McCormick & Company, Inc. — Q1 2020 Form 10-Q Summary
Business context and reporting period
McCormick is a global producer and distributor of spices, seasonings, condiments and other flavor products serving retail, food manufacturing and foodservice customers. The filing covers the unaudited three months ended February 29, 2020, compared with February 28, 2019. Operations are managed through Consumer and Flavor Solutions segments.
Key financial metrics
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net sales | $1,212.0 million | $1,231.5 million | Down 1.6% |
| Gross profit | $469.9 million | $466.9 million | Up 0.6% |
| Gross margin | 38.8% | 37.9% | Up 90 basis points |
| Operating income | $194.2 million | $196.9 million | Down 1.4% |
| Operating margin | 16.0% | 16.0% | Approximately flat |
| Net income | $144.7 million | $148.0 million | Down 2.2% |
| Diluted EPS | $1.08 | $1.11 | Down $0.03 |
| Operating cash flow | $44.8 million | $103.6 million | Down $58.8 million |
Interest expense declined to $35.3 million from $43.0 million, while income tax expense increased to $30.1 million from $22.1 million. The effective tax rate rose to 18.3% from 13.8%, partly because Q1 2020 included $10.4 million of discrete tax benefits versus $17.6 million in Q1 2019.
Adjusted operating income was $195.2 million, or 16.1% of sales, compared with $199.0 million, or 16.2%, in the prior-year quarter. Adjusted net income was $145.4 million and adjusted diluted EPS was $1.08, compared with $149.6 million and $1.12, respectively, in Q1 2019.
Segments and material changes
- Consumer: Sales declined 6.1% to $699.5 million and segment operating income declined 11.6% to $119.6 million. The segment margin fell to 17.1% from 18.2%, primarily because of COVID-19-related disruption in China, increased marketing and ERP-related expenses.
- Flavor Solutions: Sales increased 5.3% to $512.5 million and segment operating income increased 18.7% to $75.6 million. The segment margin improved to 14.8% from 13.1%, supported by volume, product mix and cost savings.
- Geography: Asia/Pacific sales decreased $39.6 million, including an approximately $43 million decline in China. Americas sales were $819.6 million, EMEA sales were $250.3 million and Asia/Pacific sales were $142.1 million.
- Cash flow and capital spending: Operating cash flow declined due mainly to working-capital movements and employee benefit payments. Capital expenditures increased to $38.5 million from $25.4 million; management expected full-year 2020 capital expenditures of approximately $215 million.
- Balance sheet: Cash and cash equivalents were $170.8 million. Short-term borrowings were $725.0 million, including $691.8 million of commercial paper. Current and long-term debt totaled approximately $4.44 billion, excluding the effect of presentation distinctions. Net debt under the company’s covenant definition was $4.346 billion, and trailing adjusted EBITDA was $1.229 billion, producing a leverage ratio of 3.5 versus 4.0 a year earlier and 3.4 at November 30, 2019.
- Shareholder returns: The company paid $82.4 million of dividends and repurchased $19.9 million of common stock. Total remaining repurchase authorization was $612.0 million at February 29, 2020. The quarterly dividend was $0.62 per share for both voting and non-voting common stock.
Outlook, risks and unusual items
- COVID-19 caused temporary closures and reduced production at Chinese facilities. Shanghai and Guangzhou resumed operations in mid-February at reduced levels, and Wuhan resumed operations in mid-March.
- Management expected additional China sales pressure in the quarter ending May 31, 2020, with normalization in the third and fourth quarters absent a resurgence. It expected foodservice recovery to take longer than retail recovery.
- The pandemic subsequently affected the Americas and EMEA. Management expected reduced near-term foodservice and Flavor Solutions demand, particularly in EMEA, partially offset by increased at-home consumption.
- McCormick withdrew its previously issued fiscal 2020 outlook because the duration and effects of COVID-19 were highly uncertain. Management expected to provide updated guidance with its second-quarter earnings release if greater certainty became available.
- Management paused the global ERP replacement program for the balance of fiscal 2020 and implemented contingency planning, remote work, crisis teams and supply-chain continuity measures.
- The filing identifies risks involving supply-chain interruptions, employee and consumer health, foodservice closures, raw-material costs and availability, foreign exchange, customer credit, financing access and costs, pension values, goodwill or intangible-asset impairment, and execution of transformation initiatives.
- Special charges were $1.0 million, all related to the Global Enablement initiative, versus $2.1 million in Q1 2019. The company expected total Global Enablement costs of approximately $60 million to $65 million and had incurred $38.3 million through November 30, 2019.
- Adoption of ASC 842 resulted in recognition of $136.5 million of operating lease right-of-use assets and $140.0 million of lease liabilities, without a material effect on quarterly net income or cash flow.
Facts investors should verify
- Subsequent-quarter sales, margins and cash flow impacts from the global COVID-19 pandemic, especially in foodservice, EMEA and China.
- Whether and when fiscal 2020 guidance was reinstated, and how actual results compared with any revised outlook.
- Commercial paper availability, revolving-credit capacity and compliance with leverage and other debt covenants.
- Working-capital trends and the sustainability of operating cash flow relative to dividends, capital expenditures and share repurchases.
- Progress, remaining costs and expected savings from the Global Enablement and ERP initiatives.
- Exposure to raw-material inflation, foreign exchange movements, customer credit deterioration and potential impairment of goodwill or indefinite-lived intangible assets.