Coty Inc. — Form 10-Q Summary
Reporting period: Third quarter and nine months ended March 31, 2017 (Coty fiscal 2017). Amounts are in U.S. dollars; financial statement figures are unaudited. The quarter is not directly comparable with the prior year because Coty acquired the P&G Beauty Business in October 2016, ghd in November 2016, and a 60% interest in Younique in February 2017.
Business context and key financial metrics
| Metric | Three months ended March 31 | Nine months ended March 31 |
|---|---|---|
| Net revenue | $2,032.1 million, up from $950.7 million | $5,409.0 million, up from $3,273.5 million |
| Gross profit / margin | $1,216.0 million / 59.8%; prior-year margin 61.2% | $3,255.8 million / 60.2%; prior-year margin 60.9% |
| Operating income (loss) | $(192.5) million; prior year $23.0 million | $(158.8) million; prior year $257.1 million |
| Net income (loss) attributable to Coty | $(164.2) million; prior year $(26.8) million | $(117.4) million; prior year $187.9 million |
| Diluted earnings (loss) per share | $(0.22); prior year $(0.08) | $(0.19); prior year $0.53 |
Cash flow, nine months: Operating cash flow was $706.7 million, compared with $445.3 million. Investing used $1,056.1 million, including $324.0 million of capital expenditures and $742.6 million of net business-combination payments. Financing provided $781.1 million. Cash, cash equivalents and restricted cash increased by $419.6 million to $792.0 million; $767.0 million was unrestricted cash at March 31. Operating cash flow less capital expenditures was approximately $382.7 million.
Balance sheet and liquidity: Total debt was $7,184.8 million, versus $4,170.1 million at June 30, 2016; long-term debt, net, was $6,909.3 million. Current assets were $3,746.2 million and current liabilities $3,257.7 million. Coty reported compliance with its debt covenants at quarter-end. Management said cash, operating cash generation and borrowing access were sufficient for near- and long-term needs.
Other notable figures: Selling, general and administrative expense was $1,092.4 million for the quarter and $2,741.5 million year to date. Amortization was $102.6 million and $219.0 million, respectively. Restructuring costs were $155.8 million and $179.0 million; acquisition-related costs were $57.7 million and $275.1 million. Quarterly cash dividend declared was $0.125 per share.
Material changes and performance drivers
- Reported revenue rose more than 100% in the quarter and 65% year to date, primarily because of acquired businesses. Excluding acquisitions and foreign-exchange translation, revenue declined 5% in the quarter and 8% year to date.
- For the quarter, acquired P&G Beauty Business revenue was $975.7 million; it accounted for 49% of total revenue. P&G contributed $2,086.9 million of revenue since acquisition in the nine-month period. Organic weakness was reported across several legacy brands and categories.
- Management cited declining U.S. retail nail, color cosmetics and hair-color categories, weaker mass fragrance in Western Europe and the U.S., reduced shelf space for some brands, and shipment declines at certain customers. Segment revenue excluding acquisitions and currency declined in Luxury and Consumer Beauty year to date, and also in Professional Beauty.
- Gross margin fell approximately 140 basis points in the quarter and 70 basis points year to date, mainly due to inventory fair-value step-ups from acquisitions. Excluding that impact, management said gross margin improved approximately 150 basis points in the quarter and 130 basis points year to date.
- GAAP operating results were burdened by acquisition and integration expenses, restructuring and amortization, as well as higher interest expense. Net interest expense was $60.8 million for the quarter and $159.1 million year to date, up from $25.1 million and $55.7 million, respectively.
- As supplemental, non-GAAP measures, adjusted operating income was $208.3 million for the quarter (10.3% margin), versus $102.6 million (10.8%); year to date it was $682.7 million (12.6%), versus $528.7 million (16.2%). Adjusted net income attributable to Coty was $110.3 million for the quarter and $411.9 million year to date, versus $47.8 million and $439.5 million. These measures exclude specified items and are not substitutes for GAAP results.
Outlook, risks and unusual items
- Management targeted approximately $750 million of P&G acquisition synergies over four years: about 20% cumulatively through fiscal 2017, 50% through fiscal 2018, 80% through fiscal 2019 and the full amount through fiscal 2020. It estimated approximately $1.2 billion of total one-time operating expenses and $500 million of capital expenditures related to the transaction; through March 31, about $550 million and $150 million, respectively, had been incurred.
- The company expected $700 million to $800 million of pre-tax Global Integration Activities restructuring and related costs. Subsequent to quarter-end, on May 9, 2017, the Board approved supply-chain optimization actions estimated to add approximately $300 million of pre-tax costs over two years, about $250 million cash costs.
- Coty said it was exploring alternatives, including divestiture, for non-core brands representing approximately 6% to 8% of revenue. It also cited integration and transition-service risks; remaining exits from P&G transition services were expected in stages during calendar 2017 and could affect quarterly results.
- Subsequent to quarter-end, Coty agreed to acquire the exclusive long-term global Burberry Beauty license. Upfront consideration is £130 million, expected in fiscal 2018, plus approximately £50 million for inventory at closing and ongoing license payments.
- Younique’s 40% redeemable noncontrolling interest was valued at $433.6 million at March 31; put and call rights depend on specified events and fair value. Goodwill and intangible valuations for recent acquisitions remained subject to purchase-accounting finalization.
- Additional risks include high debt and interest costs, execution of integration and synergies, volatile consumer preferences and competition, retailer and channel changes, foreign-exchange exposure, and legal, tax and operational uncertainties. The company reported no material change to previously disclosed risk factors. Management considered existing litigation outcomes unlikely to be material but cautioned that outcomes are unpredictable.
- Disclosure controls were assessed as effective at a reasonable-assurance level. The assessment excluded the newly acquired P&G, ghd and Younique businesses; Coty said its next annual internal-control report would also exclude those subsidiaries to allow time for evaluation and integration.
Important facts for investors to verify
- How much reported growth converts to sustainable underlying growth, given the 5% quarterly and 8% year-to-date declines excluding acquisitions and currency.
- Progress against the $750 million synergy target, the total integration-cost estimates, and the additional $300 million supply-chain restructuring plan, including actual cash outlays and timing.
- Debt reduction capacity, interest-rate exposure, covenant headroom and refinancing requirements; the filing reports $7.2 billion of debt and major maturities beginning in fiscal 2021.
- Performance and integration of the acquired businesses, including P&G transition-service exits, Younique profitability and redeemable-interest valuation, and final purchase-price allocations.
- Whether weak legacy-brand trends, shelf-space losses, discounting and working-capital needs improve, and whether management’s stated liquidity assessment remains supported by cash generation.
- Potential effects of the Burberry license commitment, non-core brand decisions, tax uncertainties, legal proceedings and the control-system integration of recently acquired businesses.