Armstrong World Industries, Inc. — 2018 Q3 Form 10-Q Summary
Business context and reporting period
AWI is a global producer of ceiling systems serving commercial, institutional, residential, and renovation markets, primarily in the Americas. This unaudited Form 10-Q covers the three and nine months ended September 30, 2018, compared with the corresponding 2017 periods.
Continuing operations comprise Mineral Fiber, Architectural Specialties, and Unallocated Corporate. EMEA and Pacific Rim operations were classified as discontinued operations in connection with the pending sale to Knauf. AWI acquired Plasterform in May 2018 and Steel Ceilings in August 2018, both within Architectural Specialties.
Key financial metrics
| ($ millions, except per-share data) | Q3 2018 | Q3 2017 | 9M 2018 | 9M 2017 |
|---|---|---|---|---|
| Net sales | $260.5 | $233.9 | $736.4 | $679.3 |
| Gross profit | $97.9 | $90.8 | $251.4 | $254.3 |
| Gross margin | 37.6% | 38.8% | 34.1% | 37.4% |
| Operating income | $81.3 | $73.9 | $196.9 | $200.4 |
| Operating margin | 31.2% | 31.6% | 26.7% | 29.5% |
| Earnings from continuing operations | $64.2 | $37.3 | $153.0 | $116.5 |
| Net earnings | $76.2 | $49.4 | $151.3 | $121.1 |
| Diluted EPS, continuing operations | $1.23 | $0.69 | $2.89 | $2.16 |
| Diluted total EPS | $1.46 | $0.92 | $2.86 | $2.24 |
Q3 sales increased 11.4% and nine-month sales increased 8.4%. Q3 operating income rose 10.0%, while nine-month operating income declined 1.7%. The filing does not provide a company-defined EBITDA figure in the supplied text.
- Segment performance: Mineral Fiber sales increased 6.9% in Q3 and 5.4% for nine months, but operating income declined 1.8% and 9.2%, respectively. Architectural Specialties sales increased 36.7% in Q3 and 25.7% for nine months; operating income increased 46.8% and 36.9%.
- Drivers: Favorable average unit value contributed approximately $16 million to Q3 consolidated sales and approximately $32–$33 million to nine-month sales. Q3 volume increased approximately $11 million, while nine-month volume increased approximately $25 million.
- Joint venture: Equity earnings from WAVE increased to $18.7 million in Q3 from $13.9 million and to $59.2 million for nine months from $51.9 million.
- Taxes: Effective tax rates were 20.3% in Q3 and 21.7% for nine months, compared with 29.4% and 34.8% in 2017, primarily reflecting the 2017 Tax Act and tax benefits.
- Cash flow: Nine-month operating cash flow was $159.0 million versus $104.9 million. Investing cash flow was $285.9 million versus an $41.3 million use in 2017, primarily due to $330.0 million received from Knauf. Financing cash flow was a $262.5 million use, including $256.1 million of treasury-stock purchases and $24.4 million of debt repayment.
Balance sheet, debt, and liquidity
| ($ millions) | September 30, 2018 | December 31, 2017 |
|---|---|---|
| Cash and cash equivalents, continuing operations | $327.0 | $159.6 |
| Total assets | $2,002.5 | $1,873.5 |
| Current liabilities | $533.1 | $269.9 |
| Total debt, including current portion | $827.4 | $850.2 |
| Shareholders’ equity | $330.9 | $419.3 |
Debt consisted primarily of $555.0 million outstanding under Term Loan A, $243.8 million under Term Loan B, and a $35.0 million variable-rate industrial development bond. No revolving credit borrowings were outstanding. AWI reported compliance with all debt covenants. The revolving credit facility provided $150.0 million of availability, and total reported letter-of-credit availability was $158.4 million, although the accounts receivable securitization facility showed $3.2 million of letters of credit above its stated limit.
AWI stated that cash, operating cash flow, and available credit facilities were sufficient for foreseeable liquidity needs. The $40.0 million accounts receivable securitization facility matures in March 2019. Cash held outside the U.S. totaled $33.4 million, compared with $293.6 million in the U.S.
Material changes, outlook, risks, and unusual items
- Knauf divestiture: AWI received $250.0 million on August 1 and $80.0 million on September 15 under the amended agreement. It remitted $70.0 million to WAVE, received a $35.0 million WAVE dividend, and recorded a $22.4 million payable to WAVE. Management expected closing before December 31, 2018, subject to regulatory clearance and other conditions.
- Discontinued operations: Q3 discontinued operations contributed $12.0 million, including a $7.0 million net gain from disposal. For nine months, discontinued operations produced a $1.7 million net loss, including $21.0 million of estimated losses on the Knauf sale. The Q3 result also included a $4.6 million non-cash tax benefit from expiration of the statute of limitations.
- Plant closure: Closure of the St. Helens, Oregon facility generated approximately $5.0 million of accelerated depreciation and closure costs in Q3 and $21.0 million for the first nine months, pressuring gross margin and Mineral Fiber profit.
- Share repurchases: AWI repurchased 3.6 million shares for $226.0 million during the first nine months. The total repurchase authorization was increased to $700.0 million, and the August ASR involved a $150.0 million prepayment.
- Costs and pricing: Raw materials, sourced products, and energy reduced operating income by approximately $2.0 million in Q3 and $5.0 million for nine months. AWI implemented price increases during Q3 and may take additional pricing actions.
- Hedging: Beginning in Q3, AWI stated it would no longer enter into new natural-gas or foreign-currency derivatives because the related exposures no longer justified additional hedging. Interest-rate swaps continued to hedge portions of variable-rate debt.
- Environmental and litigation matters: Environmental liabilities were $13.3 million, excluding potential recoveries. AWI had $7.0 million of insurance-recovery receivables. Environmental remediation costs may exceed recorded liabilities and recoveries. A competitor’s antitrust litigation remained ongoing; AWI reported $2.7 million of related defense costs in Q3.
- Forward-looking information: The filing discusses expectations for markets, revenue, earnings, EBITDA, dividends, and the Knauf transaction, but does not provide specific quantitative earnings or revenue guidance in the supplied text. Principal risks include construction and economic conditions, raw-material and energy costs, leverage and covenants, the Knauf transaction, WAVE, environmental liabilities, litigation, labor, cybersecurity, taxes, and defined-benefit obligations.
Investor verification checklist
- Confirm the ultimate closing date, purchase-price adjustments, regulatory remedies, and final proceeds from the Knauf transaction.
- Reconcile cash designated as continuing versus discontinued operations and assess cash repatriation restrictions.
- Review debt maturities, variable-rate exposure, covenant headroom, and the March 2019 securitization-facility maturity.
- Assess whether Mineral Fiber margin pressure from St. Helens closure, raw materials, freight, and legal costs is temporary or structural.
- Evaluate the sustainability of WAVE earnings and dividends, including the $22.4 million payable and subsequent $25.0 million dividend disclosed after quarter-end.
- Monitor environmental remediation estimates, insurance recoveries, the Roxul antitrust case, and other litigation contingencies.
- Verify the final share count and economics of the ASR, which terminated after quarter-end with approximately 389,825 shares returned.