MSC Industrial Direct Co., Inc. — Fiscal 2017 Form 10-K Summary
Business context and reporting period
MSC is a North American distributor of metalworking and maintenance, repair and operations products and services. It serves commercial, manufacturing, government and national-account customers through approximately 1.565 million active SKUs, 12 customer fulfillment centers and 93 branch offices in the United States, Canada and the United Kingdom.
The filing covers the 52-week fiscal year ended September 2, 2017. The prior comparable period ended September 3, 2016 and contained 53 weeks. Fiscal fourth-quarter unaudited results are also presented.
Key financial metrics
| Metric | FY 2017 | FY 2016 | Change |
|---|---|---|---|
| Net sales | $2.888 billion | $2.864 billion | 0.8% |
| Gross profit | $1.286 billion | $1.289 billion | (0.2)% |
| Gross margin | 44.5% | 45.0% | (50) bps |
| Operating income | $379.0 million | $376.0 million | 0.8% |
| Operating margin | 13.1% | 13.1% | Flat |
| Net income | $231.4 million | $231.2 million | 0.1% |
| Diluted EPS | $4.05 | $3.77 | 7.4% |
| Cash dividends declared per share | $1.80 | $1.72 | 4.7% |
Fiscal fourth-quarter net sales were $753.8 million, gross profit was $333.5 million, operating income was $100.0 million and net income was $60.7 million. Diluted fourth-quarter EPS was $1.07.
Net cash provided by operating activities was $246.8 million, compared with $401.1 million in fiscal 2016. Investing cash use was $88.9 million, including $42.3 million for the DECO acquisition, and financing cash use was $194.7 million. Cash and cash equivalents declined to $16.1 million from $52.9 million.
At September 2, 2017, total debt was $533.0 million, net debt was $516.9 million and shareholders’ equity was $1.225 billion. Working capital was $447.9 million and the current ratio was 1.8. The company had a $600 million unsecured revolving facility, with approximately $325 million of current unused capacity after letters of credit. The facility matures in April 2022; senior notes totaled $175 million and mature in 2023 and 2026.
Material changes versus the prior comparable period
- Sales increased $24.2 million despite six fewer sales days, with approximately $113.8 million of higher volume and $10.4 million from DECO, partly offset by $66.0 million from fewer selling days, $27.2 million from pricing and mix, and $6.8 million from foreign exchange.
- Large Account Customer sales increased approximately $27.4 million, while other customer sales declined approximately $3.2 million.
- Average daily sales increased 9.2% in fiscal fourth quarter and 3.2% for the full year. Manufacturing-customer daily sales increased 8.4% in the fourth quarter and 2.4% for the year.
- Gross margin declined primarily because of pricing and customer/product mix, including growth in lower-margin vending and Large Account Customer sales.
- Operating expenses declined 0.6% to $907.2 million, benefiting from the absence of the prior year’s 53rd week and lower depreciation and amortization, although payroll and incentive compensation increased.
- Interest expense increased to $12.4 million from $5.8 million, primarily because of debt issued in connection with the prior-year self-tender offer.
- Net debt decreased $37.0 million, while equity increased $126.8 million. Accounts receivable rose to $471.8 million, and days sales outstanding increased to 54.0 from 50.8, excluding DECO.
- MSC acquired DECO Tool Supply Co. on July 31, 2017 for $42.3 million in cash. DECO contributed $10.4 million of revenue and a $0.25 million pretax loss after acquisition.
- Digital channels, including the website, EDI, vending, VMI and other electronic portals, represented 60.1% of fiscal 2017 sales versus 58.2% in fiscal 2016.
Guidance, outlook, risks and unusual items
Management expects fiscal 2018’s effective tax rate to be approximately 38.0% to 38.5%, assuming no significant excess tax benefits or expenses from share-based compensation. Management also expects DSO to improve slightly from fiscal 2017 levels and believes existing cash, operating cash flow and revolving-facility availability will fund planned operating needs and capital expenditures for at least the next 12 months.
The Metalworking Business Index averaged 55.3 in fiscal fourth quarter and 53.4 for fiscal 2017, indicating continued expansion but slower growth in the metalworking manufacturing environment. Management’s strategy emphasizes market-share gains, metalworking expansion, government and national accounts, digital commerce, inventory-management solutions, productivity investments and selective acquisitions.
- Key risks include cyclical manufacturing demand, economic downturns, customer credit losses, order cancellations, competitive pricing pressure and potential gross-margin erosion from customer and product mix.
- Vendor price increases, commodity and energy volatility, trade-policy changes, supply-chain disruptions, transportation interruptions and weather events could affect margins or product availability.
- Information-system failures, cyberattacks, operational interruptions, loss of key personnel and difficulties integrating acquisitions could adversely affect results.
- The company is subject to government-contracting regulations, environmental and health-and-safety requirements, litigation and tax uncertainties. Management does not expect current legal matters to have a material adverse effect.
- Goodwill and indefinite-lived intangible assets totaled $647.9 million. Fiscal 2017 impairment assessments found no indication of impairment.
- The company was in compliance with all material debt covenants at year-end. A 100-basis-point change in interest rates would affect annual interest costs by approximately $3.2 million under the current capital structure.
- The company adopted accounting guidance affecting share-based-payment tax benefits and deferred-tax classification. The filing states that adoption did not materially affect the financial statements.
Important facts for investors to verify
- Whether sales growth can continue after adjusting for fiscal 2016’s extra week and whether manufacturing demand remains supportive.
- Whether gross margin stabilizes as Large Account Customer, vending and eCommerce sales expand.
- Accounts-receivable aging, DSO trends and working-capital requirements, particularly following DECO integration.
- Availability under the revolving facility, the $332 million current debt maturity and compliance with leverage and interest-coverage covenants.
- Cash-flow conversion, capital expenditures, acquisition spending, dividends and share repurchases.
- Integration performance and return on investment from the DECO acquisition and other productivity, technology and distribution investments.
- Potential impairment exposure related to the company’s $633.7 million of goodwill and $14.2 million of indefinite-lived intangible assets.
- Governance implications of the dual-class structure: holders of Class B shares controlled approximately 73.4% of combined voting power as of October 16, 2017.