Business Context and Reporting Period
The provided filing is HRG Group, Inc.’s unaudited Form 10-Q for the quarter and six months ended March 31, 2017, filed May 5, 2017. Although the request identifies Spectrum Brands Holdings, Inc., the filing registrant is HRG Group, Inc.; Spectrum Brands is HRG’s Consumer Products segment and HRG owned 58.4% of Spectrum Brands at March 31, 2017.
HRG operated through Consumer Products, Insurance, and Corporate and Other activities. Consumer Products includes Spectrum Brands’ batteries, hardware and home improvement, pet supplies, appliances, personal care, auto care, and home and garden businesses. Insurance includes Front Street reinsurance and HRG’s ownership interest in Fidelity & Guaranty Life (FGL), which was classified as held for sale and reported as discontinued operations.
Financial Results and Key Metrics
| Metric | Three months ended March 31 | Six months ended March 31 |
|---|---|---|
| Total revenue | $1,216.1 million, down 4.0% | $2,405.7 million, down 2.9% |
| Operating income | $143.5 million, up 0.7% | $261.2 million, up 7.8% |
| Income from continuing operations | $3.0 million | $5.0 million |
| Net income attributable to controlling interest | $(82.1) million | $130.1 million |
| Basic EPS attributable to controlling interest | $(0.41) | $0.65 |
| Cash flow from continuing operating activities | Not separately reported for the quarter | $(22.7) million |
Quarterly revenue declined primarily because of lower Consumer Products sales, particularly home and garden, pet supplies, and small appliances, as well as lower Salus revenue. Six-month revenue also reflected unfavorable foreign exchange and lower Insurance segment revenue.
Consumer Products revenue was $1,169.9 million for the quarter and $2,381.7 million for the six months. Consumer Products operating income was $144.2 million and $295.2 million, respectively. Gross margin improved to 38.9% for the quarter and 38.0% for the six months, compared with 38.3% and 37.2% in the prior-year periods. Consumer Products adjusted EBITDA was $220.2 million for the quarter and $434.4 million for the six months, with margins of 18.8% and 18.2%.
Insurance reported an operating loss of $4.1 million for the quarter and $19.5 million for the six months, compared with losses of $1.4 million in each prior-year comparable period. Results were affected by changes in fair values of insurance liabilities and related assets, interest rates, credit spreads, and investment performance.
The quarterly net loss attributable to HRG’s controlling interest included a $60.8 million loss from discontinued operations attributable to FGL. Six-month discontinued operations produced $176.9 million of income attributable to controlling interest, primarily reflecting a $71.7 million reversal of a prior FGL held-for-sale write-down and the absence of a significant prior-year tax charge.
Cash Flow, Liquidity, Debt, and Balance Sheet
- Cash and cash equivalents were $320.3 million at March 31, 2017, down from $497.3 million at September 30, 2016.
- Continuing operating activities used $22.7 million; continuing investing activities used $27.8 million; and continuing financing activities used $122.5 million during the six months.
- Consolidated debt was $5,623.9 million, compared with $5,430.9 million at September 30, 2016. The debt balance included $1,754.4 million of HRG and Corporate and Other debt and approximately $3,780.8 million attributable to Consumer Products in the consolidating information.
- HRG reported corporate cash, cash equivalents, and investments of approximately $139.5 million and $100.0 million of available borrowing capacity under its 2017 Loan. Management expected cash, investments, and subsidiary dividends to cover interest and general administrative requirements for at least the next twelve months.
- Spectrum Brands had $137.2 million of cash and $472.3 million of borrowing availability under its expanded $700.0 million revolving facility, subject to letters of credit and other allocations. Spectrum expected fiscal 2017 capital expenditures of approximately $110 million to $120 million.
- HRG’s total assets were $36,696.8 million, including $27,678.5 million of assets held for sale related to FGL. Total liabilities were $34,928.5 million and total shareholders’ equity was $1,768.3 million.
Material Changes Versus the Prior Comparable Period
- Revenue declined, but operating income increased because of lower Corporate and Other impairments and loan-loss provisions, improved Consumer Products profitability over the six-month period, and lower interest expense.
- Interest expense decreased $6.1 million for the quarter and $9.6 million for the six months, primarily due to Consumer Products refinancing activities.
- The effective tax rate rose to 94.4% for the quarter and 93.8% for the six months, versus tax benefits in the prior-year periods. The change primarily reflected valuation allowances against U.S. deferred tax assets and the lack of realizability of certain tax benefits.
- Consumer Products sales fell 3.3% for the quarter and 1.9% for the six months on a reported basis. Organic sales declined 2.5% for the quarter and 0.8% for the six months after excluding currency effects. Batteries and hardware and home improvement grew, while home and garden, pet supplies, and small appliances declined.
- Spectrum Brands redeemed the remaining $129.7 million of its 6.375% notes due 2020 during the six months and used refinancing proceeds and revolver borrowings to support the transaction.
- Salus continued winding down its asset-based lending operations. Net asset-based loans declined to $6.3 million from $35.0 million at September 30, 2016.
Guidance, Outlook, Risks, and Unusual Items
- Management did not provide consolidated earnings guidance. Spectrum Brands expected fiscal 2017 capital expenditures of approximately $110 million to $120 million.
- On April 17, 2017, FGL terminated its merger agreement with Anbang and began evaluating strategic alternatives. No transaction was assured, and FGL remained classified as held for sale.
- On April 26, 2017, Spectrum Brands agreed to acquire PetMatrix LLC for approximately $255.0 million in cash, with closing expected by the end of May 2017.
- On April 14, 2017, Omar Asali ceased serving as HRG’s CEO and director. Chairman Joseph Steinberg became CEO.
- Key risks include substantial leverage, dependence on subsidiary dividends, covenant compliance, interest-rate and credit-spread volatility, insurance counterparty and regulatory risks, foreign exchange and commodity exposure, retail customer concentration, seasonality, Brexit, potential changes to trade agreements and tariffs, and the uncertain outcome of HRG’s and FGL’s strategic reviews.
- FGL assets and liabilities held for sale totaled $27,678.5 million and $25,995.7 million, respectively. The FGL held-for-sale valuation involved significant fair-value judgments and a $71.7 million six-month reversal of a prior write-down.
- HRG reported effective disclosure controls and no material changes in internal control over financial reporting during the quarter. Management did not expect pending legal matters to have a material effect, although unfavorable outcomes in FGL litigation or regulatory matters could materially affect a future period.
Important Facts for Investors to Verify
- Confirm that the intended issuer is HRG Group, Inc., not Spectrum Brands Holdings, Inc.; the filing consolidates both entities but reports HRG as registrant.
- Reconcile HRG’s reported consolidated results with Spectrum Brands’ standalone filings, including ownership percentages and noncontrolling interests.
- Assess the sustainability of HRG’s liquidity, subsidiary dividend capacity, and the maturity and refinancing requirements of HRG and Spectrum Brands debt.
- Evaluate the valuation and potential sale proceeds of FGL, including the strategic review after termination of the Anbang merger agreement.
- Separate recurring operating performance from FGL discontinued-operation gains, held-for-sale valuation changes, tax valuation allowances, refinancing costs, and other unusual items.
- Monitor Consumer Products inventory timing, retailer ordering and distribution changes, foreign exchange, commodity costs, seasonal demand, and the integration and funding of the PetMatrix acquisition.