Stepan Company — Q2 2013 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2013. Stepan produces intermediate chemicals across surfactants, polymers and specialty products. Unless otherwise noted, financial amounts below are in millions of dollars.
Financial performance
| Metric | Q2 2013 | Q2 2012 | First half 2013 | First half 2012 |
|---|---|---|---|---|
| Net sales | $474.4 | $470.2 | $931.0 | $935.5 |
| Gross profit | $73.7 | $73.4 | $146.4 | $150.2 |
| Operating income | $35.9 | $34.8 | $64.2 | $70.2 |
| Net income attributable to Stepan | $22.7 | $21.4 | $41.8 | $43.7 |
| Diluted EPS | $0.99 | $0.94 | $1.82 | $1.93 |
Q2 sales increased 0.9%; diluted EPS rose 5.3%. First-half sales declined 0.5%, operating income declined 8.6%, and diluted EPS fell 5.7%. Approximate gross, operating and net margins were 15.5%, 7.6% and 4.8% in Q2 2013, versus 15.6%, 7.4% and 4.6% a year earlier. First-half 2013 margins were approximately 15.7%, 6.9% and 4.5%, versus 16.1%, 7.5% and 4.7% in first-half 2012.
Q2 sales volume increased 4%, but lower average selling prices reduced sales by $15.6 million, largely reflecting lower surfactant raw-material costs. Q2 segment results were mixed: surfactants operating income fell 16% to $26.0 million; polymers rose 15% to $13.5 million; specialty products rose 24% to $4.2 million. For the first half, surfactants operating income fell 13% to $55.6 million, polymers rose 3% to $24.3 million, and specialty products fell 4% to $7.0 million.
Cash flow, debt and liquidity
- First-half operating cash flow was $41.8 million, compared with $36.8 million in 2012. Capital expenditures were $42.0 million; acquisition spending was $62.6 million. Investing activities used $108.3 million.
- Cash increased $30.0 million to $106.9 million. Receivables used $49.2 million of operating cash, partly offset by a $29.5 million source from accounts payable and accrued liabilities.
- Total debt was $285.4 million at June 30, up from $182.4 million at year-end; net debt was $178.6 million, up from $105.5 million. The company had $122.2 million available under its $125 million revolving facility and no borrowings under it.
- A new $100 million unsecured private placement note carries a fixed 3.86% rate, with principal amortization beginning in 2019 and final maturity in 2025. Management said higher debt would increase future interest expense.
- Current assets were $596.0 million and current liabilities $260.8 million. Management said liquidity, including cash, operating cash flow and committed facilities, should be sufficient for planned needs and anticipated working-capital increases.
Material changes, outlook and risks
- On June 1, Stepan acquired Bayer MaterialScience’s North American polyester resins business for $68.2 million cash, including a 21,000-ton facility and R&D laboratory in Columbus, Georgia. The acquired business had approximately $64 million in annual sales before purchase; its post-acquisition 2013 contribution was immaterial. Management expected the deal to be slightly accretive in 2013 and more beneficial after capacity expansion.
- Management estimated 2013 capital expenditures of $105–$110 million, including expansions in Brazil, Germany, China and the U.S. It described full-year earnings growth as an aggressive target given the slow first half.
- Management expected global surfactant consumer-product volumes to grow, particularly in Brazil; Singapore methyl ester operations to contribute in the second half; and enhanced-oil-recovery surfactants to improve from a slow first half. High-priced inventory and falling commodity prices reduced first-half surfactant margins by approximately $3.0 million and could have a further negative effect of up to $1.7 million in the second half.
- China’s Nanjing polymer facility has ceased production and must be relocated. The company plans a new facility in the Nanjing Chemical Industrial Park; construction is expected to take 18–24 months once begun. Interim sourcing, lower margins and shutdown-related costs weighed on polymer results.
- Environmental and legal loss estimates ranged from $10.0 million to $29.0 million; accrued liabilities were $15.1 million. The company considered its provisions adequate, but noted that unresolved sites could produce material period-specific effects if adverse determinations occur.
- Other items to monitor include increased European customer credit risk and bad-debt provisions, foreign-currency and raw-material exposure, and debt covenant requirements. Management reported compliance with loan covenants at June 30 and expected continued compliance through 2013. It also announced redemption of remaining convertible preferred shares on August 9, 2013.
Investor verification points
- Track whether surfactant margins recover as high-cost methyl ester inventory is used and Singapore operations contribute.
- Verify acquisition integration, accretion, planned Columbus capacity investment and financing-related interest costs.
- Monitor progress, timing and costs of the Nanjing relocation and the effect on polymer profitability.
- Assess cash conversion and working-capital needs, particularly receivables, alongside the $105–$110 million capital-spending plan and higher leverage.
- Review updates to environmental/legal exposures, customer credit reserves and compliance with debt covenants.