Sensient Technologies Corporation — Q3 2016 Form 10-Q
Business context and reporting period. The filing covers the quarter and nine months ended September 30, 2016, compared with the same 2015 periods. Sensient operates in Flavors & Fragrances, Color, and Asia Pacific. Unless noted, figures below are in U.S. dollars; financial statement amounts are in millions.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $349.7 | $344.5 | $1,053.0 | $1,036.8 |
| Operating income | $51.2 | $43.2 | $142.3 | $134.7 |
| Operating margin | 14.6% | 12.5% | 13.5% | 13.0% |
| Continuing-operations earnings | $35.6 | $27.6 | $91.6 | $87.9 |
| Net earnings | $35.6 | $27.6 | $94.9 | $87.6 |
| Diluted EPS from continuing operations | $0.79 | $0.61 | $2.04 | $1.89 |
- Gross margin was 35.1% in Q3, up from 32.7%; for the nine months it was 34.5%, versus 33.6%. Management cited pricing, volume (particularly in Color), and restructuring savings.
- Q3 GAAP operating income rose 18.4%, but adjusted operating income was essentially flat at $54.1 million versus $54.2 million. Adjusted diluted EPS was $0.83, up 7.8%. For nine months, adjusted operating income declined 0.7% to $162.2 million; adjusted diluted EPS increased 3.4% to $2.42.
- Foreign exchange reduced consolidated revenue growth by approximately 1.0 percentage point in Q3 and 2.1 points year to date. Local-currency revenue growth was 2.5% and 3.7%, respectively.
- Q3 interest expense was $4.6 million, compared with $4.3 million; nine-month expense was $14.0 million, compared with $12.3 million. The company attributed the increase mainly to higher average debt, partly offset by lower average rates. Effective tax rates on continuing operations were 23.5% for Q3 and 28.6% year to date.
Cash flow, balance sheet, and liquidity
- For the first nine months, operating cash flow was $150.6 million, versus $93.5 million in 2015. Investing cash outflow was $54.5 million, including $58.0 million of capital expenditures. Financing cash outflow was $86.0 million.
- Cash was $23.5 million at September 30, 2016, up from $12.0 million at December 31, 2015. Short-term borrowings were $21.4 million and long-term debt was $596.8 million, compared with $20.7 million and $613.5 million, respectively, at year-end. Long-term debt fair value was estimated at $619.4 million.
- Current assets were $761.2 million and current liabilities were $224.4 million. Management said the company remained in compliance with its loan covenants and expected operating cash flow and available debt capacity to fund operations, capital spending, dividends, acquisitions, and share repurchases.
- Cash dividends paid were $36.4 million in the nine-month period. The company repurchased $27.7 million of stock, down from $161.0 million in the comparable 2015 period. After quarter-end it announced a quarterly dividend increase to $0.30 per share, beginning with the December 1, 2016 payment.
Material changes and segment trends
- Color: External revenue increased 5.9% in Q3 and 5.7% year to date; operating income increased 13.4% and 9.6%. Growth was principally driven by non-food colors, including cosmetic colors and specialty inks.
- Asia Pacific: Revenue increased 17.9% in Q3 and 9.3% year to date. Operating income increased 15.4% in Q3 and was higher year to date, although operating margin declined from 20.1% to 19.7% for the nine-month comparison.
- Flavors & Fragrances: Revenue decreased 3.2% in Q3 and 1.6% year to date. Operating income rose 2.9% in Q3 and 0.8% year to date; lower volumes and foreign exchange weighed on revenue, while pricing and restructuring savings supported profitability.
- Corporate & Other operating loss narrowed in Q3, primarily due to lower restructuring and other costs, but widened slightly for the nine-month period as performance-based compensation and professional fees increased.
- Beginning in 2016, color businesses in China, South Korea, and Japan moved from Asia Pacific to Color; prior-year segment figures were restated.
Outlook, risks, and unusual items
- The 2014 restructuring plan has incurred $147.3 million of costs to date. Sensient expects approximately $4 million of additional costs by year-end 2016 and $16 million in 2017. It estimates annual savings of about $27 million when fully implemented, having realized about $22 million through September 30, 2016. Approximately 256 of an anticipated 400 position eliminations had occurred.
- Sensient is pursuing the sale of its European Natural Ingredients business, anticipated within a year; a completed sale could result in an additional non-cash loss of about $15 million. Separately, it is exploring a sale of a European facility and related business lines; it recorded a $10.3 million impairment in Q2 and expects a further non-cash loss of about $7 million if sold.
- Nine-month discontinued-operations earnings included a $3.3 million net gain, primarily from liquidation-related currency translation reclassification. Q3 discontinued-operations earnings were nil.
- On October 3, 2016, the company launched a $40 million accounts-receivable securitization program and received $40 million from receivable sales. The filing reported no off-balance-sheet arrangements as of September 30.
- The company accrued $0.6 million toward a potential settlement of an EEOC disability-discrimination case; negotiations were ongoing and the complaint did not specify damages. An SEC informal inquiry concerning restructuring disclosures, long-lived assets, and non-GAAP measures remained open; the company said it was cooperating and could not predict the outcome. Other ordinary-course claims could affect results or cash flows in a particular period.
- Brexit-related trade, regulatory, and economic uncertainty may adversely affect operations. Other stated risks include foreign-exchange movements, raw-material costs and availability, customer and market changes, competition, execution of restructuring and growth plans, and litigation or regulatory outcomes.
- No specific full-year revenue or earnings guidance is provided in the filing. Management’s outlook instead includes the restructuring cost and savings estimates above; results for interim periods are not necessarily indicative of full-year results.
Important facts for investors to verify
- Whether improved GAAP results persist after adjusting for restructuring and other costs, given flat Q3 adjusted operating income and a year-to-date decline.
- Execution, timing, realized savings, remaining charges, and possible sale losses under the restructuring and European divestiture plans.
- Whether Flavors & Fragrances stabilizes after lower volumes and whether Color and Asia Pacific growth continues.
- Debt, interest expense, covenant headroom, and the effect of the receivables securitization on liquidity and reported cash flows.
- Developments in the EEOC matter and SEC inquiry, including any settlement, additional accrual, or regulatory action.