Armstrong World Industries, Inc. — Q3 2015 Form 10-Q Summary
Business context and reporting period
Armstrong World Industries, Inc. is a global producer of flooring products and ceiling systems serving residential, commercial, and institutional construction and renovation markets. As of September 30, 2015, it operated 32 manufacturing plants in nine countries and employed approximately 7,600 people.
This unaudited Form 10-Q covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods. Continuing operations comprise Building Products, Resilient Flooring, and Wood Flooring. The former European resilient flooring business, DLW, is reported as discontinued operations.
Key financial metrics
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Net sales | $658.5 million | $678.9 million | $1,842.6 million | $1,928.0 million |
| Gross profit | $177.9 million | $168.0 million | $465.3 million | $457.1 million |
| Gross margin | 27.0% | 24.7% | 25.3% | 23.7% |
| Operating income | $79.7 million | $85.8 million | $178.6 million | $203.2 million |
| Operating margin | 12.1% | 12.6% | 9.7% | 10.5% |
| Earnings from continuing operations | $30.3 million | $46.7 million | $64.0 million | $91.4 million |
| Net earnings | $31.8 million | $31.6 million | $108.0 million | $67.4 million |
| Diluted EPS from continuing operations | $0.54 | $0.84 | $1.14 | $1.64 |
| Diluted net EPS | $0.57 | $0.57 | $1.92 | $1.21 |
| Operating cash flow | Not separately provided | Not separately provided | $144.0 million | $111.1 million |
| Capital expenditures | Not separately provided | Not separately provided | $96.7 million | $151.1 million |
Cash and cash equivalents were $250.0 million at September 30, 2015, up from $185.3 million at December 31, 2014. Total debt was $1,013.8 million, including $49.0 million of current maturities, compared with $1,042.6 million at year-end 2014. The company had no outstanding balance on its $250 million revolving credit facility or its accounts receivable securitization facility, and was in compliance with its debt covenants.
Material changes versus the prior comparable period
- Third-quarter sales declined 3.0% and nine-month sales declined 4.4%, largely reflecting unfavorable foreign exchange. Excluding currency effects, third-quarter sales increased through higher volumes and favorable price/mix, while nine-month sales decreased because of lower volumes.
- Gross margin improved because of lower input costs, particularly lumber, PVC resins, and plasticizers. Raw material, sourced-product, and energy costs benefited operating income by approximately $19 million in the quarter and $37 million year to date.
- Operating income declined 7.1% in the quarter and 12.1% year to date. Higher SG&A, separation costs, pension expense, and foreign-exchange losses more than offset cost savings and improved Building Products results.
- SG&A increased to $110.4 million from $101.0 million in the quarter and to $319.5 million from $304.3 million year to date, driven primarily by Resilient Flooring promotional spending and higher U.S. pension costs.
- Continuing-operations earnings fell substantially, while total net earnings were supported by a $44.0 million year-to-date gain from disposal of discontinued operations, including a $43.4 million non-cash tax benefit related to DLW.
- Building Products operating income increased to $89.8 million in the quarter and $213.8 million year to date, despite lower reported sales. Resilient Flooring operating income declined to $14.3 million and $43.4 million, respectively. Wood Flooring operating income improved to $10.4 million and $11.7 million, aided by lower lumber costs, despite lower sales.
Outlook, commentary, risks, and unusual items
Management expected the separation of the flooring businesses into Armstrong Flooring, Inc. and the remaining ceilings business to become effective near the end of the first quarter of 2016. Separation costs were $7.4 million in the quarter and $16.8 million in the first nine months. The filing does not provide formal earnings or revenue guidance.
Management reported improving residential activity and some commercial-market growth, but cited regional softness in U.S. commercial offices, Canadian retail, EMEA commercial markets, healthcare demand, and the Chinese office market. Competitive pricing pressure remained significant in the flooring businesses. Additional Building Products price increases were announced for the Pacific Rim beginning in the fourth quarter.
- DLW insolvency proceedings continued in Germany. The remaining contingent liability was $12.1 million at September 30, 2015, compared with $12.9 million at deconsolidation.
- Potential additional antidumping liability of approximately $4 million related to Chinese multilayered wood flooring imports was reflected in second-quarter 2015 results; litigation and administrative reviews remained pending.
- Environmental matters at St. Helens, Oregon; Macon, Georgia; and Elizabeth City, North Carolina could result in material costs that cannot yet be reasonably estimated. Recorded probable environmental liabilities were $3.5 million.
- Unhedged intercompany loan exposure included approximately $168.6 million denominated in Chinese Renminbi and $55.5 million in Russian Rubles, contributing to higher other non-operating expense.
- The company remained exposed to construction activity, global economic conditions, foreign exchange, raw-material and energy costs, competition, customer concentration, debt covenants, leverage, liquidity, labor negotiations, litigation, environmental obligations, and execution risk associated with the planned separation.
- A collective bargaining agreement covering approximately 300 employees had been extended to November 7, 2015, with resolution timing uncertain.
Management stated that cash on hand, operating cash flow, available credit lines, the securitization facility, and the revolving facility were expected to meet foreseeable liquidity needs, including capital expenditures and scheduled debt payments. Spending on the Russian ceiling plant and Lancaster, Pennsylvania luxury vinyl tile expansion was projected at approximately $155 million, of which approximately $148 million had been incurred through September 30, 2015.
Important facts for investors to verify
- Timing, financing structure, stranded costs, and final liabilities associated with the planned Armstrong Flooring separation.
- Sustainability of margin gains from lower raw-material costs and the effect of competitive pricing and promotional spending.
- Progress and potential cash impact of DLW insolvency proceedings and related contingent liabilities.
- Final antidumping and countervailing-duty rates and potential additional exposure on Chinese wood flooring imports.
- Environmental investigation and remediation costs, especially at the Macon and St. Helens sites.
- Debt maturities, covenant compliance, variable-rate exposure, and the effect of refinancing or settling interest-rate swaps in connection with the separation.
- Underlying operating performance excluding the $43.4 million non-cash DLW tax benefit and other discontinued-operation items.