Mohawk Industries, Inc. — 2016 Form 10-K
Business context and reporting period. Mohawk is a global flooring manufacturer with three reporting segments: Global Ceramic, Flooring North America (NA), and Flooring Rest of the World (ROW). This 10-K covers the fiscal year ended December 31, 2016; fourth-quarter figures are identified separately below. About 65% of annual sales came from the U.S. and 35% from outside the U.S.
Financial results and liquidity
| Metric | 2016 | 2015 |
|---|---|---|
| Net sales | $8.959 billion | $8.072 billion |
| Gross profit / margin | $2.813 billion / 31.4% | $2.411 billion / 29.9% |
| Operating income / margin | $1.280 billion / 14.3% | $838 million / 10.4% |
| Net earnings attributable to Mohawk | $930 million | $615 million |
| Diluted EPS | $12.48 | $8.31 |
| Cash from operating activities | $1.328 billion | $912 million |
| Capital expenditures | $672 million | $504 million |
| Long-term debt, including current portion | $2.511 billion | $3.192 billion |
| Cash and cash equivalents at year-end | $122 million | $82 million |
| Working capital | $753 million | $(9) million |
Fourth-quarter 2016 sales were $2.183 billion, gross profit was $691 million, net earnings were $234 million, and diluted EPS was $3.13. For fourth-quarter 2015, the comparable figures were $1.998 billion, $622 million, $192 million, and $2.57, respectively.
At year-end, the $1.8 billion revolving credit facility had $918 million available, including commercial paper utilization in its calculation. Commercial paper outstanding was $820 million; the $500 million receivables securitization facility was fully utilized. The company reported that cash, operating cash generation, and credit availability should cover capital expenditures, working capital, and debt service for the next 12 months. Of $122 million cash, $92 million was held abroad; estimated repatriation cost was $32 million.
Material changes versus the prior year
- Annual sales increased 11.0%, reflecting about $944 million of higher volume, including $509 million from acquisitions and $435 million from legacy operations; foreign exchange reduced sales by about $69 million.
- Sales rose in all segments: Global Ceramic 5.4%, Flooring NA 7.3%, and Flooring ROW 31.7%. ROW growth included approximately $405 million of acquisition-related volume.
- Gross margin increased 150 basis points, supported by volume, capital-investment and cost-reduction savings, and lower material costs. Operating margin expanded 390 basis points.
- Operating income benefited from the absence of the prior-year $122 million polyurethane-foam litigation charge and a $90 million contract-dispute recovery in 2016. These items, along with other costs, affect year-over-year comparability.
- Net cash from operations rose by $416 million. Investing cash use fell substantially because 2015 included $1.371 billion of acquisitions; 2016 had no acquisitions and higher capital spending.
- Debt declined by approximately $680 million, and interest expense fell to $41 million from $71 million, partly because the company repaid its remaining 6.125% senior notes in January 2016.
Outlook, risks, contingencies, and unusual items
- Management expected continued strong U.S. performance as housing starts and remodeling improved, while noting a low-growth European environment and a continuing negative translation impact from a strong U.S. dollar. No quantified company-wide sales or earnings guidance is provided.
- Most UNICLIC patent-family patents were expected to expire in 2017. Patent licensing earnings were about $148 million in 2016; management estimated 2017 patent earnings of $65–$70 million, declining to an annual run rate of about $35 million starting in June.
- In January 2017, the company agreed to acquire an Italian ceramic company and anticipated product, sales, and manufacturing synergies.
- In 2016, Mohawk recorded a $47.9 million impairment after discontinuing the Lees brand, and received $90 million related to a contract dispute. The 2015 comparison includes the $122.5 million polyurethane-foam settlement and defense charge; the company stated those cases were settled, with one reconsideration request pending.
- A Gadsden, Alabama water board sued over chemicals containing perfluorinated compounds that Mohawk had purchased for carpet manufacturing before 2007. The company denied manufacturing the chemicals and stated the outcome could affect results, liquidity, or cash flows in a period, although it did not expect a material effect on financial condition.
- Belgian tax assessments remained under appeal after a 2016 lower-court ruling favored Mohawk for two tax years; authorities appealed and placed liens on certain properties as security. The liens did not interfere with operations.
- Key risks include housing and remodeling downturns, competition and import pricing, input-cost increases, foreign exchange and emerging-market exposure, supplier disruption, cyber or systems failures, acquisition integration, environmental and product claims, and dependence on patent income. Debt facilities include financial covenants; failure to comply could trigger default or acceleration.
- KPMG issued unqualified opinions on the financial statements and internal control over financial reporting. Management reported that a previously disclosed inventory-control material weakness had been remediated by year-end 2016.
Important facts for investors to verify
- How much of 2016’s earnings and cash generation is repeatable after excluding the $90 million contract recovery, the prior-year litigation charge, and the Lees impairment?
- How will patent-license earnings change after the 2017 UNICLIC expirations, and what replacement licensing or product economics can offset the decline?
- What are the timing, cost, and expected returns of the planned Italian ceramic acquisition and ongoing capacity investments?
- How will working-capital needs, the fully drawn receivables securitization, and short-term commercial paper maturities affect liquidity and refinancing requirements?
- What are the potential financial exposure and timing for the Belgian tax appeal, Gadsden litigation, environmental matters, and other contingencies?
- How sensitive are margins and reported results to foreign exchange, raw-material and energy costs, competitive pricing, and the effective tax rate?