Mueller Industries, Inc. — Q3 2017 Form 10-Q
Reporting period: Quarter ended September 30, 2017; nine months ended September 30, 2017. Comparisons are to the quarter and nine months ended October 1, 2016. The 2017 nine-month period contained 39 weeks versus 40 weeks in 2016. Dollar amounts below are in millions unless otherwise noted.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net sales | $550.4 | $506.6 | $1,742.5 | $1,583.5 |
| Operating income | $37.6 | $37.5 | $130.0 | $123.4 |
| Net income attributable to Mueller | $22.3 | $26.0 | $79.9 | $82.4 |
| Diluted EPS | $0.39 | $0.45 | $1.39 | $1.44 |
| Operating margin | 6.8% | 7.4% | 7.5% | 7.8% |
| Gross margin | 14.4% | 16.2% | 14.8% | 16.2% |
- Sales rose 8.6% in Q3 and 10.0% year to date, chiefly from higher selling prices for copper tube and brass rod. Core-product unit volumes declined 1.7% for the quarter and 1.1% year to date.
- Q3 operating income was nearly flat despite higher sales; attributable net income fell 14.3%. Higher copper costs increased cost of goods sold, while interest expense rose following issuance of the 6% subordinated debentures.
- Segment results: Piping Systems sales increased 9.3% in Q3, but operating income fell 14.1% to $20.7 million. Industrial Metals sales rose 12.4% and operating income rose 22.9% to $23.0 million. Climate sales rose 8.3% and operating income rose 12.5% to $5.4 million.
Cash flow, debt and liquidity
- Cash from operations was $53.5 million for the first nine months, down from $70.6 million. Receivables used $33.4 million and inventory used $40.9 million of cash, partly offset by a $21.0 million increase in current liabilities.
- Investing activities used $2.8 million; financing activities used $300.2 million. Financing outflows included $191.2 million of dividends and $100.0 million of repayments under the Credit Agreement. Cash fell $245.0 million to $106.3 million.
- At September 30, total debt was $403.3 million: $100.0 million drawn under the $350 million revolving facility and $284.5 million of subordinated debentures, plus other debt. Debt was 43.2% of total capitalization. The company reported covenant compliance and a current ratio of 2.8:1.
- The March special dividend comprised $3.00 cash and $5.00 principal amount of 6% debentures per share. It reduced cash by about $174.2 million, increased long-term debt by about $284.5 million, and reduced stockholders’ equity by about $458.7 million. Reported dividends per share for the first nine months were $8.30, including the special distribution.
Material changes, outlook and risks
- Mueller acquired Canadian PEX businesses Pexcor and Heatlink for approximately $18.5 million, including contingent consideration, and sold its 50.5% interest in Chinese joint venture Mueller-Xingrong for approximately $18.3 million. The sale generated a $1.5 million gain. Purchase accounting for Pexcor and Heatlink remained provisional.
- Management said residential construction had improved but remained below long-term historical levels, and expected most housing and commercial construction conditions to continue improving. It believes operating cash flow, credit availability and cash on hand will meet liquidity needs. No quantified earnings or sales guidance was provided.
- Key operating exposures include copper and brass prices and availability, the ability to pass raw-material costs through to customers, demand and unit volumes, and substitution by plastics or aluminum. Foreign exchange and floating interest rates are additional exposures; the company uses derivatives for risk management, not trading.
- Environmental matters include an EPA-requested remedial investigation at the Lead Refinery site. Mueller agreed to fund the study and provide a $1.0 million financial guarantee; it could not estimate the likelihood or amount of any material remediation loss. Ongoing permit-related costs were estimated at $2.1–$4.7 million over 20 years.
- The EEOC alleges disability-related employment violations and sought monetary and injunctive relief. Conciliation ended without resolution; the company disputes the allegations and could not estimate the likelihood or range of loss beyond available insurance. Management said ordinary-course litigation was not expected to have a material adverse effect.
- Other unusual items include $0.4 million of year-to-date asset impairments, higher environmental costs, and year-to-date losses of $1.7 million from unconsolidated affiliates. The company reported effective tax rates of 27% for Q3 and 29% year to date, below prior-year rates.
Important facts for investors to verify
- Whether copper-related selling-price increases can continue to offset higher input costs and whether core unit volumes stabilize.
- Cash conversion and working-capital needs, given the year-to-date operating cash flow decline and inventory and receivable outflows.
- Debt service, liquidity after the special dividend, revolving-facility availability, and the terms and change-of-control provisions of the subordinated debentures.
- Potential financial exposure from the Lead Refinery EPA matter and the EEOC proceeding, for which the filing provides no clear loss estimate.
- Final acquisition purchase-price allocation and the performance contribution of Pexcor and Heatlink; also consider the 39-week versus 40-week year-to-date comparison.