Stepan Company — Q3 2023 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2023. Stepan produces intermediate chemicals across Surfactants, Polymers and Specialty Products. Amounts below are in millions of dollars, except per-share data, percentages and where noted.
Financial performance
| Metric | Q3 2023 | Q3 2022 | Nine months 2023 | Nine months 2022 |
|---|---|---|---|---|
| Net sales | $562.2 | $719.2 | $1,793.6 | $2,146.1 |
| Gross profit | $71.2 | $118.5 | $211.2 | $359.3 |
| Gross margin | 12.7% | 16.5% | 11.8% | 16.7% |
| Operating income | $19.5 | $54.7 | $58.4 | $195.6 |
| Operating margin | 3.5% | 7.6% | 3.3% | 9.1% |
| Net income | $12.6 | $39.4 | $41.4 | $136.3 |
| Diluted EPS | $0.55 | $1.71 | $1.80 | $5.90 |
Q3 adjusted net income, a non-GAAP measure, was $14.7 million ($0.64 diluted EPS), versus $46.3 million ($2.01) a year earlier. Nine-month adjusted net income was $43.2 million ($1.88 diluted EPS), versus $140.0 million ($6.06). Adjustments include restructuring, deferred compensation and related investment activity, and environmental remediation; see the filing’s reconciliation.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $105.9 million, compared with $74.9 million in 2022. Capital expenditures were $213.6 million, versus $205.3 million. Operating cash flow less capital expenditures was therefore negative $107.7 million, compared with negative $130.4 million.
- Cash declined to $105.5 million from $173.8 million at December 31, 2022. Total debt rose to $649.4 million from $587.1 million; net debt was $543.9 million, up from $413.3 million. Net debt to net debt plus equity increased to 31.1% from 26.2%.
- Debt included $274.0 million outstanding under the $450 million credit facilities, with $161.3 million available and $11.0 million of letters of credit. Current debt maturities were $227.0 million. The filing says the company was in compliance with its debt covenants at quarter-end.
- Management said operating cash, committed facilities and cash on hand should fund anticipated capital expenditures, working capital, dividends and other planned commitments for the foreseeable future.
Material changes and segment trends
- Q3 sales fell 22%; volume declined 9%, reducing sales by $61.3 million, while lower average selling prices reduced sales by $114.8 million. Price pressure mainly reflected lower raw-material costs passed through to customers, less favorable mix and competitive activity. Foreign currency translation added $19.1 million to sales.
- Q3 operating income fell 64%. Segment operating income declined 61% in Surfactants, 32% in Polymers and 75% in Specialty Products. The filing cites weaker demand, customer and channel inventory destocking, lower unit margins and high-cost inventory carryover. Specialty Products was also affected by lower MCT product margins and import competition.
- For the first nine months, sales fell 16%, with volume down 14%; operating income declined 70%. Nine-month sales were down 14% in Surfactants, 23% in Polymers and 16% in Specialty Products. Polymer demand was particularly affected by destocking and reduced construction activity.
- Q3 net interest expense rose 34% year over year, primarily due to higher debt balances and borrowing rates. The nine-month effective tax rate was 20.5%, versus 24.0% in 2022.
Outlook, risks and unusual items
- Management expects Q4 to remain challenging, including continued agricultural inventory destocking and seasonally low rigid-polyol demand. It expects further inventory reductions and says the high-capital-spending phase is nearing completion.
- Management targets $50 million of pre-tax cost savings in 2024, focused on workforce productivity and manufacturing performance. It expects 2024 sales volumes and margins to improve with rigid-polyol demand recovery, new contracted Surfactant business and lower raw-material costs, and anticipates earnings growth and positive free cash flow. These are forward-looking expectations, not guarantees.
- 2023 capital expenditures are projected at $255–$260 million. The Pasadena, Texas alkoxylation plant is expected to start up in mid-2024; upgrades related to U.S. 1,4-dioxane regulations were substantially complete at September 30.
- Q3 included $5.5 million of expense for a voluntary early-retirement program. Environmental and legal loss exposure was estimated at $21.8–$45.8 million; $21.8 million was accrued because management did not consider any amount in the range more likely than another. Nine-month remediation and certain legal cash expenditures were $11.4 million, mostly related to Maywood, New Jersey.
- The Wilmington, Massachusetts consent decree entered in September 2023 requires remediation work. Stepan is contractually responsible for up to 5% of the current owner’s response costs, with no cap on its ultimate contribution. The company had paid $3.6 million through September 30, 2023 and says the ultimate liability could differ materially from its estimate.
- Other stated risks include demand and competition, raw-material and energy costs and supply, manufacturing disruptions, environmental and legal obligations, foreign exchange, capital-project execution, debt covenants and access to capital markets. The filing reports no material change to previously disclosed risk factors.
Important facts for investors to verify
- Whether destocking ends and sales volumes, mix and margins recover as management expects, particularly in Surfactants and Polymers.
- Progress toward the $50 million 2024 savings target, and whether savings offset inflation and Pasadena commissioning costs.
- Remaining capital spending, Pasadena start-up timing and the conversion of operating cash flow into positive free cash flow.
- Debt maturities, interest expense, available credit and continued covenant compliance amid elevated net debt.
- Environmental remediation estimates and cash costs, especially Maywood and Wilmington, and any change in the range of possible losses.