MSC Industrial Direct Co., Inc. — Fiscal 2011 First-Quarter 10-Q Summary
Business context and reporting period
MSC is a direct marketer and distributor of approximately 600,000 metalworking and maintenance, repair and operations products, serving customers through catalogs, websites, five fulfillment centers and 96 branches. The filing covers the unaudited thirteen weeks ended November 27, 2010, compared with the thirteen weeks ended November 28, 2009. The fiscal year ends on a Saturday near August 31.
Financial performance and liquidity
| Metric | Q1 FY2011 | Q1 FY2010 | Change |
|---|---|---|---|
| Net sales | $472.8 million | $384.8 million | 22.9% |
| Gross profit | $217.7 million | $175.7 million | 23.9% |
| Gross margin | 46.0% | 45.7% | Up 30 basis points |
| Income from operations | $77.2 million | $51.0 million | 51.2% |
| Operating margin | 16.3% | 13.3% | Up 300 basis points |
| Net income | $47.6 million | $31.4 million | 51.4% |
| Diluted EPS | $0.75 | $0.50 | 50.0% |
| Cash flow from operations | $41.9 million | $46.8 million | Down $4.9 million |
Operating expenses increased 12.7% to $140.5 million but declined to 29.7% of sales from 32.4%, reflecting operating leverage. The effective tax rate was 38.27%, compared with 38.00%. Interest expense declined to $0.1 million from $0.4 million as average loan balances fell substantially.
Cash and cash equivalents were $80.5 million at November 27, 2010, down from $121.2 million at August 28, 2010. Current assets were $652.4 million and current liabilities were $165.6 million. Inventories increased to $299.1 million from $286.0 million, while accounts receivable increased to $225.5 million from $221.0 million.
Total borrowings were $18.8 million, down from $39.4 million at fiscal year-end. The company had no borrowings under its $150.0 million revolving credit commitment and was in compliance with its debt covenants. The term loan balance was $18.7 million at quarter-end and was fully repaid in December 2010. The credit facility was scheduled to expire on June 8, 2011.
Material changes versus the prior comparable period
- Sales growth reflected approximately $83 million of volume-related growth and approximately $5 million of price realization. Large Account Customer programs contributed approximately $30 million of the increase.
- Management attributed improved results to stronger customer demand, market-share gains, pricing actions, expanded sales resources and investments in electronic procurement tools and productivity.
- Website sales rose to $147.6 million, or 31.2% of consolidated sales, from $114.8 million, or 29.8%.
- Field sales associates increased to 986 from 947, with approximately 1,000 planned by the end of the second quarter.
- Cash used in financing increased to $78.1 million from $16.6 million, primarily because of a $63.3 million special dividend. Total dividends paid were $77.2 million, consisting of a $1.00 special dividend and a $0.22 regular quarterly dividend per share.
- Cash flow from operations declined because inventory investment increased and accounts payable and accrued liabilities provided less cash, partly offset by higher earnings.
Guidance, outlook, risks and unusual items
Management expected operating costs to remain higher through the rest of fiscal 2011 because of growth investments, higher sales volumes, compensation and benefits. It expected cash from operations, existing cash and available revolving-credit capacity to fund operations and planned capital expenditures for at least the next twelve months.
Management cited improving manufacturing indicators, including a December 2010 ISM reading of 57.0%, but emphasized continuing economic uncertainty. Key risks include economic and political conditions, customer and product mix changes, competition, commodity and energy-price volatility, customer credit risk, order cancellations, supply-chain or transportation disruptions, information-system dependence, key-personnel retention, acquisitions and potential litigation or regulatory proceedings.
The Department of Justice asserted approximately $3.3 million of damages related to alleged Trade Agreements Act issues in sales under a General Services Administration contract for periods before fiscal 2008. Discussions were ongoing; absent settlement, the DOJ could seek treble damages. Management believed it had materially complied and did not expect a material adverse effect, but the timing and outcome were uncertain.
On December 10, 2010, MSC completed its acquisition of Rutland Tool & Supply Co. assets for approximately $11.0 million in cash plus assumed liabilities. On December 21, 2010, the board declared a $0.22 per-share dividend payable January 25, 2011. Related-party rent paid to affiliates was approximately $0.6 million during the quarter. The filing reported no off-balance-sheet arrangements and no material changes in market-risk exposures.
Important facts for investors to verify
- Whether sales momentum and market-share gains continued after the quarter, particularly in manufacturing and Large Account Customer programs.
- The sustainability of the 46.0% gross margin after the initial fiscal 2011 pricing action and changes in product mix.
- The effect of planned increases in sales staffing, compensation, benefits and other growth investments on operating leverage.
- Inventory growth and working-capital efficiency, given the decline in operating cash flow.
- Post-quarter liquidity after the term-loan repayment, the Rutland acquisition and ongoing dividends.
- Resolution and potential exposure from the DOJ/GSA Trade Agreements Act matter, including the possibility of treble damages.
- Integration and financial effects of the Rutland Tool & Supply acquisition.