W.W. Grainger, Inc. — Q3 2011 Form 10-Q
Reporting period: Three and nine months ended September 30, 2011; unaudited. Grainger distributes maintenance, repair and operating supplies. Operations are primarily in the U.S. and Canada, with international businesses expanding.
Financial performance
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Net sales | $2.115 billion | $1.899 billion | $6.001 billion | $5.355 billion |
| Gross profit | $913.0 million | $789.7 million | $2.605 billion | $2.243 billion |
| Operating earnings | $303.0 million | $251.3 million | $830.9 million | $649.1 million |
| Net earnings attributable to Grainger | $182.1 million | $150.4 million | $509.9 million | $378.7 million |
| Diluted EPS | $2.51 | $2.06 | $7.03 | $5.10 |
Q3 sales rose 11.3%, operating earnings 20.6%, and attributable net earnings 21.1%. Gross margin was 43.2% versus 41.6%; operating margin was 14.3% versus 13.2%. For the first nine months, sales increased 12.1%, gross margin was 43.4% versus 41.9%, and operating margin was 13.8% versus 12.1%.
Management attributed growth to higher volume and pricing, with contributions from acquisitions and foreign exchange; prior-year Gulf oil-spill cleanup sales partly offset growth. Margin improvement reflected price increases exceeding product-cost increases and a lower mix of lower-margin sourced products. Higher payroll, benefits and growth-investment expenses partly offset operating leverage. Nine-month 2011 EPS included a $0.12-per-share benefit primarily from settlement of tax examinations; 2010 included a net $0.09-per-share benefit from identified unusual items.
Cash flow, liquidity and debt
- Nine-month operating cash flow was $560.0 million, up from $492.0 million. Investing cash outflow was $472.1 million, including $348.3 million for acquisitions and $123.8 million of capital expenditures. Financing cash outflow was $32.2 million; treasury-stock purchases were $101.4 million versus $504.4 million in 2010.
- Cash was $360.7 million at September 30, 2011. Working capital was $1.203 billion, down from $1.369 billion at year-end 2010; the current ratio fell to 1.9 from 2.6.
- Total debt was approximately $607.4 million, compared with approximately $494.3 million at December 31, 2010. Debt was 18.8% of total capitalization versus 17.8%. The company reclassified $150 million of commercial paper to short-term debt and also reported increased current maturities of a bank term loan.
Material developments, outlook and risks
- Grainger acquired Fabory Group, a European fastener and MRO distributor operating in 14 countries, on August 31 for $346 million less cash acquired. Fabory reported approximately $300 million of 2010 sales. The purchase-price allocation, including approximately $263 million of preliminarily recorded goodwill and intangibles, remained subject to change.
- On October 18, Grainger raised 2011 sales-growth guidance to 11%–12% from 9%–10%, primarily reflecting Fabory, and EPS guidance to $8.80–$9.00 from $8.40–$8.70, citing strong organic operating performance. Management expected additional Q4 expenses for growth initiatives, a national advertising campaign and a new northern California distribution center.
- Management cited continued market-share gains and investment in product expansion, sales force, eCommerce, inventory-management services and international operations. U.S. industrial production improved, and heavy and light manufacturing customer sales outperformed cited industry indicators.
- DOJ discussions concerning GSA contract disclosures and pricing, and USPS/DOJ investigations into pricing under USPS contracts, were ongoing. Possible outcomes include settlements or litigation, including potential False Claims Act damages and penalties; the company said losses could not be estimated, and an unfavorable outcome could require significant payments. Grainger stated it believes it complied in all material respects.
- Disclosed risks include economic and market conditions, competition and pricing, product costs and supply disruptions, litigation and regulatory matters, technology or data-security disruptions, currency and commodity volatility, labor, transportation, facilities and catastrophic events.
Important facts for investors to verify
- Whether full-year sales and EPS guidance was achieved, and the respective contributions from organic growth, Fabory, pricing, volume and currency.
- Fabory’s final purchase-price allocation, integration progress and effect on earnings and cash generation.
- Near-term debt maturities and liquidity, including the reclassified commercial paper and bank term loan.
- Developments and potential financial exposure from the GSA and USPS investigations, for which the filing provides no clear loss estimate.
- The sustainability of gross-margin gains alongside higher operating expenses and planned growth investments.