Graco Inc. — Q3 2019 Form 10-Q
Business and period. Graco designs, manufactures and markets equipment for moving, measuring, controlling, dispensing and spraying fluids and coatings. This unaudited report covers the quarter ended September 27, 2019, and the first nine months of fiscal 2019; comparisons are with the corresponding 2018 periods.
Financial performance
| Metric | Q3 2019 | Q3 2018 | First 9 months 2019 | First 9 months 2018 |
|---|---|---|---|---|
| Net sales | $400.6 million | $415.9 million | $1,233.8 million | $1,246.9 million |
| Gross profit margin | 51.8% | 53.2% | 52.7% | 54.0% |
| Operating earnings | $103.4 million | $114.8 million | $320.3 million | $339.9 million |
| Operating margin | 25.8% | 27.6% | 26.0% | 27.3% |
| Net earnings | $84.1 million | $92.7 million | $259.0 million | $267.3 million |
| Diluted EPS | $0.49 | $0.54 | $1.51 | $1.54 |
| Operating cash flow | Not separately reported | Not separately reported | $299.5 million | $254.3 million |
Q3 sales fell 4%, operating earnings fell 10%, and net earnings fell 9% year over year. For the first nine months, sales declined 1%, operating earnings 6%, and net earnings 3%. Q3 gross margin contracted 1.4 percentage points; operating margin contracted 1.8 points.
Cash and cash equivalents were $177.3 million at quarter-end, versus $132.1 million at December 28, 2018. Current assets were $772.6 million and current liabilities $287.5 million. Short-term bank notes were $4.7 million and long-term debt $192.1 million. The company had $594 million of credit lines, of which $548 million was unused.
Nine-month investing cash outflows were $122.7 million, including $102.5 million of property, plant and equipment additions and $19.2 million for acquisitions. Financing cash outflows were $129.0 million, including $79.8 million of dividends and a $75 million prepayment of private-placement debt due in 2020. The reported cash-flow statement also shows $106.5 million of long-term borrowings and $179.3 million of debt and line-of-credit repayments.
Drivers and material changes
- Management attributed lower gross margins to reduced factory volume, unfavorable product and channel mix, and currency effects. Pricing offset the impact of higher material costs.
- Currency translation reduced sales by approximately $6 million (2 percentage points) in Q3 and $26 million (2 percentage points) year to date. At constant translation rates, growth in the Americas and EMEA was more than offset by Asia Pacific declines.
- Asia Pacific weakness was particularly pronounced in Industrial: Q3 Industrial sales declined 11% overall, while segment operating margin fell to 33% from 36%. Process Q3 sales were down 1%, with margin improving to 22% from 21%. Contractor Q3 sales rose 4%, with margin steady at 24%.
- Operating expenses declined 3% in Q3 and 1% year to date, as lower volume- and earnings-based costs more than offset higher product-development spending. Year-to-date other expense was $4 million lower, mainly due to lower foreign-exchange losses.
- Reported tax rates were 13.1% for Q3 and 15.2% year to date. Adjusted for excess stock-option tax benefits and other non-recurring tax benefits, rates were 20.0% and 20.3%, respectively. Adjusted diluted EPS was $0.45 for Q3 and $1.42 year to date, versus $0.50 and $1.45 in the comparable 2018 periods.
Outlook, risks and other items
Management lowered its full-year 2019 outlook to flat worldwide revenue on a constant-currency, organic basis, citing a sharp Asia Pacific decline and slowing in Industrial and Process in the Americas. It said it intends to fund growth initiatives while exercising discipline on discretionary spending. The filing provides no numerical full-year earnings or EPS guidance.
Management identified risks including global economic conditions, product demand, currency movements, supply disruptions, international operations, cybersecurity, regulation and tax changes, acquisitions, litigation, and exposure to construction, automotive, mining, and oil and gas activity. It also noted possible declines in purchases from a few large Contractor-segment customers. No material change in risk factors or market-risk disclosures was reported.
The company adopted the new lease standard at the start of fiscal 2019, recognizing $35 million of operating lease assets and liabilities at transition; management said adoption did not materially affect earnings or cash flows. At September 27, operating lease liabilities were $32.7 million. 2019 acquisitions were described as not material to the consolidated financial statements. Disclosure controls were judged effective, with no material change in internal control reported.
Investor verification points
- Track whether Asia Pacific demand stabilizes and whether the flat constant-currency, organic revenue outlook is achieved.
- Assess the durability of gross-margin pressure from lower factory volume, mix, currency and input costs, and the contribution from pricing.
- Reconcile reported earnings and EPS with adjusted figures, particularly the effects of stock-option tax benefits and other tax adjustments.
- Monitor capital spending, debt repayments, cash generation, planned dividends, and any additional share repurchases or acquisitions.
- Review the full risk-factor discussion in the 2018 Form 10-K and subsequent filings; this 10-Q states that risk factors were not materially changed.