MSC Industrial Direct Co., Inc. — Form 10-Q Summary
Business context and reporting period
MSC is a North American distributor of metalworking and maintenance, repair and operations products and services. The filing covers the thirteen and twenty-six weeks ended March 4, 2017, compared with the respective periods ended February 27, 2016. Fiscal 2017 is a 52-week year ending September 2, 2017.
The company offered approximately 1.54 million active saleable SKUs through eCommerce, catalogs, inventory-management solutions, call centers and branches. Approximately 68% of fiscal second-quarter revenue came from manufacturing customers. eCommerce represented 59.8% of second-quarter sales, compared with 57.8% in the prior-year quarter.
Key financial metrics
| Metric | Q2 2017 | Q2 2016 | Change |
|---|---|---|---|
| Net sales | $703.8 million | $684.1 million | 2.9% |
| Gross profit | $314.6 million | $308.8 million | 1.9% |
| Gross margin | 44.7% | 45.1% | Down 40 basis points |
| Operating income | $86.6 million | $80.5 million | 7.6% |
| Operating margin | 12.3% | 11.8% | Up 50 basis points |
| Net income | $53.6 million | $49.5 million | 8.1% |
| Diluted EPS | $0.93 | $0.80 | 16.3% |
| Dividend per share | $0.45 | $0.43 | 4.7% |
For the first twenty-six weeks, sales were $1.390 billion, essentially flat with the prior-year period. Gross margin was 44.8% versus 45.1%; operating income was $177.2 million versus $170.9 million; and net income was $107.8 million versus $104.6 million. Diluted EPS was $1.89 versus $1.70.
First-half operating cash flow was $96.7 million, down from $183.0 million. The decline primarily reflected increases in accounts receivable and inventory. Capital expenditures were $25.5 million, compared with $26.8 million in the prior-year period. Dividends paid were $51.0 million, and net cash used in financing activities was $88.3 million.
Balance sheet, debt and liquidity
| Metric | March 4, 2017 | September 3, 2016 |
|---|---|---|
| Cash and equivalents | $35.6 million | $52.9 million |
| Total debt | $549.1 million | $606.8 million |
| Net debt | $513.5 million | $553.9 million |
| Shareholders’ equity | $1.181 billion | $1.098 billion |
| Current ratio | 2.0 | 2.1 |
The company had $236.0 million of unused revolving credit availability after additional March 2017 repayments. Debt included $184.0 million drawn on the revolver, $162.5 million on the term loan, $175.0 million of private-placement notes and $28.4 million of capital lease and financing obligations. The company was in compliance with its debt covenants, including a maximum leverage ratio of 3.00 to 1.00 and minimum interest coverage of 3.00 to 1.00.
Material changes versus the prior comparable periods
- Second-quarter sales growth was driven by approximately $30.0 million of higher volume, partly offset by approximately $8.7 million of pricing and mix effects and $1.6 million of unfavorable foreign exchange.
- Large Account Customer sales increased approximately $14.2 million in the quarter and $7.1 million for the first half.
- Gross margin declined because of pricing and customer and product mix, while operating expense leverage increased operating margin.
- First-half sales were reduced by approximately $17.2 million of pricing and mix effects and $4.3 million of unfavorable foreign exchange, partly offset by $20.6 million of higher volume.
- Interest expense increased to $2.95 million in the quarter from $1.30 million and to $5.88 million for the first half from $2.85 million, reflecting the company’s debt structure and borrowing levels.
- The company early adopted ASU 2016-09. Excess stock-compensation tax benefits reduced second-quarter tax expense by $1.8 million and increased first-half net income by approximately $2.0 million, with a $0.03 per-share benefit in each period.
- ASU 2015-17 resulted in the prospective reclassification of $46.6 million from current deferred tax assets to long-term liabilities, affecting reported working capital and the current ratio.
Outlook, commentary, risks and unusual items
Management stated that the Metalworking Business Index improved during the quarter, with a fiscal second-quarter average of 53.2 and a twelve-month average of 48.8. Management expects to continue pursuing market-share gains, new customers, increased sales to existing customers, cost reduction and technology-enabled inventory and procurement solutions. The filing does not provide a formal revenue or earnings guidance range.
Management believes cash on hand, operating cash flow and available revolver capacity will fund planned capital expenditures and operating requirements for at least the next twelve months. The core financial systems upgrade was expected to be completed in spring 2017, with approximately $4.0 million to $5.0 million of additional fiscal 2017 capital expenditures. The implementation may affect business applications, financial processes and internal controls.
Material risks include economic and manufacturing conditions, competition, customer and product mix, commodity and energy-price volatility, customer credit risk, order cancellations, supply-chain disruption, information-system failures and cyberattacks, retention of key personnel, regulatory compliance, goodwill impairment, acquisition integration and financial restrictions under outstanding borrowings. The company disclosed various ordinary-course legal claims but does not expect them to materially affect financial position, results or liquidity. No off-balance-sheet arrangements were reported.
On March 30, 2017, the board declared a quarterly dividend of $0.45 per share, payable May 2, 2017, with an estimated total payout of approximately $25.6 million.
Important facts for investors to verify
- Whether sales volume can continue to offset pricing, product-mix and foreign-exchange pressure on gross margin.
- The sustainability of operating cash flow, given the first-half working-capital use from receivables and inventory.
- Debt refinancing and repayment requirements, including the April 2018 maturity of the $650 million credit facility.
- Compliance with the 3.00-to-1.00 leverage and interest-coverage covenants as business conditions and borrowing costs change.
- The financial and control impact of the core financial systems implementation.
- The effect of ASU 2016-09 tax benefits on comparability of earnings and EPS with prior periods.
- Progress toward planned capital expenditures, eCommerce growth and the company’s manufacturing-market outlook.