Business Context and Reporting Period
The Sherwin-Williams Company filed this unaudited Form 10-Q for the three months ended March 31, 2022. The company develops, manufactures, distributes and sells paint, coatings and related products through The Americas Group, Consumer Brands Group and Performance Coatings Group. Results are seasonal, with most segment sales traditionally occurring in the second and third quarters.
Key Financial Metrics
| Metric | Q1 2022 | Q1 2021 | Change |
|---|---|---|---|
| Net sales | $4,998.7 million | $4,656.0 million | +7.4% |
| Gross profit | $2,052.9 million | $2,112.0 million | -2.8% |
| Gross margin | 41.1% | 45.4% | -430 bps |
| Income before taxes | $461.1 million | $509.0 million | -9.4% |
| Net income | $370.8 million | $409.6 million | -9.5% |
| Diluted EPS | $1.41 | $1.51 | -6.6% |
| Net operating cash flow | $26.3 million | $195.7 million | -$169.4 million |
| EBITDA | $693.0 million | $736.8 million | -5.9% |
SG&A increased 6.2% to $1,407.5 million, but declined to 28.2% of sales from 28.5%. The effective tax rate was 19.6%, compared with 19.5%.
- Segment sales: The Americas Group $2,644.1 million, up 5.6%; Consumer Brands Group $699.4 million, down 10.1%; Performance Coatings Group $1,654.1 million, up 20.4%.
- Segment profit: The Americas Group $445.4 million, down 7.2%; Consumer Brands Group $64.9 million, down 54.8%; Performance Coatings Group $144.5 million, up 0.5%.
- Cash and liquidity: Cash and cash equivalents were $401.1 million at March 31, 2022. Unused credit capacity was $1.814 billion.
- Debt: Total debt was $10.593 billion, including $1.740 billion of short-term borrowings. Net debt was $10.192 billion.
- Balance sheet: Current assets were $6.086 billion and current liabilities were $6.953 billion, resulting in a current ratio of 0.88 and a net working capital deficit of $866.7 million.
- Capital allocation: The company paid $150.9 million in dividends, repurchased $407.1 million of stock and had authorization to repurchase 47.1 million additional shares. The quarterly dividend increased to $0.60 per share.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven primarily by price increases across all segments and higher Performance Coatings volume. Currency translation reduced sales growth by 0.7 percentage points.
- Cost of goods sold rose 15.8%, principally because of higher raw material costs, including titanium dioxide and petrochemical feedstocks. Pricing actions had not fully offset inflation.
- Gross margin declined 430 basis points because of raw material inflation, lower volumes in The Americas and Consumer Brands, and supply-chain inefficiencies.
- Consumer Brands sales and profit were affected by the Wattyl divestiture, lower international sales, difficult prior-year comparisons and raw material availability issues.
- Operating cash flow declined primarily because of lower earnings and seasonal working-capital needs. Accounts receivable increased to $2.784 billion and inventories increased to $2.329 billion.
- Short-term borrowings increased $976.2 million from December 31, 2021, primarily through domestic commercial paper, helping fund seasonal working-capital requirements and shareholder returns.
- Q1 2021 included a $111.9 million pretax loss on the Wattyl divestiture; no comparable loss was recorded in Q1 2022. Q1 2022 also included $78.0 million of acquisition-related amortization, or approximately $0.20 per diluted share.
Outlook, Commentary, Risks and Unusual Items
Management stated that first-quarter results were in line with expectations amid strong demand, significant cost inflation and improving but uneven raw material availability. Management expects continued efforts to implement pricing, manage supply-chain disruptions and support customers, and expressed confidence in the long-term outlook. No specific full-year sales or earnings guidance was provided in the filing.
- The company expects to continue acquisitions aligned with its strategy and to use excess cash for share repurchases, while maintaining its dividend and operating investments.
- Subsequent to quarter end, the company completed its acquisition of Sika AG’s European industrial coatings business, which will be reported in Performance Coatings. Purchase price and earnings effects were not provided in the filing.
- Key operating risks include raw material and energy inflation, supply-chain disruptions, labor constraints, logistics delays, interest rates, foreign currency, geopolitical developments including the Russia-Ukraine conflict, COVID-19, cybersecurity, acquisitions and competitive pricing.
- Environmental accruals totaled approximately $317.9 million at March 31, 2022, including $272.5 million in other long-term liabilities and $45.9 million in other accruals. The company disclosed an unaccrued maximum of $100.4 million above minimum accruals for estimated environmental matters, while noting that ultimate costs remain uncertain.
- Lead pigment and lead-based paint litigation remains unresolved. The company has generally not accrued amounts for these matters because it does not consider losses probable or estimable, and a significant adverse outcome could materially affect results, liquidity or financial condition.
- The company had a $52.7 million accrual related to the Santa Clara County settlement and remains involved in Pennsylvania proceedings and insurance coverage litigation. The ultimate availability of insurance proceeds is uncertain.
- The company was in compliance with its 3.75-to-1.00 leverage covenant and expects to remain in compliance. Management stated that disclosure controls were effective and that no material changes to internal control over financial reporting occurred during the quarter.
Important Facts for Investors to Verify
- Whether additional pricing actions fully offset raw material, labor, energy and logistics inflation in subsequent quarters.
- Whether raw material availability and supply-chain conditions support volume recovery, particularly in The Americas and Consumer Brands.
- The effect of the Sika acquisition on revenue, margins, leverage, amortization and cash flow.
- Working-capital trends, operating cash conversion and the extent to which commercial paper borrowings remain elevated.
- Progress in reducing the 430-basis-point gross-margin decline and restoring segment profitability.
- Potential changes in environmental remediation estimates and the outcome of lead-paint litigation, Pennsylvania proceedings and related insurance coverage disputes.
- Whether the company’s seasonal second- and third-quarter sales pattern and stated liquidity remain consistent with management’s outlook.