Darling International Inc. — Form 10-Q Summary
Reporting period: The supplied filing is for the 13 and 26 weeks ended July 3, 2010, compared with July 4, 2009. This conflicts with the request metadata identifying “2009 Q2.” The filing is unaudited and should be read with the fiscal 2009 Form 10-K.
Business Context
Darling collects and processes animal by-products and used cooking oil and provides grease-trap services. Its two segments are Rendering and Restaurant Services. Products include meat and bone meal, bleachable fancy tallow, yellow grease and hides. Commodity prices, raw-material volumes, product quality and energy costs materially affect results.
Financial Performance and Liquidity
| Metric | Q2 2010 | Q2 2009 | Six months 2010 | Six months 2009 |
|---|---|---|---|---|
| Net sales | $166.2 million | $155.3 million | $329.0 million | $288.3 million |
| Operating income | $18.9 million | $20.3 million | $38.5 million | $29.0 million |
| Net income | $11.4 million | $11.7 million | $22.8 million | $16.5 million |
| Diluted EPS | $0.14 | $0.14 | $0.28 | $0.20 |
| Operating margin | 11.4% | 13.1% | 11.7% | 10.1% |
| Net margin | 6.8% | 7.5% | 6.9% | 5.7% |
| Net cash from operations | Not provided quarterly | Not provided quarterly | $26.6 million | $32.3 million |
Six-month sales increased 14.1%, while operating income increased 32.6% and net income increased 38.4%. Second-quarter sales rose 7.0%, but operating income declined 6.7% and net income declined 2.8%. The second-quarter results indicate pressure on margins despite higher revenue.
- Six-month Rendering sales increased $23.9 million; Restaurant Services sales increased $16.8 million.
- Q2 segment profit was $20.7 million for Rendering, down from $24.9 million, and $7.9 million for Restaurant Services, up from $4.6 million.
- Cash used in investing activities was $25.5 million, including $9.4 million of capital expenditures and $15.3 million for the Nebraska By-Products acquisition.
- Cash used in financing activities was $2.8 million, principally scheduled debt payments.
- Cash and cash equivalents were $66.5 million at July 3, 2010, compared with $68.2 million at January 2, 2010.
- Working capital was $84.6 million, with a 2.22-to-1 working-capital ratio.
- Total debt was approximately $30.0 million, consisting of the term loan; no revolving borrowings were outstanding. Revolver availability was $108.9 million after letters of credit.
Material Changes Versus Prior Comparable Period
- Revenue growth was driven primarily by higher BFT and YG prices, increased raw-material volumes and acquisitions. Six-month BFT and YG average prices increased 36.6% and 29.2%, respectively, while MBM prices declined 15.2%.
- In Q2, higher BFT and YG prices and volume were partly offset by lower MBM prices, quality downgrades, higher raw-material costs under formula pricing, payroll costs and energy costs.
- Q2 cost of sales increased $10.5 million to $123.9 million; SG&A increased 5.2% to $16.2 million; depreciation and amortization increased 16.1% to $7.2 million.
- Six-month operating cash flow declined $5.7 million despite higher net income, primarily because of inventory and prepaid-expense increases, income-tax-related changes and accounts-payable and accrued-expense movements.
- On May 28, 2010, the Company acquired Nebraska By-Products rendering assets for approximately $15.3 million, including $9.6 million of property, plant and equipment, $2.9 million of intangible assets and $2.7 million of goodwill.
- Contingency reserves for insurance, environmental and litigation matters increased to approximately $17.1 million from $15.6 million at January 2, 2010.
Outlook, Risks and Unusual Items
- Management stated that operating cash flow, unrestricted cash and revolver availability should fund working capital, maintenance and compliance capital expenditures, scheduled debt and interest payments, taxes and other expected needs for the next twelve months.
- Management expects approximately $1.2 million of pension contributions and approximately $6.1 million of self-insurance obligations over the next twelve months. Multi-employer pension liabilities could become material, although the current liability cannot be fully determined.
- The proposed renewable-diesel joint venture with Valero remains contingent on DOE financing, project economics, engineering and Board approval. Darling expected to spend up to approximately $3.2 million during the remainder of fiscal 2010, but completion was not assured.
- Commodity prices for MBM, BFT and YG are volatile. Lower finished-product prices, reduced raw-material volumes, weaker food-service activity, higher natural-gas or diesel costs and adverse economic conditions could reduce earnings and liquidity.
- Demand and pricing are affected by renewable-fuel policies, including RFS2 and related tax credits. Changes to these programs could adversely affect results.
- Regulatory and food-safety risks include the Enhanced BSE Rule, potential disease outbreaks, export restrictions, product recalls and evolving FDA requirements.
- The Company is involved in the Lower Passaic River litigation and related EPA proceedings as successor to Standard Tallow Company. Ultimate liability cannot be determined; management did not expect a material effect based on information available at filing.
- The Company had approximately $9.8 million of commodity purchase commitments and approximately $10.6 million of operating lease obligations due over the next twelve months, excluding these amounts from the balance sheet until applicable recognition criteria are met.
- Interest-rate, natural-gas, diesel-fuel and inventory exposures are managed with derivatives. Derivative liabilities were $3.0 million and derivative assets were $0.5 million at July 3, 2010.
Investor Verification Checklist
- Confirm the intended period: the filing provided is Q2 2010, not Q2 2009.
- Verify whether improved BFT and YG pricing and acquisition-driven volumes are sustainable after adjusting for commodity-price volatility and raw-material formula costs.
- Review the term-loan amortization schedule, including approximately $22.5 million due at maturity on April 7, 2012, and compliance with financial covenants.
- Assess the effect of product-quality downgrades, warm weather and changing raw-material mix on yields and margins.
- Monitor cash conversion, inventory growth, acquisition spending and the decline in operating cash flow.
- Review potential exposure from the Lower Passaic River matter, environmental and insurance claims, multi-employer pensions and the renewable-diesel joint venture.
- Evaluate the effect of RFS2, alternative-fuel credits, BSE-related rules, export restrictions and other regulatory changes on demand and pricing.