Simpson Manufacturing Co., Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Simpson designs, manufactures and sells building construction products across North America, Europe and Asia/Pacific, with North America contributing 85% of second-quarter sales.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net sales | $304.9M | $308.0M | $564.1M | $552.8M |
| Gross profit | $134.2M | $140.6M | $244.4M | $248.2M |
| Gross margin | 44.0% | 45.6% | 43.3% | 44.9% |
| Operating income | $53.7M | $61.4M | $83.7M | $94.1M |
| Net income | $39.6M | $44.1M | $62.2M | $69.5M |
| Diluted EPS | $0.88 | $0.94 | $1.38 | $1.48 |
Q2 sales fell 1.0%, while gross profit declined 4.5% and net income fell 10.2%. Six-month sales increased 2.0%, but gross profit declined 1.5% and net income declined 10.5%. Margin pressure primarily reflected higher material and labor costs; Q2 also saw higher factory overhead and tooling costs on lower production. General and administrative expense rose 6.5% in Q2, including higher consulting and professional fees and SAP costs.
- Cash flow: Six-month operating cash flow was $53.6M, versus $55.4M a year earlier. Capital expenditures were $15.3M; investing cash outflow was $16.3M. Financing cash outflow was $55.6M, including $30.0M of repurchases and $19.7M of dividends. Cash declined to $141.7M from $160.2M at year-end 2018.
- Liquidity and debt: Working capital was $456.7M. The company reported $302.8M of total available credit, including revolving lines and a standby letter of credit; $1.3M was outstanding under credit lines. No amounts were outstanding under the main $300M facility. The company was in compliance with financial covenants.
- Balance sheet: Total assets were $1.070B and total liabilities $201.5M at June 30. Adoption of lease accounting added $35.1M of operating lease right-of-use assets and $34.8M of operating lease liabilities at quarter-end.
- Capital returns: The company repurchased 505,448 shares for $30.0M during the first half. Approximately $70.0M remained under the $100M authorization, which was scheduled to expire December 31, 2019. The quarterly dividend was $0.23 per share.
Material changes and operating trends
- Q2 North America sales decreased 0.3%; operating income fell $9.9M, primarily on lower gross profit and higher G&A expense. Wet weather and lower U.S. housing starts weighed on wood-product volumes.
- Q2 Europe sales decreased 4.7%, including approximately $2.8M of unfavorable currency translation; local-currency sales increased. Operating income rose $1.0M, primarily due to lower expenses.
- For the first half, North America sales increased 3.1%, while Europe sales declined 3.2%, including approximately $5.8M of unfavorable currency translation. Asia/Pacific sales declined 11% but the segment was described as not significant to overall performance.
- Wood products accounted for 84% of first-half sales, down from 86%; concrete products increased to 16% from 14%. Product mix and segment margins varied.
- The company continued its phased SAP implementation, with further U.S. branch deployments expected by early 2020 and company-wide rollout expected during 2021. It said ERP-related operating expenses could continue rising through 2024.
Outlook, commentary and risks
- 2019 outlook: Full-year gross margin approximately 43.5%–44.0%; operating expenses approximately 27.5%–28.5% of sales; effective tax rate approximately 25%–27%. Capital spending was estimated at $30M–$35M.
- 2020 Plan revisions: Management said it expected to achieve its approximately 8% sales CAGR goal from 2016 through 2020. It lowered the 2020 operating margin target to 16%–17% from 21%–22%, citing raw-material cost pressure, and lowered the ROIC target to 15%–16% from 17%–18%. It no longer expected to achieve four inventory turns by 2020, citing higher inventory costs and additional stock held for tariffs, customer rollout and SAP implementation.
- Management expected U.S. single-family housing starts to be flat or grow in the low single digits for the remainder of 2019 and was cautiously optimistic that demand would improve in Q3. Sales are seasonal and can be affected by weather, construction activity, tariffs, steel prices, foreign exchange and project timing.
- Steel is the principal raw material; management warned that higher steel costs could pressure margins if not offset by pricing. The company does not currently hedge foreign-exchange risk.
- Contingencies: The filing describes Hawaii litigation and potential third-party claims concerning alleged premature corrosion of certain products. Management did not expect pending matters, after reserves and indemnification, to materially affect consolidated financial position, but noted outcomes are uncertain. A related matter had a cumulative charge of approximately $3.0M net of tax, including an additional approximately $0.1M recorded in the first half of 2019.
- Management reported effective disclosure controls. It cautioned that SAP implementation changes processes and controls, which it continues to monitor.
Important facts for investors to verify
- Whether raw-material and labor costs continue to compress gross margins, and whether pricing offsets those pressures.
- Housing-start, weather and construction demand trends, particularly their effect on North American wood-product volumes and Q3 demand.
- Progress against 2019 guidance and the revised 2020 margin and ROIC objectives.
- Cash conversion and working-capital movements, including receivables, inventory levels and the company’s inventory-turn targets.
- Exposure and developments in the corrosion-related litigation, and any changes in reserves, insurance coverage or potential claims.
- SAP rollout execution, related costs and effects on operations and internal controls; also confirm the status of the expiring share-repurchase authorization.