McCormick & Company, Inc. — Q2 2021 Form 10-Q Summary
Business context and reporting period
McCormick is a global manufacturer and distributor of spices, seasonings, condiments and flavor products. It operates through Consumer and Flavor Solutions segments. This unaudited Form 10-Q covers the three and six months ended May 31, 2021, compared with the corresponding 2020 periods.
Key financial metrics
| Metric | Three months ended May 31, 2021 | Year-over-year change | Six months ended May 31, 2021 | Year-over-year change |
|---|---|---|---|---|
| Net sales | $1,556.7 million | +11.1% | $3,038.2 million | +16.3% |
| Gross profit | $614.6 million | +6.1% | $1,192.1 million | +13.6% |
| Gross margin | 39.5% | Down 190 bps | 39.2% | Down 100 bps |
| Operating income | $237.4 million | Down from $257.4 million | $473.7 million | Up from $451.6 million |
| Net income | $183.7 million | Down from $195.9 million | $345.5 million | Up from $340.6 million |
| Diluted EPS | $0.68 | Down from $0.73 | $1.28 | Up from $1.27 |
- Consumer segment sales were $945.2 million in the quarter, down 1.8%, with segment operating margin declining to 18.7% from 24.1%. The comparison was affected by exceptionally strong at-home demand in Q2 2020.
- Flavor Solutions sales were $611.5 million, up 39.5%, while segment operating margin increased to 13.3% from 6.5%, reflecting recovery in away-from-home demand and contributions from acquisitions.
- Six-month operating cash flow was $228.7 million, down from $355.5 million. Investing cash flow was negative $753.6 million, principally reflecting $706.4 million of business acquisitions and $112.8 million of capital expenditures.
- Cash and cash equivalents were $291.8 million at May 31, 2021, compared with $423.6 million at November 30, 2020.
- Total debt was approximately $5.46 billion, including $457.2 million of short-term borrowings, $267.8 million of current long-term debt and $4.74 billion of long-term debt. Net debt under the company’s covenant definition was $5.24 billion, with a leverage ratio of 3.7.
- The company issued $500 million of 0.90% notes due 2026 and $500 million of 1.85% notes due 2031. Dividends paid during the first six months were $181.6 million, or $0.68 per share.
Material changes versus the prior comparable period
- Sales growth was driven by acquisitions, foreign currency and the recovery of Flavor Solutions demand as COVID-19 restrictions eased. On a constant-currency basis, Q2 sales increased 7.6%.
- Consumer sales declined year over year in Q2 because the prior-year period benefited from a pandemic-driven surge in at-home cooking; sales remained 23.7% above Q2 2019 on a reported basis.
- Gross margins declined because of higher material costs, COVID-19-related costs and unfavorable segment mix, partly offset by Comprehensive Continuous Improvement savings.
- Operating results included $6.9 million of transaction and integration expenses in Q2 and $32.0 million for the first six months, related to the Cholula and FONA acquisitions. Special charges were $13.7 million in Q2 and $14.8 million year to date, compared with $2.9 million and $3.9 million, respectively, in 2020.
- The company acquired Cholula for approximately $801.2 million in November 2020 and FONA for approximately $708.2 million in December 2020. Purchase-price allocations remained preliminary at May 31, 2021.
- McCormick sold its 26% interest in Eastern Condiments for $65.4 million and recognized a $13.4 million after-tax gain.
- Operating cash flow declined primarily because of greater working-capital use, employee benefit payments and acquisition-related transaction and integration payments.
Guidance, outlook, commentary and risks
- Management projected fiscal 2021 sales growth of 11% to 13%, including approximately 3% from foreign currency and 3.5% to 4.0% from the Cholula and FONA acquisitions. Constant-currency sales growth was projected at 8% to 10%.
- Reported operating income was expected to increase 6% to 8%; adjusted operating income was expected to increase 10% to 12%, or 8% to 10% on a constant-currency basis.
- Reported diluted EPS guidance was $2.83 to $2.88; adjusted diluted EPS guidance was $3.00 to $3.05.
- Management expected gross margin to decline 90 to 110 basis points from the 2020 level of 41.1%, reflecting inflation, unfavorable mix, COVID-19 costs and acquisition-related inventory adjustments.
- Remaining transaction and integration expenses were expected to reduce second-half 2021 operating income by approximately $10 million. Full-year transaction and integration expenses were estimated at approximately $42 million, and special charges at approximately $21 million.
- Key risks include the duration and variability of COVID-19 impacts, supply-chain disruption, inflation and raw-material volatility, foreign exchange, acquisition integration, higher debt service, potential LIBOR transition costs, cyber and information-technology risks, customer concentration and credit risk, and possible impairment of goodwill or indefinite-lived intangible assets.
- In June 2021, the company entered into a new $1.5 billion five-year revolving credit facility replacing two prior facilities. The filing identifies the stated maturity as June 2026 in the subsequent-event note, while another MD&A passage states June 2027; this maturity should be verified against the executed facility agreement.
Important facts for investors to verify
- Whether Flavor Solutions’ strong year-over-year recovery is sustainable as COVID-19 comparisons normalize.
- The effect of inflation, raw-material costs and pricing actions on gross margin and operating income.
- Final purchase-price allocations, goodwill and intangible-asset valuations for Cholula and FONA.
- Post-acquisition leverage, debt-service costs, covenant compliance and the terms and maturity of the new revolving credit facility.
- The conversion of earnings into cash, particularly working-capital requirements and the seasonal concentration of cash flow in the second half.
- The extent to which reported EPS benefited from the $13.4 million after-tax gain on the Eastern Condiments sale and other discrete tax items.
- The timing and cash cost of remaining special charges, acquisition integration expenses, the Global Enablement initiative and the global ERP replacement program.