Quad/Graphics, Inc. — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022; unaudited. Quad is a global marketing experience company operating U.S. Print and Related Services and International segments. Printing and related services remain the core business. Results are seasonal, with higher sales typically in the third and fourth quarters.
Financial performance
| Metric | Q3 2022 | Q3 2021 | Nine months 2022 | Nine months 2021 |
|---|---|---|---|---|
| Net sales | $829.9M | $706.1M | $2,331.8M | $2,105.8M |
| Operating income | $25.2M | $28.0M | $44.8M | $97.0M |
| Operating margin | 3.0% | 4.0% | 1.9% | 4.6% |
| Net earnings | $13.7M | $14.3M | $18.0M | $58.9M |
| Diluted EPS | $0.27 | $0.27 | $0.34 | $1.12 |
| EBITDA and margin (non-GAAP) | $63.2M; 7.6% | $70.3M; 10.0% | $160.9M; 6.9% | $227.4M; 10.8% |
Q3 sales increased 17.5%, led by print pricing and volume and higher pass-through paper sales. Product sales rose 20.6%; service sales rose 7.5%. Despite higher revenue, operating income declined 10.0% and EBITDA fell $7.1M. Management cited inflation and supply-chain costs, labor and freight pressures, and the absence of prior-year gains, partly offset by pricing, volume, paper byproduct recoveries and cost savings.
For the first nine months, sales increased 10.7%, but operating income fell 53.8% and EBITDA fell $66.5M. Product sales grew 15.8%; service sales declined 4.3%, partly reflecting the 2021 divestiture of the third-party logistics business. Higher paper costs, other input inflation, labor shortages, restructuring charges and nonrecurrence of prior-year gains weighed on earnings.
Cash flow, debt and liquidity
- Nine-month operating cash flow was negative $30.3M, versus positive $22.1M in 2021. Capital expenditures were $49.5M, producing negative free cash flow of $79.8M versus negative $19.5M.
- Management attributed the operating cash outflow principally to working-capital use, including higher receivables, strategic inventory build and payments of other current liabilities. Inventory was $323.2M at September 30, up from $226.2M at year-end.
- Cash was $14.0M, down from $179.9M at December 31, 2021. Total debt and finance lease obligations were $729.3M, down from $803.7M; net debt was $715.3M, up from $623.8M because of the cash decline.
- Debt leverage ratio (non-GAAP) rose to 3.07x from 2.39x at year-end, above management’s 2.0x–2.5x target range. Management expects leverage to remain above target due to supply-chain disruption, inflation, labor shortages and seasonal working capital needs.
- Total liquidity was $259.3M, including $245.3M of unused revolver capacity and $14.0M of cash. Under the most restrictive debt covenants, liquidity was $156.3M. The company reported compliance with all debt covenants at quarter-end.
- Quad repaid $209.1M of 7.0% senior unsecured notes at maturity in May using revolver availability and cash. The nearest significant debt maturity was $87.7M in January 2024; the amended $1B bank debt agreement matures in November 2026.
Material changes, outlook and risks
- Prior-year comparisons benefited from $24.5M of sale-and-leaseback gains and a $13.3M property-insurance gain; neither recurred in 2022. Prior-year restructuring and other items also included facility and business-sale gains, including a $20.9M business-sale gain.
- Q3 U.S. Print and Related Services operating margin declined to 4.7% from 5.8%; International margin improved to 4.8% from 4.4%. For nine months, U.S. segment margin fell to 3.2% from 6.7%, while International improved to 4.9% from 3.4%.
- No numerical full-year earnings or revenue guidance is provided in the supplied filing text. Management expects inflationary cost pressures and supply-chain shortages to continue through fiscal 2022, and says it will continue passing price increases to clients. It expects higher-than-typical working-capital requirements during the first three quarters because of supply disruptions and inventory planning.
- Quad expects further restructuring and integration costs as it addresses excess manufacturing capacity and aligns its cost structure. It says expected future operating cash flows and current liquidity are sufficient for operating needs and debt and pension obligations, but notes future covenant compliance is not assured.
- Key risks include paper, energy, freight and labor cost or availability; print-volume decline and digital substitution; pricing pressure and industry overcapacity; postal-rate changes and delivery delays; client credit and demand; rising interest rates; foreign-exchange exposure; and continued COVID-19 and geopolitical impacts. The company reported no material changes to previously disclosed risk factors.
- MEPP withdrawal liability was $29.4M at September 30, 2022. The quarterly dividend has remained suspended since 2020. Quad repurchased $10.0M of shares during the nine months, while debt covenants currently constrain dividends, repurchases and certain other payments.
Important facts for investors to verify
- Whether pricing and volume gains can offset paper, labor, freight and other inflation without further margin erosion.
- Whether working-capital needs unwind seasonally and improve operating cash flow and free cash flow in Q4.
- Debt leverage, covenant headroom and available liquidity, particularly against the company’s target leverage range and upcoming debt maturities.
- The sustainability of reported earnings after excluding prior-year gains and considering ongoing restructuring and integration costs.
- How much of reported sales growth reflects pass-through paper revenue versus underlying print and services demand.