ACCO Brands Corporation — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017. Financial statements are unaudited. Results include Esselte from February 1, 2017; prior-period comparisons are therefore affected by acquisitions and the company’s realigned segments.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Net sales | $490.0m | $410.1m | $849.8m | $688.2m |
| Gross profit / margin | $168.5m / 34.4% | $134.8m / 32.9% | $279.3m / 32.9% | $217.2m / 31.6% |
| Operating income / margin | $45.4m / 9.3% | $45.4m / 11.1% | $54.7m / 6.4% | $51.9m / 7.5% |
| Net income | $23.5m | $61.9m | $27.1m | $66.7m |
| Diluted EPS | $0.21 | $0.57 | $0.24 | $0.61 |
Q2 sales rose 19% and first-half sales rose 23%, largely due to acquisitions: Esselte and Pelikan Artline contributed $105.6m of Q2 sales and $198.7m for the six-month period. Management reported underlying sales declines, including weakness in North America and EMEA. Q2 operating income was flat despite higher sales; first-half operating income increased 5%. Gross margins improved, while operating margins were pressured by higher SG&A, amortization and restructuring.
Net income fell sharply versus 2016, when results included a $35.2m non-taxable gain from revaluing the previously held Pelikan Artline interest. Q2 2017 also had a 38.3% effective tax rate versus 13.9% a year earlier. The first-half 2017 rate was 29.1%, including a $5.5m tax benefit from stock-based compensation accounting changes; the comparable 2016 rate was unusually low at 3.8%.
Cash flow, debt and liquidity
- First-half operating cash flow was $7.9m, versus $1.7m in 2016. Capital expenditures were $13.0m, making operating cash flow less capital expenditures negative $5.1m.
- Investing cash outflow was $305.4m, including $292.6m for acquisitions, net of cash acquired. Financing provided $353.1m, mainly from new borrowings.
- Cash and equivalents were $102.2m at June 30, 2017, up from $42.9m at year-end; approximately $68m was held in Brazil, where transfers of seasonal working capital can be costly.
- Total debt was $1.104bn, compared with $703.5m at December 31, 2016. Long-term debt, net, was $1.067bn. The company reported $309.9m drawn on its revolving facility and $76.7m available after letters of credit.
- The company said it was in compliance with debt covenants and believed available cash, operating cash flow and borrowing capacity would cover foreseeable needs. The actual covenant leverage ratio was not stated in the supplied filing text.
Material changes and management commentary
- ACCO completed its $292.3m net-of-cash Esselte acquisition on January 31, 2017, broadening its European branded-products business. Purchase accounting remained preliminary, with possible material adjustments to acquired asset and liability values.
- The company refinanced its credit facilities in connection with Esselte. Interest expense declined year over year due to prior refinancing, partly offset by acquisition-related debt. June 30 bank debt had a weighted average interest rate of 3.69%; senior unsecured notes carry a fixed 5.25% rate.
- Q2 North America sales declined 5%; management cited office-superstore declines, lower commodity sales and back-to-school shipment timing. EMEA sales increased with Esselte, but comparable sales declined, partly due to U.K. volume and share loss. International sales increased, while underlying demand was soft in Australia.
- Restructuring charges were $12.3m in Q2 and $13.8m in the first half, primarily for Esselte and Pelikan Artline integration and operating changes. Management expected approximately $5m of additional integration costs and $17m of additional restructuring expenses over the balance of 2017 and 2018; timing and related cash outflows were not reasonably estimable.
- Management described foreign exchange as a modest overall Q2 impact and immaterial for the first half, while noting increased foreign-currency exposure following acquisitions. It highlighted seasonality, especially second-quarter working-capital needs for North American back-to-school inventory.
Risks, contingencies and unusual items
- A Brazilian tax dispute challenges goodwill deductions at Tilibra for 2007–2010. The company had a $38.0m accrual at June 30, 2017, including tax, penalties and interest, and continued to contest the assessments. An adverse outcome could materially affect cash flow; additional assessments for later years were also possible.
- Acquired Esselte pension obligations were $171.5m, including $133.7m related to an unfunded German plan. The company expected 2017 defined-benefit contributions of approximately $19.8m, including $8.6m for Esselte.
- Mead and Tilibra trade names had fair values less than 30% above carrying values at their latest quantitative tests; management reported no impairment. Esselte purchase-price allocations and acquired valuations remained under review.
- Management reported no material change to previously disclosed risk factors. Disclosure controls were considered effective; Esselte was excluded from the internal-control assessment under the permitted acquired-business transition period.
Important facts for investors to verify
- How much of sales growth and future profitability is attributable to acquisitions versus organic performance, especially in EMEA and North America.
- Progress on Esselte integration, expected synergies, and whether restructuring and integration costs stay within management’s stated outlook.
- Debt reduction, revolver availability, covenant headroom and seasonal liquidity needs, including cash held in Brazil.
- Developments in the Brazilian tax assessments and the adequacy of the recorded $38.0m accrual.
- Final Esselte purchase accounting, pension assumptions and any resulting adjustments to amortization, depreciation or liabilities.