Business Context and Reporting Period
International Flavors & Fragrances Inc. (IFF) filed an unaudited Form 10-Q for the quarter and six months ended June 30, 2023. IFF develops and manufactures food, beverage, health and bioscience, scent, pharmaceutical and specialty ingredient solutions through four segments: Nourish, Health & Biosciences, Scent, and Pharma Solutions.
Financial Performance and Liquidity
| Metric | Q2 2023 | Q2 2022 | Six Months 2023 | Six Months 2022 |
|---|---|---|---|---|
| Net sales | $2.929 billion | $3.307 billion | $5.956 billion | $6.533 billion |
| Gross profit | $933 million | $1.136 billion | $1.897 billion | $2.281 billion |
| Gross margin | 31.9% | 34.4% | 31.9% | 34.9% |
| Operating profit | $145 million | $213 million | $276 million | $554 million |
| Net income attributable to IFF | $27 million | $107 million | $18 million | $351 million |
| Diluted EPS | $0.11 | $0.43 | $0.07 | $1.38 |
| Segment Adjusted Operating EBITDA | $510 million | $700 million | $1.013 billion | $1.402 billion |
Q2 sales declined 11% reported and 9% on a currency-neutral basis. Six-month sales declined 9% reported and 6% currency-neutral. Consolidated Segment Adjusted Operating EBITDA margin decreased to 17.4% in Q2 from 21.2% and to 17.0% for the six months from 21.5%.
Operating cash flow was $375 million for the six months ended June 30, 2023, compared with cash used of $51 million in the prior-year period. Investing cash flow was $552 million, primarily reflecting $821 million of net divestiture proceeds, while financing cash flow was negative $866 million, including $413 million of dividends and $300 million of long-term debt repayment. Capital expenditures were $290 million.
Cash and cash equivalents were $638 million at June 30, 2023, plus $11 million of restricted cash. Total debt was approximately $10.570 billion, including $1.362 billion classified as short-term debt, and long-term debt was $9.208 billion. The company reported $1.548 billion of available borrowing capacity under its revolving credit facility and no outstanding revolver borrowings at quarter-end.
Material Changes Versus the Prior Comparable Period
- Sales were pressured by lower volumes across businesses, unfavorable currency effects and divestitures, partly offset by pricing actions. Portfolio changes reduced Q2 sales by approximately $165 million and six-month sales by approximately $277 million.
- Nourish Q2 sales declined 14% reported and Segment Adjusted Operating EBITDA declined 50%, primarily due to lower volumes, manufacturing absorption issues and an approximately $44 million Locust Bean Kernel inventory write-down.
- Health & Biosciences Q2 sales declined 22%, including the effect of the Microbial Control divestiture. Scent sales increased 2% and Pharma Solutions sales increased 3%.
- Gross margin declined 250 basis points in Q2 and 300 basis points for the six months, driven by lower volumes, divestiture mix, inventory reduction-related manufacturing absorption and inventory write-downs.
- Interest expense increased 51% in Q2 and 52% for the six months because of higher interest rates on commercial paper, term loans and receivables factoring.
- Restructuring charges increased to $59 million for the six months from $9 million. The 2023 restructuring program involved approximately 630 actual and planned headcount reductions as of June 30.
- No long-lived-asset impairment was recorded in 2023, compared with a $120 million Russia-related impairment in the second quarter and first six months of 2022.
- IFF completed the sale of a portion of Savory Solutions on May 31, 2023, receiving approximately $821 million of net cash proceeds and recognizing a pretax loss of approximately $10 million. The Flavor Specialty Ingredients business was sold on August 1, 2023 for approximately $205 million of net cash proceeds, subject to closing adjustments.
Guidance, Outlook, Commentary and Risks
Management expects 2023 capital expenditures to be approximately 4.4% of sales, net of potential grants and reimbursements. Management stated that operating cash flow, planned divestiture proceeds and available credit facilities are expected to fund operations, capital investment, dividends and debt service.
IFF's credit agreements provide temporary leverage covenant relief through December 31, 2024, with the maximum consolidated leverage ratio stepping down from 5.25x at June 30, 2023 to 4.00x at December 31, 2024. The reported covenant net debt to credit-adjusted EBITDA ratio was 4.54x at June 30, 2023, and the company was in compliance with all covenants. The agreements restrict share repurchases during the relief period.
Key risks include weaker consumer-product demand, inflation and volatility in raw materials, energy and transportation, supply-chain disruptions, foreign exchange, geopolitical developments involving Russia and Ukraine, substantial indebtedness and higher interest rates, execution of restructuring and portfolio optimization, and potential impairments of goodwill and other intangible assets.
Regulatory and litigation matters include ongoing antitrust investigations by the European Commission, United Kingdom Competition and Markets Authority and U.S. Department of Justice relating to fragrance businesses, as well as related private lawsuits in the United States and Canada. IFF stated that it cannot predict the duration or outcome. The filing also reports an approximately $12 million accrual for agreed settlements related to out-of-specification Avicel products, with total exposure potentially higher.
The filing includes corrections to previously reported 2022 cash-flow, lease, derivative and related balance-sheet amounts. Management concluded that disclosure controls were effective and that no material changes affected internal control over financial reporting during the quarter.
Important Facts for Investors to Verify
- Whether volume trends and margin recovery improve after inventory reductions, pricing actions and restructuring.
- The sustainability of cash generation after divestiture proceeds are excluded, including the ability to fund dividends and debt maturities.
- Progress against the declining leverage covenant thresholds and the effect of higher interest rates on refinancing costs.
- Final proceeds and closing adjustments from the Flavor Specialty Ingredients sale and other portfolio transactions.
- Potential financial consequences of antitrust investigations, related litigation, product claims and other contingencies; the filing estimates reasonably possible third-party losses above accruals at $0 to approximately $50 million.
- Exposure to goodwill and intangible-asset impairment, particularly given the company’s substantial goodwill and acquisition-related intangibles.
- Management’s 2023 sales and profit outlook, which is discussed as forward-looking information but is not presented in the filing text with a clear quantitative full-year guidance range.