Graco Inc. — Q3 2021 Form 10-Q
Business context and reporting period: Graco designs, manufactures and markets equipment and systems for moving, measuring, controlling, dispensing and spraying fluids and coatings. This unaudited filing covers the quarter ended September 24, 2021, and the nine months then ended; comparisons are with the corresponding 2020 periods. Its reportable segments are Industrial, Process and Contractor.
Financial performance
| Metric | Q3 2021 | Q3 2020 | Nine months 2021 | Nine months 2020 |
|---|---|---|---|---|
| Net sales | $486.7 million | $439.3 million | $1,448.0 million | $1,179.8 million |
| Gross profit margin | 51.0% | 52.1% | 52.4% | 51.7% |
| Operating earnings | $124.6 million | $125.0 million | $386.7 million | $259.6 million |
| Net earnings | $103.8 million | $114.1 million | $319.6 million | $215.8 million |
| Diluted EPS | $0.59 | $0.66 | $1.83 | $1.26 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $357.2 million | $262.7 million |
Q3 sales rose 11% year over year, while operating earnings were essentially flat, net earnings fell 9% and diluted EPS fell 11%. For the nine months, sales increased 23%, operating earnings 49%, net earnings 48% and diluted EPS 45%. Excluding the prior-year impairment and specified tax items, nine-month operating earnings increased 31%, adjusted net earnings 35% and adjusted diluted EPS 33%; Q3 adjusted net earnings fell 1% and adjusted diluted EPS fell 3%. These are company-presented non-GAAP measures.
Q3 operating margin was 25.6%, versus 28.5%; the prior-year quarter included a small impairment charge. Nine-month operating margin was 26.7%, versus 22.0%, with the comparison benefiting from a $35.2 million impairment in 2020. The effective tax rate was 14.7% for Q3 and 15.7% year to date, compared with 5.7% and 12.0%; the company cited lower excess tax benefits from option exercises and the absence of certain 2020 tax benefits.
Segments and material changes
- Industrial: Q3 sales increased 22% to $211.0 million; operating margin was 35%, unchanged. Nine-month sales increased 29% to $600.3 million, and margin rose to 35% from 32%.
- Process: Q3 sales increased 22% to $96.2 million; margin rose to 22% from 21%. Nine-month sales increased 17% to $284.8 million; margin rose to 23% from 19%.
- Contractor: Q3 sales declined 4% to $179.5 million and margin fell to 20% from 29%. Nine-month sales increased 19% to $562.9 million, while margin declined to 24% from 26%. The Q3 sales decline reflected a prior-year new-product launch that did not repeat; higher product costs pressured margins.
Sales grew across all regions overall, with Q3 growth concentrated outside the Americas. The company reported supply-chain and inflationary cost pressures, including raw-material inflation, logistics challenges and component shortages; these particularly affected Contractor profitability.
Cash, debt and liquidity
Cash and cash equivalents were $603.8 million at September 24, 2021, up from $378.9 million at year-end 2020. Current assets were $1,333.1 million and current liabilities $427.2 million. Inventory increased to $362.9 million from $285.7 million. Nine-month operating cash flow of $357.2 million increased $94.5 million year over year, partly offset by higher receivables and inventory as business activity grew.
Cash uses included $95.2 million of dividends, $82.6 million of capital expenditures and $19.4 million for acquisitions. The company made no share repurchases through Q3 2021. Debt included $50.3 million of short-term bank notes and $150.0 million of long-term debt. It reported $595 million of credit lines, of which $545 million was unused. Its $500 million unsecured revolving facility was extended to March 2026 and includes a $250 million accordion feature. Management said cash and unused financing were expected to support 2021 operating needs, capital spending, dividends, repurchases and acquisitions.
Outlook, risks and unusual items
Management maintained its full-year 2021 target of mid-to-high-teen organic, constant-currency sales growth and said demand remained strong across segments and major end markets. It expected supply-chain and inflation challenges to continue into 2022. The filing does not quantify the expected full-year effect of those pressures on margins or earnings.
After quarter-end, Graco agreed to transfer approximately $63 million of pension obligations covering about 421 participants to an insurer, funded with existing plan assets. It expected a non-cash pretax pension settlement loss of approximately $12 million in Q4 2021; the actual charge would depend on plan-asset values and the discount rate. The company also planned to merge its smaller U.S. pension plan into its larger plan.
Key risks cited include COVID-19 impacts, supply interruptions, economic and end-market conditions, customer demand, currency movements, international operations, cybersecurity, acquisitions, regulation and litigation, and pension investment returns and obligations. The filing reported no material changes to previously disclosed risk factors or market-risk disclosures. Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether supply, logistics and inflation pressures persist into 2022 and continue to weigh on Contractor margins.
- How the maintained organic sales-growth target translates into reported growth, profitability and cash conversion.
- The final pension settlement charge and its effect on Q4 results and pension obligations.
- Drivers of Q3’s lower net earnings and EPS, particularly margin compression and the higher effective tax rate.
- Whether inventory growth and planned capital spending, dividends, acquisitions or potential repurchases change the company’s cash and borrowing position.