Business context and reporting period
Herman Miller, Inc. (the filing issuer; not identified in the filing as MillerKnoll) filed this unaudited Form 10-Q for the fiscal third quarter ended February 26, 2011. The quarter and nine-month periods each comprised 13 and 39 weeks, respectively; comparisons are with the periods ended February 27, 2010.
Financial performance and position
| Metric | Q3 FY2011 | Prior-year Q3 | Nine months FY2011 | Prior-year nine months |
|---|---|---|---|---|
| Net sales | $414.8m | $329.6m | $1,207.7m | $997.3m |
| Gross margin | $133.0m; 32.1% | $104.8m; 31.8% | $392.4m; 32.5% | $323.1m; 32.4% |
| Operating earnings | $31.1m; 7.5% | $16.8m; 5.1% | $91.8m; 7.6% | $49.5m; 5.0% |
| Net earnings | $19.8m | $8.3m | $53.8m | $26.2m |
| Diluted EPS | $0.29 | $0.12 | $0.77 | $0.43 |
| Orders | $368.1m | $290.0m | $1,223.8m | $957.9m |
| Backlog at quarter-end | $268.7m | $193.6m | — |
For the nine months, operating cash flow was $53.5m (versus $62.8m); investing cash use was $23.0m, financing cash use $4.3m, and capital expenditures $21.8m. Cash and equivalents were $164.7m at February 26, 2011, compared with $134.8m at May 29, 2010; marketable securities were $11.7m. Current assets were $481.1m and current liabilities $353.1m.
At quarter-end, debt was approximately $300m, including $100.1m of current maturities; the $150m revolving facility had $140.6m available after letters of credit. On March 15, 2011, the company repaid the $100m bond maturity using cash and $50m of new private-placement notes due 2021, reducing total debt to $250m, none current. The company reported compliance with debt covenants and said available cash, operating cash flow, and borrowing capacity were adequate for expected needs.
Material changes and management commentary
- Q3 sales rose 25.8% year over year, reflecting backlog and stronger demand across most areas; orders rose 26.9% and backlog increased 38.8%. Sales were up 0.6% sequentially, while orders declined 20.3% sequentially, which management attributed to typical seasonality.
- Q3 gross margin expanded 30 basis points year over year, driven by higher-volume cost leverage and product mix, partly offset by deeper discounting, higher benefits and incentives, and increased steel and other material costs. Management estimated discounting reduced sales by about $11m year over year; foreign exchange added about $1.8m to sales and $0.9m to gross margin.
- Operating earnings improved, with operating expenses falling as a percentage of sales. Q3 included a $5.4m favorable reduction in operating expenses from Nemschoff contingent-consideration adjustments; there were no restructuring charges versus $2.3m a year earlier. Nine-month restructuring expenses were $3.0m versus $7.1m.
- By segment, Q3 North American sales rose 26.4% to $331.1m and operating earnings were $24.6m; non-North American sales rose to $67.8m and operating earnings to $3.3m. Segment reporting was revised to include Mexico in non-North American.
- Working capital used $18.3m of cash in the first nine months, principally reflecting increases in receivables and inventory. Capital spending guidance was approximately $30m–$32m for FY2011; the effective tax-rate outlook was 29%–30% for the full year.
Outlook, risks, contingencies, and unusual items
Management cited a continuing business recovery. The BIFMA industry forecast available to the company projected calendar-2011 orders and shipments up approximately 9% and 14%, respectively, and calendar-2012 orders and shipments up approximately 8% each; these are industry forecasts, not company guidance. The filing provides no clear full-year company revenue or earnings guidance. The company announced a proposed acquisition of POSH Office Systems, expected to close early in FY2012 subject to establishing a legal structure in China; consideration was expected to include upfront cash and a performance-based payment.
Key risks discussed include economic activity and customer capital spending, competitive pricing and discounting, raw-material availability and prices, supplier and dealer/customer financial strength, foreign exchange, pension assumptions and returns, and execution of product innovation and acquisitions. A 100-basis-point change in the U.S. pension discount rate was estimated to affect the pension liability by approximately $30m. Variable-rate debt exposure ended when the interest-rate swap expired March 15, 2011.
Contingencies include product warranties (reserve $16.7m), performance bonds (maximum exposure about $17.0m), and standby letters of credit (about $9.4m); management reported no expected material claims. A U.K. facility dilapidation obligation was estimated at $0–$3m, with $1.2m accrued. Management said pending ordinary-course litigation and potential GSA audits were not expected to materially affect the financial statements. A $3m cash settlement resolved Nemschoff contingent consideration and the related note receivable.
Important facts for investors to verify
- Confirm subsequent-event debt refinancing terms and the resulting $250m debt balance and maturity profile.
- Assess the durability of sales, orders, and backlog growth, particularly given sequential order declines and deeper discounting.
- Evaluate margin sensitivity to steel and other input costs, discounts, employee costs, and production volumes.
- Separate recurring operating performance from the favorable Nemschoff contingent-consideration adjustment and restructuring items.
- Monitor working-capital needs, capital spending against the $30m–$32m outlook, pension funding, and the proposed POSH acquisition.