Stepan Company — Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2014. The unaudited filing covers Stepan’s surfactants, polymers and specialty products businesses. Amounts below are in millions of dollars unless stated otherwise.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Net sales | $491.4 | $475.5 | $1,473.0 | $1,406.5 |
| Gross profit | $65.1 | $74.3 | $199.7 | $220.7 |
| Operating income | $22.3 | $31.1 | $81.7 | $95.2 |
| Net income attributable to Stepan | $13.5 | $20.4 | $50.9 | $62.2 |
| Diluted EPS | $0.59 | $0.89 | $2.22 | $2.71 |
- Sales rose 3% in Q3 and 5% year to date, but lower gross profit reduced margins. Approximate gross margin was 13.3% in Q3 versus 15.6% a year earlier, and 13.6% year to date versus 15.7%.
- Approximate operating margin was 4.5% in Q3 versus 6.5%, and 5.5% year to date versus 6.8%. Net income attributable to Stepan fell 34% in Q3 and 18% year to date.
- Segment trends: Q3 surfactants sales were essentially flat, but segment operating income fell 54% to $11.1 million. Polymers sales rose 11%, while operating income declined 4% to $18.3 million. Specialty Products sales rose 3% and operating income increased to $3.0 million from $1.3 million. For the first nine months, surfactants operating income fell 39%; polymers rose 10%; specialty products rose 27%.
Cash flow, liquidity and debt
- For the first nine months, operating cash flow was $44.9 million, down from $81.7 million. Capital expenditures were $62.4 million, so operating cash flow less capital expenditures was negative $17.5 million.
- Cash declined $44.6 million from year-end 2013 to $88.7 million. Working capital absorbed cash, including $28.3 million from inventories and $31.0 million from receivables; inventory investment reflected higher quantities and raw-material costs.
- Total debt was $265.2 million, down from $270.6 million; cash-adjusted net debt increased to $176.5 million from $137.3 million. The current portion of debt was $36.4 million. The company reported $122.0 million available under its $125 million revolving facility, with no borrowings and $3.0 million of letters of credit outstanding.
- Management stated cash, operating cash flow and committed facilities should be sufficient for anticipated capital spending, working capital, dividends and other planned commitments. The company reported compliance with its debt covenants and expected to remain in compliance through 2014.
- The July 2014 amendment extended the revolving credit facility’s maturity to July 10, 2019. The company estimated 2014 capital expenditures of $100–$110 million.
Material changes, outlook and risks
- Surfactants remained the largest business, contributing 67% of sales in the first three quarters. North American surfactant volume was pressured by customers bringing production in-house, weak commodity volumes, weather-related effects and the decision not to sell biodiesel products where uneconomic. Higher raw-material costs lifted selling prices but did not prevent profit declines.
- Polymer growth reflected stronger North American demand, the contribution from the 2013 Bayer polyester-resins acquisition and improved rigid-foam and specialty-polyol volumes. Q3 polymer operating income was weighed down by a $3.4 million full allowance for a bankrupt major customer’s receivable; 2013 also included a $3.7 million business-interruption insurance recovery.
- Management said Q4 would continue to be affected by lower North American commodity surfactant volumes. Polymer growth typically slows in Q4, and planned phthalic-anhydride maintenance was expected to cost approximately $1 million. Management described 2014 performance as disappointing and cited projects intended to reduce costs, build sales, and improve surfactant volumes and mix. No quantified earnings guidance was provided.
- Environmental and legal loss estimates ranged from $19.1 million to $29.0 million; accrued liability was $19.2 million, up from $14.7 million at year-end. The increase primarily reflected a $4.3 million Maywood, New Jersey remediation estimate increase following the EPA’s Record of Decision. Ultimate remediation costs could differ. The company also said potential costs at certain other sites could not be estimated and adverse determinations could materially affect period cash flows and results.
- A major polymer customer filed for Chapter 11 on September 30, 2014; the full $3.425 million receivable was reserved. The company required adequate assurance for post-bankruptcy sales. An unclaimed-property examination covering 1981–2010 was ongoing, with any liability not then determinable.
- Other notable items include a Canadian surfactants production consolidation eliminating 16 positions, with remaining severance payments expected mainly in Q4 2014 and Q1 2015; and a planned acquisition of a 30,000-ton surfactants facility in Bahia, Brazil, expected to close in Q1 2015, subject to customary conditions and expected to have minimal 2014 impact.
- Foreign-currency translation produced a $19.5 million Q3 other comprehensive loss; nine-month translation loss was $15.7 million. Cash was also reduced by $2.6 million from exchange-rate effects in the nine-month period.
Most important facts for investors to verify
- Whether North American surfactant volumes, utilization and margins recover, and whether management’s cost and sales initiatives deliver results.
- The outcome and potential cost of the Maywood remediation, plus developments in other environmental, legal and unclaimed-property matters.
- Recovery prospects and collection outcomes related to the bankrupt polymer customer, and any impact on future sales or credit exposure.
- Execution, cost and expected returns of the $100–$110 million 2014 capital program and the planned Brazil facility acquisition.
- Working-capital and cash-flow trends, particularly inventory levels, and the company’s ability to fund investment and dividends while maintaining covenant compliance.