Central Garden & Pet Company — Fiscal 2015 Third-Quarter Form 10-Q
Business context and reporting period
Quarterly report for the three and nine months ended June 27, 2015, compared with June 28, 2014. Central Garden & Pet operates in pet supplies and lawn and garden products through its Pet and Garden segments. Results are seasonal, particularly in Garden, which generates most sales and operating income in the second and third fiscal quarters. Financial statements are unaudited.
Key financial metrics
| Metric | Three months ended June 27, 2015 | Three months ended June 28, 2014 | Nine months ended June 27, 2015 | Nine months ended June 28, 2014 |
|---|---|---|---|---|
| Net sales | $459.4 million | $438.0 million | $1,264.4 million | $1,230.1 million |
| Gross profit | $142.0 million | $119.1 million | $380.1 million | $346.5 million |
| Gross margin | 30.9% | 27.2% | 30.1% | 28.2% |
| Income from operations | $39.0 million | $18.4 million | $90.1 million | $54.8 million |
| Operating margin | 8.5% | 4.2% | 7.1% | 4.5% |
| Net income attributable to Central | $18.8 million | $4.7 million | $36.3 million | $12.9 million |
| Diluted EPS | $0.38 | $0.09 | $0.73 | $0.26 |
Third-quarter sales increased 4.9%; nine-month sales increased 2.8%. Third-quarter operating income increased 111.6%, while nine-month operating income increased 64.3%. Selling, general and administrative expense was 22.4% of sales in the quarter and 22.9% for the nine months, compared with 23.0% and 23.7%, respectively, in the prior periods.
- Segment performance: Third-quarter Pet sales rose 4.8% to $238.1 million and operating income rose 15.8% to $32.9 million. Garden sales rose 4.9% to $221.3 million and operating income rose to $23.5 million from $4.0 million. For the nine months, Pet sales rose 4.9% to $658.9 million and Garden sales rose 0.6% to $605.4 million.
- Cash flow: Nine-month operating cash flow was $56.6 million, down from $68.9 million. Investing cash outflow was $23.0 million, including $18.2 million of capital expenditures and $16.0 million invested in joint ventures. Financing cash outflow was $68.1 million. Cash and cash equivalents ended at $43.8 million.
- Balance sheet: Total assets were $1.159 billion and total equity was $511.4 million at June 27, 2015. Accounts receivable were $223.1 million and inventories were $340.2 million.
- Debt and liquidity: Total debt was $400.2 million versus $450.3 million a year earlier. Net debt was $356.3 million versus $404.2 million. The $390 million asset-based revolving facility had no borrowings, $384 million of borrowing availability, and $7.2 million of other letters of credit outstanding. The Company stated that liquidity should be adequate for at least the next 12 months, subject to risks and financing availability.
Material changes versus the prior comparable period
- Results benefited materially from the absence of a $16.9 million Garden charge in the prior-year quarter related to discontinued products, including inventory write-offs, returns and promotional allowances. The prior year also included a $2.0 million gain on the sale of Garden plant assets.
- Excluding those prior-year items, third-quarter operating income increased $5.7 million and adjusted operating margin improved to 8.5% from 7.5%. For the nine months, adjusted operating income increased $20.4 million and adjusted operating margin improved to 7.1% from 5.6%.
- Pet results improved on higher sales, particularly in animal health, treats and toys, but Pet gross margin declined because of weakness and competition in flea and tick products.
- Garden results improved in grass seed, controls and fertilizer, although nine-month Garden sales were pressured by lower grass seed, wild bird feed and decor volumes.
- In March 2015, the Company redeemed $50.0 million of its 8.25% 2018 Notes at 102.063%, recognizing an approximately $1.6 million interest expense charge for the call premium and financing-cost write-off.
- The Company repurchased approximately $15.1 million of common stock during the nine months, while cash declined by $34.8 million from fiscal year-end, primarily because of debt repayment, share repurchases and seasonal working-capital needs.
Guidance, outlook, management commentary, risks and unusual items
- Fiscal 2015 capital expenditures were expected not to exceed $30 million, primarily for facility upgrades and the enterprise-wide information technology platform.
- Management expects operating cash flow and, if needed, the revolving facility to fund working capital, capital spending and other needs. No formal revenue or earnings guidance was provided in the filing.
- On July 31, 2015, after the reporting period, the Company acquired substantially all assets of IMS Trading Corp. for approximately $25 million. IMS manufactures, imports and distributes rawhide, natural dog treats and pet products.
- Chief Executive Officer John Ranelli agreed to remain through planned retirement at the end of fiscal 2016 and consult for four additional years. Chief Financial Officer Lori Varlas was scheduled to leave September 2, 2015; David N. Chichester was named Acting CFO. The Chairman took a leave of absence, with the Lead Independent Director serving as interim non-executive chairman.
- Principal risks include seasonality and weather, commodity and energy costs, inability to pass through cost increases, competition, customer concentration and retail consolidation, consumer spending, acquisitions and integration, goodwill or intangible impairment, supply shortages, international sourcing, product liability and recalls, cyber attacks, ERP implementation, litigation and access to capital.
- The Company reported no material legal proceedings, no material changes to previously disclosed risk factors or off-balance-sheet arrangements, and compliance with debt covenants. Disclosure controls were assessed as effective.
- The Company invested $16.0 million for 50% interests in two newly formed joint ventures; these investments were not expected to contribute to earnings in the near term.
Important facts for investors to verify
- Whether improved Garden margins and operating performance persist after the favorable comparison with the prior-year discontinued-product charge.
- Pet segment exposure to competition and margin pressure in flea and tick products, and the sustainability of growth in animal health and dog and cat products.
- Seasonal working-capital requirements, inventory reduction progress and the conversion of reported earnings into operating cash flow.
- Debt maturity and refinancing plans for the remaining approximately $400 million of 8.25% notes due March 2018, including the redemption option after March 1, 2016.
- Integration, purchase accounting and financial contribution from the post-quarter-end IMS Trading acquisition.
- Execution of the CEO succession, Acting CFO transition and continuing ERP implementation.
- Future effects of the disclosed accounting standards, including debt issuance cost presentation, consolidation, cloud computing, stock compensation and inventory measurement.