Business context and reporting period
The Toro Company designs, manufactures, and markets professional and residential turf, irrigation, landscaping, snow and ice management, and specialty construction products. This unaudited Form 10-Q covers the third quarter and first nine months of fiscal 2017, ended August 4, 2017; comparative periods ended July 29, 2016. Results are seasonal and the nine-month performance should not be annualized.
Financial performance and position
| Metric | Q3 FY2017 | Q3 FY2016 | First 9 months FY2017 | First 9 months FY2016 |
|---|---|---|---|---|
| Net sales | $627.9 million | $601.0 million | $2,016.5 million | $1,923.8 million |
| Operating earnings | $87.8 million | $82.0 million | $307.7 million | $290.9 million |
| Net earnings | $68.4 million | $55.8 million | $233.9 million | $200.8 million |
| Diluted EPS | $0.61 | $0.50 | $2.10 | $1.79 |
| Gross margin | 36.1% | 36.0% | 36.5% | 36.5% |
| Operating margin | 14.0% | 13.6% | 15.3% | 15.1% |
| Net margin | 10.9% | 9.3% | 11.6% | 10.4% |
Q3 sales rose 4.5% and net earnings rose 22.5%; nine-month sales increased 4.8% and net earnings increased 16.5%. Growth reflected Professional segment demand and improved earnings leverage, alongside a lower effective tax rate.
Professional segment sales grew 9.5% in Q3 and 6.6% year to date, led by landscape contractor mowers, golf and grounds equipment, irrigation, and specialty construction. Residential sales fell 9.3% in Q3 and were essentially flat year to date; weaker demand for steering-wheel zero-turn mowers and promotion timing affected Q3. Perrot, acquired January 1, 2017, contributed irrigation sales.
For the first nine months, operating cash flow was $272.0 million, versus $304.0 million a year earlier. Capital expenditure was $36.6 million; investing cash outflow was $56.1 million, including $24.2 million for Perrot. Financing cash outflow was $162.4 million, including $96.1 million of share repurchases and $56.9 million of dividends. Cash increased $61.5 million to $335.0 million.
At August 4, 2017, current assets were $948.1 million and current liabilities $543.9 million. Total debt was approximately $331.8 million, including $23.1 million current and $308.8 million long-term; cash exceeded reported debt by approximately $3.2 million. The company reported $152.1 million of unutilized credit availability and compliance with credit covenants. Foreign subsidiaries held approximately $111.5 million in cash and short-term investments.
Changes, outlook and risk factors
- Gross margin was broadly stable; Q3 improvement reflected product mix and productivity, partly offset by higher commodity and freight costs. SG&A declined as a share of sales.
- The Q3 effective tax rate was 22.6%, versus 30.9%; the nine-month rate was 23.6%, versus 30.5%. The decline principally reflected share-based compensation tax benefits under newly adopted ASU 2016-09, including an $18.9 million year-to-date benefit. Management cautioned that this can make tax expense variable.
- Management’s Destination PRIME goals for fiscal 2017 include organic revenue growth of at least 5%, operating earnings above 13% of sales, and average net working capital at or below 13% of sales. The reported trailing-twelve-month working-capital ratio was 14.0%, down from 16.4%. The filing does not provide a specific full-year earnings or sales forecast.
- Management expects some commodity and component costs to be slightly higher for the remainder of fiscal 2017 and plans mitigation through sourcing, cost reductions, and selective price increases. It believes operating cash, existing financing, and cash on hand will fund anticipated needs for at least twelve months.
- Key exposures include weather and seasonality, foreign exchange, commodity and freight costs, product mix, consumer demand, inventory management, competition, acquisition integration, and customer/dealer financing availability. Litigation includes product liability, environmental, asbestos, commercial, employment, and patent matters; management did not expect these matters, individually or in aggregate, to materially affect results, financial position, or cash flows.
- The Red Iron joint venture provides dealer and distributor inventory financing. Toro’s agreement to repurchase repossessed products is capped at $7.5 million per calendar year; Toro has not guaranteed Red Iron’s debt. The Perrot purchase accounting remained provisional and was expected to be finalized in Q4 FY2017.
- The quarterly dividend increased 16.7% to $0.175 per share. The filing also disclosed a planned November 2017 leadership transition: CEO Richard Olson was to become Chairman, while Michael Hoffman was to retire as Chairman and director.
Investor verification points
- Assess whether Professional segment momentum can offset continuing weakness in Residential zero-turn mower demand and the promotion-timing effect.
- Track working-capital progress against the 13% goal, including the higher inventory and receivables balances and the lower year-over-year operating cash flow.
- Separate recurring earnings improvement from the unusually favorable share-based compensation tax benefits and assess future tax-rate volatility.
- Review debt maturities, floating-rate exposure, covenant headroom, foreign cash availability, and ongoing buybacks and dividends.
- Monitor commodity, freight, currency, weather, dealer-financing, litigation, and Perrot integration risks.