Avery Dennison Corporation: Fiscal Q2 2021 10-Q Summary
Business context and reporting period
Avery Dennison is a global materials science and labeling company operating through Label and Graphic Materials, Retail Branding and Information Solutions, and Industrial and Healthcare Materials. The filing covers the 13-week quarter and 26-week year-to-date period ended July 3, 2021, compared with June 27, 2020. Approximately 77% of year-to-date sales were generated internationally.
Key financial metrics
| Metric | Q2 2021 | Q2 2020 | Six months 2021 | Six months 2020 |
|---|---|---|---|---|
| Net sales | $2,102.0 million | $1,528.5 million | $4,153.3 million | $3,251.5 million |
| Gross profit | $576.3 million | $382.9 million | $1,173.3 million | $868.0 million |
| Gross margin | 27.4% | 25.1% | 28.2% | 26.7% |
| Income before taxes | $255.3 million | $103.3 million | $524.2 million | $284.2 million |
| Net income | $183.8 million | $79.7 million | $393.3 million | $213.9 million |
| Diluted EPS | $2.19 | $0.95 | $4.69 | $2.55 |
| Effective tax rate | 27.6% | 21.5% | 24.5% | 24.1% |
| Operating cash flow | Not separately provided for the quarter | Not separately provided for the quarter | $476.8 million | $184.0 million |
| Free cash flow | Not separately provided for the quarter | Not separately provided for the quarter | $388.0 million | $108.8 million |
Q2 net income margin was approximately 8.7%, versus approximately 5.2% in the prior-year quarter. Six-month net income margin was approximately 9.5%, versus approximately 6.6% in the prior-year period.
- Q2 reported sales increased 38%; sales increased 29% excluding currency and the prior-year extra week, and organic sales increased 28%.
- Six-month reported sales increased 28%; sales increased 19% excluding currency and the extra week, and organic sales increased 18%.
- Segment Q2 sales were $1,376.2 million for Label and Graphic Materials, $529.3 million for Retail Branding and Information Solutions, and $196.5 million for Industrial and Healthcare Materials.
- Q2 segment operating income was $228.1 million, $42.1 million, and $22.5 million, respectively.
- Cash and cash equivalents were $344.8 million at July 3, 2021, compared with $252.3 million at January 2, 2021.
- Total debt was approximately $2.05 billion carrying value and $2.24 billion fair value at July 3, 2021. Long-term debt and finance leases were $2.02 billion; no borrowings were outstanding under the $800 million revolving credit facility.
- The company was in compliance with its revolving-credit financial covenant.
- Shareholders’ equity was $1.70 billion at July 3, 2021. The company paid $108.0 million of dividends and repurchased $95.0 million of common stock during the first six months.
Material changes versus the prior comparable period
- Sales and earnings benefited substantially from recovery from COVID-19 impacts in 2020, particularly in RBIS and IHM, higher volume and mix, productivity initiatives, favorable currency translation, and lower credit-loss provisions.
- Gross margin expanded by 230 basis points in Q2 and 150 basis points year to date. Benefits from volume and productivity were partly offset by raw-material and pricing effects, higher employee costs, and the reversal of prior-year temporary cost reductions.
- Q2 operating results included a $29.1 million Brazilian indirect-tax credit and a $26.6 million liability related to an adverse patent-infringement jury verdict. The net effect of these legal-proceeding items was a $2.5 million benefit to other expense, net.
- Restructuring charges declined to $1.7 million in Q2 and $4.6 million year to date, compared with $39.3 million and $41.7 million, respectively, in the prior-year periods.
- Year-to-date investing cash use decreased to $115.9 million from $328.0 million, primarily because 2020 included approximately $250 million for the Smartrac acquisition.
- Year-to-date financing cash flow changed to a use of $267.6 million from a source of $156.1 million, reflecting lower borrowings, increased dividends, and higher share repurchases.
- Operational working capital declined to 11.1% of annualized current-quarter sales from 14.5% in the prior-year quarter. Days sales outstanding improved to 58 from 66, while inventory turnover improved to 7.4 from 6.3.
Guidance, outlook, risks, and unusual items
- Excluding the pending Vestcom acquisition, management expected 2021 sales growth of approximately 16% to 18%, including a 3.5% currency benefit and a 1.5% reduction from the prior-year extra week.
- Management expected more than $60 million of incremental restructuring savings, net of transition costs; a mid-twenty-percent full-year effective tax rate; and increases in operating cash flow and free cash flow.
- Supply chains remained constrained, with higher raw-material, freight, and labor costs. The company was implementing pricing and material-reengineering actions to offset inflation, but did not provide quantified margin guidance.
- COVID-19 uncertainty remained elevated, with the greatest impact in South Asia and within RBIS. Demand was generally strong, but labor availability, supply disruptions, inflation, foreign exchange, and changing regulations remained risks.
- Avery Dennison completed the $43 million aggregate acquisitions of JDC Solutions and ZippyYum. Earn-out liabilities related to one acquisition were estimated at $10.4 million at quarter-end.
- On July 27, 2021, after the quarter ended, the company agreed to acquire Vestcom for $1.45 billion, subject to adjustments, regulatory approvals, and other closing conditions. Management expected closing in the third quarter and planned to fund the acquisition with cash and debt.
- The company recorded a $26.6 million contingent liability for the ADASA RFID patent case, is appealing the verdict, and stated that additional litigation costs could exceed the accrued amount.
- The company was designated as a potentially responsible party at 12 environmental sites and had $20.8 million of environmental liabilities at July 3, 2021. Management could not reasonably estimate a range of potential additional costs.
- Management reported effective disclosure controls and no material changes to internal control over financial reporting.
Most important facts for investors to verify
- Whether volume-driven growth and gross-margin expansion persist after COVID-19 recovery comparisons normalize.
- The extent to which pricing actions offset raw-material, freight, labor, and other inflationary costs.
- Completion, financing, leverage impact, regulatory approvals, and integration results for the $1.45 billion Vestcom acquisition.
- The ultimate outcome and potential additional exposure from the ADASA patent litigation.
- Actual restructuring savings, capital spending, free cash flow, and debt reduction relative to management’s outlook.
- Exposure to international markets, foreign-currency movements, supply-chain disruption, and renewed COVID-19 effects.