The Toro Company — Q1 FY2017 Form 10-Q
Business context and period: The quarter ended February 3, 2017, compared with the three months ended January 29, 2016. Toro designs, manufactures, and markets professional and residential outdoor equipment, irrigation systems, and related products. Results are seasonal; management cautions that the quarter should not be annualized.
Financial performance
| Metric | Q1 FY2017 | Q1 FY2016 | Change |
|---|---|---|---|
| Net sales | $515.8 million | $486.4 million | +6.1% |
| Gross profit | $193.5 million | $182.7 million | +5.9% |
| Operating earnings | $60.6 million | $53.8 million | +12.5% |
| Net earnings | $45.0 million | $39.3 million | +14.6% |
| Diluted EPS | $0.41 | $0.35 | +17.1% |
| Operating cash flow | $15.4 million | $4.5 million | +$10.9 million |
Gross margin was 37.5% versus 37.6%; operating margin was 11.7% versus 11.1%; net margin was 8.7% versus 8.1%. SG&A was 25.8% of sales, down 70 basis points, as higher sales supported expense leverage. The effective tax rate fell to 24.5% from 26.9%, partly due to a $4.9 million discrete stock-compensation tax benefit.
Cash, liquidity, and debt: Cash and equivalents were $158.9 million at quarter-end, down from $273.6 million at October 31, 2016. Operating cash flow was more than offset by $35.6 million used in investing and $96.3 million used in financing; financing outflows included $67.7 million of share repurchases and $19.0 million of dividends. Current assets were $781.3 million and current liabilities $519.1 million. Long-term debt, including its current portion, was approximately $338.3 million; the company also reported a $10.2 million note payable to former BOSS owners. No short-term debt was outstanding. It had $152.3 million of unused credit availability and was in compliance with credit covenants. Foreign subsidiaries held approximately $98.4 million of cash and short-term investments.
Changes and business drivers
- Professional segment sales rose 9.7% to $371.8 million, supported by landscape contractor product launches, stronger snow and ice demand, and growth in golf and grounds, micro-irrigation, and specialty construction. Segment earnings before tax increased 10.7%.
- Residential sales declined 2.7% to $140.4 million as zero-turn mower shipments normalized from the prior-year period; snow products partly offset the decline. Segment earnings before tax fell 1.1%.
- International sales increased 3.1% to $131.2 million, while currency movements reduced consolidated sales by approximately $3.7 million.
- Inventory was $402.1 million, down 4.7% year over year; receivables were down 3.4%. Average net working capital as a percentage of sales improved to 15.1% from 16.4%.
Outlook, risks, and unusual items
- Destination PRIME, a three-year initiative in its final year, targets at least 5% annual organic revenue growth, operating earnings above 13% of sales by FY2017-end, and average net working capital at or below 13% of sales. These are stated goals, not specific quarterly or full-year guidance.
- Management expects slightly higher average costs for some commodities and components during the remainder of FY2017 and described mitigation measures including supplier collaboration, cost reductions, and selective pricing.
- Management said anticipated operating cash flow, debt facilities, and cash on hand should be adequate for expected needs for at least the next 12 months. Key exposures include weather-driven demand, foreign exchange, commodity costs, economic conditions, customer financing, competition, and execution of product launches and acquisitions.
- Toro acquired privately held irrigation-equipment manufacturer Perrot on January 1, 2017, using existing foreign cash. Purchase accounting was not final, though the acquisition was described as immaterial to consolidated results and financial condition.
- Adoption of stock-compensation accounting guidance produced the $4.9 million tax benefit and may increase tax-rate volatility. Early adoption of intra-entity transfer tax guidance also reduced opening retained earnings by $2.4 million.
- The company reported ordinary-course litigation, including product liability, environmental, and patent matters; management believed any related liability would not materially affect results, financial position, or cash flows. The Red Iron dealer-financing arrangement includes a product-repurchase commitment capped at $7.5 million per calendar year; Toro does not guarantee Red Iron’s debt.
Important facts for investors to verify
- How much of earnings growth is sustainable after the $4.9 million tax benefit and the benefit from lower diluted share count?
- Whether Professional-segment momentum and the Residential-segment recovery persist through the key selling season, given weather sensitivity and seasonal working-capital needs.
- Progress toward Destination PRIME’s FY2017 operating-margin and working-capital goals; quarter-end average net working capital remained above the stated 13% target.
- Cash deployment, debt maturities and covenant headroom, including the term loan due no later than October 2019 and continued repurchases and dividends.
- Perrot purchase-accounting outcomes and integration, commodity and currency impacts, and any material developments in litigation or dealer-financing risks.