The Toro Company — Q3 FY2011 Form 10-Q
Reporting period: Fiscal third quarter ended July 29, 2011, and the first nine months of FY2011. Toro designs, manufactures, and markets professional turf and irrigation equipment, landscaping products, and residential lawn and snow products. Its business is seasonal; management cautions that nine-month results should not be annualized.
Financial performance
| Metric | Q3 FY2011 | Q3 FY2010 | Nine months FY2011 | Nine months FY2010 |
|---|---|---|---|---|
| Net sales | $501.0 million | $458.9 million | $1,515.9 million | $1,353.1 million |
| Operating earnings | $54.7 million | $53.8 million | $175.3 million | $145.7 million |
| Net earnings | $35.1 million | $33.4 million | $112.6 million | $90.0 million |
| Diluted EPS | $1.11 | $1.01 | $3.51 | $2.66 |
| Gross margin | 33.5% | 35.2% | 34.2% | 34.4% |
| Operating margin | 10.9% | 11.7% | 11.6% | 10.8% |
| Net margin | 7.0% | 7.3% | 7.4% | 6.7% |
Third-quarter sales rose 9.2% and net earnings 5.0%; nine-month sales rose 12.0% and net earnings 25.1%. Nine-month diluted EPS increased 32.0%, helped in part by share repurchases, which contributed approximately $0.18 per share versus the prior-year period. The Q3 effective tax rate was 32.9%, down from 35.7%; the nine-month rate was 32.7%, versus 34.4%.
Cash flow, balance sheet, and liquidity
- Nine-month operating cash flow was $72.5 million, down from $157.4 million. Increased receivables, inventory, and other working-capital needs were the principal factors, partly offset by higher earnings.
- Investing cash outflow was $56.9 million, including $43.3 million of capital expenditures and $14.1 million for acquisitions. Financing cash outflow was $77.3 million, including $71.2 million of share repurchases and $18.9 million of dividends.
- Cash was $118.1 million at July 29, 2011, down from $177.4 million at October 31, 2010. Total debt was approximately $227.9 million, including $2.7 million current long-term debt, $0.1 million short-term debt, and $225.2 million long-term debt.
- Current assets were $629.7 million and current liabilities $397.7 million. Receivables were $199.0 million and inventory $232.4 million. Inventory was up 31.1% year over year, reflecting prebuilding of residential products ahead of expected demand that did not materialize as anticipated, as well as currency effects.
- Toro reported $164.3 million of unused availability under credit agreements and no borrowings under its new $150 million revolving facility at quarter-end. Management said available cash, operating cash flows, and financing arrangements should cover anticipated needs for at least the next 12 months. The company was in compliance with its credit covenants; ratings remained BBB- at S&P and Baa3 at Moody’s.
Changes, outlook, and notable items
- Professional-segment sales increased 8.8% in Q3 and 16.2% year to date, supported by new products, better availability, demand for golf and irrigation products, and a recovering rental market. Residential sales rose 8.6% in Q3 and 3.8% year to date, led by preseason snow-thrower shipments; weather weakened demand for mowers and riding products.
- Residential segment pretax earnings fell 56.5% in Q3 and 13.5% year to date. Toro recorded a $4.5 million pretax charge for rework of a non-safety quality issue affecting many walk power mowers. Higher commodity and freight costs also pressured margins; higher plant utilization partly offset these effects year to date.
- Management said it expected positive momentum to continue through the rest of FY2011, while citing economic uncertainty, weather, retail demand, field inventory, and input costs as risks. Toro believed it would achieve its FY2011 Destination 2014 goal of $100 million in organic revenue growth. Its longer-term stated goal is 12% operating earnings as a share of sales by FY2014; the filing gives no specific full-year EPS guidance.
- Average fuel, commodity, and component costs were higher and management expected them to remain higher for the rest of FY2011 versus FY2010. Planned responses included supplier negotiations, alternative sourcing, cost reduction, and selective price increases.
- Toro acquired Lawn Solutions Commercial Products in June and Unique Lighting Systems in January. It expected to complete its Romania micro-irrigation manufacturing facility and begin production in Q4 FY2011. The acquisitions were described as immaterial to consolidated results; purchase consideration for Lawn Solutions includes an estimated earnout.
- The U.S. lawnmower horsepower-labeling settlement became final after appeals were dismissed; management did not expect a material adverse effect. A related Canadian class action remained under evaluation, and Toro said it could not yet assess whether an unfavorable outcome would be material.
- Foreign-exchange forward contracts were used to manage exposures, not for speculation. The company reported $4.2 million of derivative liabilities at quarter-end and anticipated reclassifying about $0.5 million of accumulated losses to earnings over the next 12 months.
Most important facts for investors to verify
- Whether elevated residential inventory converts to sales or requires discounting, particularly given unfavorable weather and weaker-than-expected demand.
- Whether commodity, fuel, freight, and mower-rework costs continue to pressure gross margins and residential-segment profitability.
- Whether operating cash flow recovers as working capital normalizes, and whether the company maintains its stated liquidity and covenant headroom.
- Progress toward FY2011 organic revenue growth and the timing, cost, and commercial performance of the Romania facility and recent acquisitions.
- Developments in the Canadian horsepower-labeling litigation and any changes to warranty costs or product-quality exposure.