Business Context and Reporting Period
The Procter & Gamble Company filed this unaudited Form 10-Q for the three months ended September 30, 2011, the first quarter of fiscal 2012. P&G sells branded consumer packaged goods in more than 180 countries across Beauty, Grooming, Health Care, Snacks and Pet Care, Fabric Care and Home Care, and Baby Care and Family Care.
Financial Results and Key Metrics
| Metric | Q1 FY2012 | Q1 FY2011 | Change |
|---|---|---|---|
| Net sales | $21.917 billion | $20.122 billion | Up 9% |
| Operating income | $4.334 billion | $4.501 billion | Down 4% |
| Net earnings | $3.024 billion | $3.081 billion | Down 2% |
| Diluted EPS | $1.03 | $1.02 | Up 1% |
| Operating cash flow | $2.167 billion | $2.452 billion | Down 12% |
| Free cash flow | $1.334 billion | Not provided | 44% of net earnings |
- Gross margin was 49.5%, down 240 basis points from 51.9%. Operating margin was 19.8%, down 260 basis points, and net margin was 13.8%, down 150 basis points.
- Higher commodity and energy costs reduced gross margin by approximately 340 basis points. Pricing contributed approximately 140 basis points, supplemented by manufacturing savings and volume leverage.
- Net sales growth reflected 1% unit-volume growth, 4% pricing, 5% favorable foreign exchange, and a 1% negative mix impact. Organic sales growth was 4%.
- Capital expenditures were $833 million, or 3.8% of net sales. Investing activities used $859 million.
- Cash and cash equivalents were $3.582 billion at September 30, 2011, compared with $2.768 billion at June 30, 2011.
- Debt due within one year was $11.476 billion and long-term debt was $22.372 billion, for total reported debt of approximately $33.848 billion. The fair value of long-term debt was $24.807 billion.
- Current liabilities exceeded current assets by approximately $4.8 billion. Management stated that operating cash flow, debt refinancing capacity, strong debt ratings, and available financial-institution funding should support liquidity needs.
- The quarterly dividend was $0.5250 per share, up from $0.4818. The Company paid $1.503 billion in dividends and repurchased $1.261 billion of treasury stock.
- The effective tax rate was 26.2%, compared with 28.0% in the prior-year quarter, primarily due to geographic earnings mix.
Material Changes Versus the Prior Comparable Period
- Sales increased across all reportable segments, led by Baby Care and Family Care, which grew 12%, and Grooming and Health Care, each of which grew 10%.
- Profitability was uneven: Snacks and Pet Care net earnings rose 15%, Grooming rose 10%, Health Care rose 9%, and Baby Care and Family Care rose 5%; Beauty declined 12% and Fabric Care and Home Care declined 14%.
- Operating cash flow declined because accounts receivable, inventory, and accounts payable and accrued liabilities collectively consumed approximately $2.0 billion of cash. Inventory alone consumed $927 million.
- Financing cash use declined to $419 million from $1.901 billion, primarily because of increased debt issuance and lower treasury-stock purchases. The Company issued $1.988 billion of long-term debt and reduced long-term debt by $1.013 billion.
- Average diluted shares outstanding declined to 2,945.8 million from 3,025.6 million, allowing diluted EPS to increase despite lower net earnings.
- Total comprehensive income fell to $83 million from $5.896 billion, largely reflecting changes in currency translation and other comprehensive-income items.
Guidance, Outlook, Commentary, Risks, and Unusual Items
- Management reported no formal full-year earnings guidance in the provided filing text. The Company stated that fiscal 2011-12 share repurchases to reduce shares outstanding were estimated at approximately $4 billion to $6 billion, expected to be financed partly with short- and long-term debt.
- P&G expects to manage commodity, foreign-exchange, labor, and interest-rate pressures through pricing, cost savings, sourcing decisions, and hedging. Continued margin pressure from commodities and unfavorable mix remains a key concern.
- The Company announced plans to divest its Snacks business through an all-stock transaction with Diamond Foods, subject to regulatory approval. The business had approximately $1.5 billion of fiscal 2011 sales and $200 million of operating income; closing was expected by the end of calendar 2011.
- P&G had accrued $283 million for European competition-law violations. Additional fines or costs could exceed reserves, although management did not expect incremental losses to materially affect the financial statements based on information available at the filing date.
- Operations are exposed to competitive pricing, changing consumer demand, commodity inflation, foreign-exchange volatility, political and economic instability, supply-chain disruption, regulatory and tax changes, litigation, and information-technology failures.
- Venezuela was treated as a highly inflationary economy. P&G reported approximately $782 million of local-currency net monetary assets, including approximately $325 million remeasured using the SITME rate, and identified exposure to exchange controls, devaluation, repatriation, and local-credit risks.
- The Company reported no material change in market-risk exposure from June 30, 2011. Management concluded that disclosure controls were effective and that no material changes to internal control over financial reporting occurred during the quarter.
Important Facts for Investors to Verify
- Whether pricing actions and cost savings can offset commodity and energy inflation without causing further volume, mix, or market-share deterioration.
- The sustainability of working-capital performance and the resulting decline in operating cash flow and 44% free-cash-flow productivity versus the Company’s stated long-term target of at least 90%.
- The maturity profile, refinancing requirements, and cost of the approximately $33.848 billion of reported debt, particularly given negative working capital.
- The timing and regulatory status of the Snacks divestiture and the effect on future sales, earnings, cash flow, and portfolio mix.
- Developments in European competition-law investigations, including potential fines beyond the $283 million accrued.
- Foreign-exchange restrictions and potential devaluation losses related to Venezuela and other countries with exchange controls.
- Progress in recovering market share and profitability in Beauty and Fabric Care and Home Care, the two segments with the largest reported net-earnings declines.