McCormick & Company, Incorporated — Fiscal 2019 Second-Quarter Form 10-Q
Reporting period: Three and six months ended May 31, 2019. McCormick manufactures and distributes spices, seasoning mixes, condiments and other flavor products through its Consumer and Flavor Solutions segments. Results are seasonal, with sales, earnings and operating cash flow generally higher in the second half of the fiscal year.
Financial performance
| Metric | Three months ended May 31, 2019 | Three months ended May 31, 2018 | Six months ended May 31, 2019 | Six months ended May 31, 2018 |
|---|---|---|---|---|
| Net sales | $1,301.9 million | $1,301.3 million | $2,533.4 million | $2,516.7 million |
| Gross profit | $508.5 million | $505.4 million | $975.4 million | $965.8 million |
| Gross margin | 39.1% | 38.8% | 38.5% | 38.4% |
| Operating income | $208.1 million | $188.6 million | $405.0 million | $369.7 million |
| Net income | $149.4 million | $123.3 million | $297.4 million | $545.9 million |
| Diluted EPS | $1.12 | $0.93 | $2.22 | $4.11 |
| Operating cash flow | Not separately provided | Not separately provided | $314.2 million | $234.9 million |
Second-quarter sales were essentially flat as reported but increased 2.8% on a constant-currency basis, reflecting 2.1% favorable volume and product mix and 0.7% pricing, offset by a 2.8% unfavorable foreign-exchange impact. First-half sales increased 0.7% as reported and 3.5% on a constant-currency basis.
Operating income increased 10.3% in the quarter and 9.5% year to date. Adjusted operating income, excluding special charges and applicable 2018 RB Foods transaction and integration costs, was $215.2 million in the quarter versus $204.8 million and $414.2 million year to date versus $396.8 million. Adjusted diluted EPS was $1.16 versus $1.02 in the quarter and $2.27 versus $2.03 year to date.
The year-to-date net income comparison is distorted by the $297.9 million discrete U.S. Tax Act benefit recognized in the first half of 2018. Excluding specified unusual items, adjusted net income was $304.4 million in 2019 versus $269.1 million in 2018.
Segments, cash flow, debt and liquidity
- Consumer: Second-quarter sales declined 0.6% as reported but rose 2.0% in constant currency. Segment operating income increased 6.7% to $137.8 million, and margin improved 120 basis points to 18.0%.
- Flavor Solutions: Second-quarter sales increased 1.0% as reported and 4.0% in constant currency. Segment operating income increased 2.2% to $77.4 million, and margin improved to 14.4%.
- Cash flow: First-half operating cash flow was $314.2 million. Investing cash use was $54.0 million, including $54.1 million of capital expenditures. Financing cash use was $220.7 million, including $150.8 million of dividends and $93.6 million of long-term debt repayments.
- Liquidity: Cash and cash equivalents were $139.4 million at May 31, 2019. The company expects cash, operating funds and available financing to meet requirements over the next 12 months.
- Debt: Total short-term borrowings and current long-term debt were $693.2 million; long-term debt was $3,977.5 million. Net debt was $4,606.3 million and the reported leverage ratio was 3.9, down from 4.0 at November 30, 2018 and 4.5 at May 31, 2018.
- Shareholder returns: Dividends paid were $0.57 per share per quarter. The company repurchased $59.8 million of stock during the first six months, with $67.2 million remaining under the $600 million authorization at May 31, 2019.
Material changes and unusual items
- RB Foods transaction and integration expenses ended for the periods presented: none were recorded in 2019 versus $7.8 million in the quarter and $16.5 million year to date in 2018.
- Special charges were $7.1 million in the quarter and $9.2 million year to date, primarily related to the Global Enablement transformation and regional severance. Management expects approximately $20.0 million of special charges for full-year 2019.
- The Global Enablement initiative is expected to cost approximately $55 million to $65 million over its multi-year course and generate annual savings of approximately $30 million to $40 million after implementation.
- The company accelerated its global ERP replacement program. Expected investment from late 2018 through 2021 is $90 million to $120 million of capital spending and $60 million to $80 million of program expenses.
- Revenue recognition and pension presentation standards were adopted retrospectively in 2019. The revenue standard changed classification of certain shipping and customer-payment costs but did not affect operating income, net income or EPS.
- Accumulated other comprehensive loss was $382.7 million at May 31, 2019, including a $263.0 million foreign-currency translation loss.
Guidance, outlook and risks
For fiscal 2019, management projected reported sales growth of 1% to 3%, including an estimated 2% unfavorable currency impact, or 3% to 5% in constant currency. Adjusted operating income was projected to increase 6% to 8% as reported, or 8% to 10% in constant currency. Adjusted diluted EPS was projected at $5.20 to $5.30, representing growth of 5% to 7% as reported or 7% to 9% in constant currency. Reported diluted EPS was projected at $5.09 to $5.19. Management also expected a 25-to-75-basis-point improvement in gross margin and approximately $110 million of CCI-led cost savings.
Key risks include foreign-exchange volatility, raw-material and packaging cost inflation, customer and retailer concentration, private-label competition, product quality or safety issues, supply-chain disruption, elevated debt service following the RB Foods acquisition, interest-rate and credit-market conditions, execution of the ERP and Global Enablement programs, cybersecurity and third-party technology-provider risks, tax-rate volatility, Brexit-related tariffs and disruption, pension funding requirements, litigation and regulatory changes. No material pending legal proceedings were reported, and management stated that disclosure controls were effective.
Investor verification points
- Reconcile reported versus adjusted results, particularly the $297.9 million 2018 U.S. Tax Act benefit and excluded special charges.
- Assess whether constant-currency volume, mix and pricing growth can offset foreign-exchange pressure and support the full-year guidance.
- Monitor progress, spending and realized savings from the Global Enablement and ERP transformation programs.
- Evaluate debt reduction, leverage covenant headroom, interest expense and the company’s continued ability to fund dividends and capital expenditures.
- Track raw-material costs, pricing actions, customer credit exposure and supply-chain conditions.
- Review Brexit developments, currency movements and other international operating risks affecting EMEA and Asia/Pacific results.