Avery Dennison Corporation — Fiscal Q1 2013 Form 10-Q
Business context and reporting period
The filing covers the 13-week quarter ended March 30, 2013, compared with the 13-week quarter ended March 31, 2012. Results are presented on an unaudited basis. The Pressure-sensitive Materials and Retail Branding and Information Solutions businesses generated the substantial majority of continuing-operations sales.
Office and Consumer Products (OCP) and Designed and Engineered Solutions (DES) were classified as discontinued operations and held for sale following a January 2013 agreement to sell them to CCL Industries for approximately $500 million in cash, subject to customary adjustments and closing conditions.
Financial performance and key metrics
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Net sales | $1,498.9 million | $1,443.0 million | +3.9% |
| Gross profit | $401.7 million | $377.1 million | +6.5% |
| Gross margin | 26.8% | 26.1% | +70 bps |
| Income from continuing operations | $66.8 million | $44.6 million | +49.8% |
| Continuing-operations pretax margin | 5.4% | 4.3% | +110 bps |
| Net income | $57.8 million | $43.9 million | +31.7% |
| Diluted earnings per share | $0.57 | $0.41 | +39.0% |
| Operating cash flow | $(65.7) million | $10.7 million | Declined $76.4 million |
| Free cash flow | $(94.5) million | $(22.6) million | Declined $71.9 million |
Marketing, general and administrative expense increased to $300.9 million from $288.9 million, primarily because of higher employee-related costs, partly offset by restructuring savings. Interest expense declined to $12.2 million from $18.3 million. The effective tax rate on continuing operations was 17.6%, versus 28.4%, including $10.3 million of discrete tax benefits in 2013.
Discontinued operations reported sales of $161.9 million, down from $200.7 million, and a net loss of $9.0 million, compared with a $0.7 million loss. The loss reflected lower OCP volume and higher divestiture-related costs.
Segments and material changes
- Pressure-sensitive Materials: Sales increased 3% to $1,098.0 million; operating income rose to $104.9 million from $100.1 million. Productivity and restructuring benefits and higher volume were partly offset by higher employee-related costs.
- Retail Branding and Information Solutions: Sales increased 6% to $382.7 million; operating income rose to $14.6 million from $6.1 million. Growth reflected higher demand from U.S. and European retailers and brands, including strong RFID growth.
- Other specialty converting businesses: Sales increased 2% to $18.2 million, while the operating loss narrowed to $2.7 million from $3.2 million, primarily because of higher medical-business volume.
- Organic sales increased 4% year over year, with no material foreign-currency translation impact in Q1 2013. International operations represented approximately 74% of sales.
- Restructuring charges were $8.1 million in Q1 2013. The company expects the 2012 restructuring program to generate more than $100 million of annualized savings, with approximately $20 million realized in 2012 and most remaining savings expected in 2013.
Liquidity, debt and capital allocation
Cash and cash equivalents were $207.7 million at March 30, 2013, compared with $235.4 million at year-end 2012. Total debt increased to approximately $1.36 billion from $1.22 billion, mainly because of higher commercial paper and foreign short-term borrowings used for operations and share repurchases. The company was in compliance with its debt covenants.
A $675 million revolving credit facility, maturing December 22, 2016, supported the commercial paper program; no amounts were outstanding at quarter-end. Management stated that the revolver and other bank lines should provide sufficient liquidity for the next twelve months based on its outlook.
The company repurchased approximately 1.5 million shares for $61.8 million and paid $27.1 million in dividends. The quarterly dividend was increased after quarter-end from $0.27 to $0.29 per share. In April 2013, the company issued $250 million of 3.35% senior notes due 2023 and used approximately $247.5 million of net proceeds to repay commercial paper.
Guidance, outlook, risks and unusual items
- Management expected 2013 organic sales and earnings from continuing operations to increase versus 2012.
- Expected 2013 pension contributions were at least $60 million; capital and software expenditures were estimated at approximately $175 million; and interest expense was expected to be approximately $60 million.
- Management estimated approximately $25 million of 2013 restructuring costs and other items, net of gains on asset sales, and expected to complete the 2012 restructuring program during 2013.
- The OCP and DES sale was expected to close in mid-2013. The company also sold its Pasadena headquarters after quarter-end for approximately $20 million, with an estimated pretax gain of $10 million and a short-term leaseback.
- Operating cash flow and free cash flow were negative because of working-capital timing, including inventory payments and incentive-compensation effects. Operational working capital improved to 11.5% of annualized sales from 12.1%.
- Key risks include demand and economic conditions, competitive pricing, raw-material availability and costs, the ability to offset costs through productivity or pricing, foreign exchange, customer and supplier concentration, execution of restructuring and divestitures, access to capital markets, tax audits, environmental matters, litigation, and potential impairment of goodwill and other assets.
- Environmental liabilities were $32.4 million at quarter-end. The company was identified as a potentially responsible party at 14 sites. Management stated that other legal and environmental matters were not expected to be material based on current information, although the ultimate costs are uncertain.
Most important facts for investors to verify
- Whether the OCP and DES transaction closed as expected and the final cash proceeds and purchase-price adjustments.
- Whether the planned restructuring savings and approximately $25 million of 2013 restructuring costs were achieved or exceeded.
- The sustainability of the Q1 margin improvement after excluding discrete tax benefits, restructuring effects, and other unusual items.
- Working-capital normalization and the return of operating and free cash flow to positive levels.
- Commercial paper balances, refinancing activity, leverage, credit ratings, and covenant compliance after the April 2023-note issuance.
- Progress against 2013 sales, earnings, pension funding, capital-spending, and interest-expense expectations.
- Potential changes in environmental, litigation, tax, foreign-exchange, and discontinued-operation liabilities.