
| Total Debt | $1,216.9 (Short-term: $325.6; Long-term: $891.3) | |||
| Cash & Equivalents | $31.6 |
Material Changes vs. Prior Period
- Sales Growth: Net sales increased 9.3% in Q3 and 15.3% year-to-date. Growth was driven by acquisitions (Jackstädt, RVL, L&E) and favorable foreign currency exchange rates, which contributed approximately 52% of Q3 incremental sales.
- Margin Compression: Gross profit margins declined due to a competitive pricing environment, unfavorable product mix shifts, and higher raw material costs (specifically due to the British Pound weakness against the Euro). Start-up costs for new European equipment also impacted margins.
- Interest Expense: Interest expense rose to $13.9 million in Q3 (from $11.9 million) due to higher debt levels from acquisitions and the refinancing of $400 million in variable borrowings into fixed-rate Senior Notes in January 2003.
- One-Time Items: The prior year (Q3 2002) included a $15.2 million pretax charge for asset impairments and lease cancellations related to the Jackstädt integration, which was not repeated in 2003.
Guidance, Outlook, and Risks
- Restructuring: Management anticipates a restructuring charge in Q4 2003 related to headcount reductions of 500-600 positions, expected to yield $30-$35 million in annualized savings.
- Discontinued Operations: The company expects to recognize a gain of approximately $27 million in Q4 2003 from the sale of its European package label business.
- Legal Contingencies: The company is under a criminal investigation by the U.S. Department of Justice regarding competitive practices in the label stock industry. It is also a defendant in multiple class-action lawsuits. Management states the effect may be adverse and material but is unable to predict the outcome.
- Market Risks: The company faces risks from foreign currency fluctuations (approx. 50% of sales are international), raw material costs, and pension expense increases due to lower interest rate assumptions.
Investor Verification Checklist
- DOJ Investigation Status: Verify the current status of the Department of Justice criminal investigation and the potential financial impact of the associated class-action lawsuits.
- Q4 Restructuring Charge: Confirm the timing and magnitude of the anticipated Q4 restructuring charge related to the 500-600 position reduction.
- Discontinued Operations Gain: Monitor the finalization of the $27 million gain from the European label business sale in Q4.
- Working Capital Trends: Review the decline in operating cash flow ($266.5M vs $314.1M) and the negative GAAP working capital position (-1.4% of annualized sales) to assess liquidity management.
- Acquisition Integration: Assess the progress of the Jackstädt integration and the realization of cost savings from the RVL and L&E acquisitions.