Central Garden & Pet Company — Fiscal 2020 First-Quarter 10-Q Summary
Business context and reporting period
Central Garden & Pet manufactures, markets and distributes branded, private-label and third-party pet and garden products. The report covers the three months ended December 28, 2019, compared with the three months ended December 29, 2018. Results are seasonally affected by the Garden segment, which typically generates most sales and operating income in the second and third fiscal quarters.
Key financial metrics
| Metric | Q1 FY2020 | Q1 FY2019 | Change |
|---|---|---|---|
| Net sales | $482.8 million | $462.0 million | 4.5% increase |
| Gross profit | $131.3 million | $130.2 million | 0.8% increase |
| Gross margin | 27.2% | 28.2% | Down 100 basis points |
| Operating income | $2.1 million | $10.2 million | Down $8.1 million |
| Operating margin | 0.4% | 2.2% | Down 180 basis points |
| Net income attributable to Central | $(4.4) million | $1.8 million | Turned to loss |
| Diluted EPS | $(0.08) | $0.03 | Declined |
| Adjusted EBITDA as presented | $15.2 million | $22.5 million | Down $7.3 million |
| Net cash from operating activities | $(18.0) million | $6.8 million | Down $24.8 million |
Pet sales increased 4.0% to $354.0 million, with Pet operating income of $30.2 million. Garden sales increased 5.9% to $128.8 million, but Garden operating loss widened to $8.4 million from $4.6 million. Corporate operating expense increased to $19.8 million from $14.9 million.
At December 28, 2019, cash and cash equivalents were $445.8 million, or $458.8 million including restricted cash. Total debt was $693.4 million, consisting primarily of $400 million of 6.125% senior notes due 2023 and $300 million of 5.125% senior notes due 2028. The $400 million asset-based revolving credit facility had no borrowings outstanding; reported borrowing-base availability was $357.8 million. The company stated that it was in compliance with its debt covenants.
Capital expenditures were $9.9 million. The company expects fiscal 2020 capital expenditures of approximately $45 million to $50 million. Total assets were $2.14 billion and total equity was $973.2 million at quarter-end.
Material changes versus the prior comparable period
- Reported sales growth was driven primarily by acquisitions, including C&S Products and the increased ownership of Arden. Organic sales declined 0.2% overall, with Pet organic sales up 1.3% and Garden organic sales down 4.4%.
- Gross margin contracted because of unfavorable product mix, the loss of a major retailer’s live-fish business, the exit from fashion-decor pottery, and the dilutive margin contribution of Arden.
- SG&A increased 7.7% to $129.2 million, reflecting acquisitions, higher variable compensation, increased non-cash equity compensation, legal and third-party costs, and implementation costs related to the new lease standard.
- Operating cash flow changed from $6.8 million provided to $18.0 million used, primarily due to working-capital changes, including an $89.3 million inventory investment.
- The company repurchased approximately $23.1 million of stock during the quarter, including approximately 0.8 million Class A shares and 0.1 million voting common shares. The $100 million repurchase authorization remained fully available at quarter-end.
- Effective September 29, 2019, the company adopted ASC 842. It recorded approximately $111 million of operating lease right-of-use assets and $115 million of lease liabilities without a beginning retained-earnings adjustment.
Outlook, commentary, risks and unusual items
- Management expects available cash, operating cash flow, supplier credit and the revolving facility to meet anticipated working-capital, capital-spending and other cash needs for at least the next 12 months, while noting that financing availability and terms are not assured.
- A November 2019 fire at the DMC facility in Athens, Texas caused estimated inventory, property and business-interruption losses of $35 million to $40 million. Approximately $19 million of losses had been incurred and $8 million of insurance proceeds received by quarter-end; an additional $11 million insurance payment had been approved. Management believes insurance coverage is sufficient, but recovery remains subject to execution and the claim process.
- The Garden business remains highly seasonal, and first-quarter results are not indicative of full-year performance. Weather, raw-material prices, energy costs, tariffs, consumer spending and the ability to pass through cost increases may affect results.
- The company disclosed the potential impact of the coronavirus on sourcing and manufacturing in China and on inventory availability if an outbreak were prolonged.
- Nite Glow litigation remains unresolved. A 2018 jury verdict awarded approximately $12.6 million; post-trial proceedings and a potential appeal were pending. Management believes the matter will not materially affect consolidated financial statements but acknowledges that the final outcome is uncertain.
- Other key risks include acquisition integration, goodwill and intangible-asset impairment, customer concentration, competition, product liability and recalls, cyberattacks, ERP implementation, environmental liabilities, international sourcing and LIBOR transition.
Investor verification points
- Verify whether the DMC fire insurance proceeds fully cover asset and business-interruption losses and whether fulfillment or customer impacts recur.
- Assess Garden segment sales, margins and cash generation during the seasonally important second and third quarters.
- Monitor inventory growth, working-capital needs and the conversion of operating losses into positive seasonal cash flow.
- Review acquisition-related revenue and margin contributions, particularly C&S Products and Arden, separately from organic performance.
- Evaluate leverage, 2023 debt maturity and the company’s continued compliance with revolving-credit and senior-note covenants.
- Track the Nite Glow litigation, unclaimed-property examinations and any additional contingencies or insurance recoveries.
- Reconcile management’s non-GAAP organic sales and EBITDA measures to GAAP results when evaluating operating performance.