SEABOARD CORP quarterly report, Q3 FY2017

Seaboard Corporation — Q3 2017 Form 10-Q

Business context and period. Seaboard reported the three and nine months ended September 30, 2017, compared with periods ended October 1, 2016. Its six reportable segments are Pork, Commodity Trading and Milling (CT&M), Marine, Sugar, Power and Turkey. Amounts below are in millions of dollars unless noted.

Financial performance

Metric	Q3 2017	Q3 2016	Nine months 2017	Nine months 2016
Net sales	$1,402	$1,330	$4,223	$4,006
Gross income	$148	$108	$415	$359
Operating income	$71	$42	$191	$154
Net earnings attributable to Seaboard	$81	$75	$224	$209
Earnings per share	$69.28	$64.42	$191.63	$178.67
Operating cash flow	—	—	$198	$299

Q3 sales rose 5.4% year over year; operating income increased $29 million. Gross margin was approximately 10.6% versus 8.1%, and operating margin approximately 5.1% versus 3.2%.
Other investment income was $54 million in Q3 and $119 million year to date, mainly reflecting higher mark-to-market gains on short-term investments. Income from affiliates was a loss of $3 million in Q3 and $10 million year to date, versus income of $21 million and $54 million, respectively, in 2016.
Q3 and year-to-date income tax expense was $43 million and $96 million, respectively. Management attributed the higher effective tax rate versus 2016 primarily to the expiration of U.S. biodiesel tax provisions and lower projected tax credits.
Operating cash flow declined $101 million year over year to $198 million, primarily due to working-capital changes, including higher inventories and the prior-year collection of past-due Power-segment receivables. Capital expenditures were $118 million; operating cash flow less capital expenditures was $80 million.

Financial position and liquidity

At September 30, 2017, cash and cash equivalents were $61 million and short-term investments were $1,358 million, totaling $1,419 million, up $65 million from year-end 2016. Total assets were $4,993 million and equity was $3,396 million.
Debt comprised $97 million of bank notes payable, $50 million of current maturities and $490 million of long-term debt, approximately $637 million in total. Debt was broadly unchanged from year-end 2016. The $488 million term loan matures in 2022; the company reported compliance with restrictive covenants.
Foreign-subsidiary notes payable included an approximately $32 million Argentine-peso loan bearing 23% interest and due February 7, 2018. The company had $419 million in uncommitted credit lines and a $100 million committed line, with no balance drawn on the committed line. Management said liquidity and borrowing capacity would be adequate for existing operations and known 2017 plans.
$446 million of cash and short-term investments was held by foreign subsidiaries; repatriation to the U.S. could require taxes. Seaboard reported $795 million of additional net working capital.
Quarterly dividends of $1.50 per share were declared and paid in each of the first three quarters. A further $1.50 dividend was declared November 1, payable November 24. No shares were repurchased during the first nine months.

Material changes and management commentary

Pork: Q3 sales were $404 million and operating income $57 million. Higher pork prices supported results, partly offset by lower biodiesel margins; federal blender’s credits had not been renewed for 2017. Management anticipated positive operating income for the remainder of 2017, but could not predict pork prices or feed and hog costs. Seaboard’s Triumph Foods joint venture began operations in September; Seaboard completed its $73 million 2017 contribution and acquired hog farms and inventory for $40 million.
CT&M: Q3 operating income was $7 million versus a $13 million loss in 2016, with improved mark-to-market derivative results. Excluding those adjustments, Q3 operating income was $4 million versus $10 million. Management expected positive operating income for the rest of 2017 excluding derivative mark-to-market effects, but could not predict results amid commodity and political volatility.
Marine: Q3 operating income declined to $4 million from $9 million, mainly due to lower cargo rates and higher fuel costs. Management anticipated positive operating income for the remainder of 2017.
Sugar: Q3 operating income improved to $6 million from a $7 million loss, supported by higher sugar, alcohol and cogeneration margins. Management could not predict whether the segment would be profitable for the rest of 2017. Sugar and alcohol sales are denominated in Argentine pesos, exposing results to currency volatility.
Power: Q3 operating income was $3 million versus $4 million. Management anticipated positive operating income for the remainder of 2017, while noting fuel-cost and spot-rate uncertainty.
Turkey/Butterball: Seaboard recorded an $11 million affiliate loss year to date, compared with $49 million of affiliate income in 2016. Lower turkey prices, competitive pressure, higher live-growing costs and Butterball’s plant-closure charges contributed. Management could not predict segment profitability for the remainder of 2017.
Management budgeted $76 million of capital expenditures for the remainder of 2017. Seaboard also disclosed a non-binding agreement to explore acquiring Groupe Mimran’s flour-milling and related businesses in Senegal, Ivory Coast and Monaco; a definitive agreement and purchase price had not been determined.

Risks, contingencies and unusual items

Derivative contracts are not designated for hedge accounting, so fair-value changes can create earnings volatility; management says some mark-to-market effects may reverse as related transactions are completed. Seaboard also undertakes some speculative derivative transactions.
A U.S. Department of Justice investigation includes requests for records, interviews and testimony concerning money transfers and bank accounts in the Democratic Republic of Congo and other African countries. Seaboard is cooperating; the probability and amount of any loss could not be estimated.
The EPA alleged Clean Air Act violations involving ammonia releases at the Guymon, Oklahoma, pork plant and proposed a penalty and environmental project. Seaboard expected the combined cost to be less than $1 million.
The Dominican Republic Ministry of Environment notified Seaboard it would not renew the environmental license for its power barge at its current Ozama River location. If unresolved, Seaboard may have to relocate it by Q3 2018; the outcome and potential earnings impact are unknown.
A Caribbean terminal affiliate faced customer loss, debt defaults and unexpected construction work. Seaboard recorded impairment and receivable charges and recognized $9 million of affiliate losses year to date; further charges are possible if cash flows do not improve.
Seaboard’s DRC bakery affiliate note receivable was approximately $17 million net of reserves. Further losses could lead to additional impairment. Separately, the prior ICE investigation involving employment and health-plan records remained unresolved, with a settlement possible and potential costs not estimable.
The filing reported no material changes in previously disclosed risk factors. Seaboard expected adoption of the lease accounting standard in 2019 to likely materially increase balance-sheet assets and liabilities; it did not expect the cited 2018 accounting changes to materially affect earnings or financial position.

Important facts for investors to verify

How much of earnings growth depends on investment gains, including the $119 million of year-to-date other investment income, and how investment values perform in subsequent periods.
Whether operating cash flow recovers as inventories and other working-capital requirements evolve, and whether planned capital expenditures and expansion commitments remain within available liquidity.
Whether Pork and CT&M performance holds up as pork prices, feed costs, biodiesel margins, commodity prices and derivative mark-to-market effects change.
Progress and financial impact of the STF startup, Butterball’s performance and the identified affiliate exposures, including the Caribbean terminal and DRC bakery note.
Resolution of the DOJ, EPA, ICE and Dominican Republic power-barge matters, including any penalties, settlement costs or relocation requirements.
Whether the proposed Groupe Mimran acquisition proceeds, and its final price, financing and expected returns.