Business Context and Reporting Period
Company: H.B. Fuller Company (H.B. Fuller)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: May 29, 2010 (Second Quarter of Fiscal 2010)
Business Overview: H.B. Fuller is a global manufacturer of adhesives and sealants. Operations are managed through four geographic segments: North America, EIMEA (Europe, India, Middle East, Africa), Latin America, and Asia Pacific.
Key Financial Metrics
| Metric (in thousands) | 13 Weeks Ended May 29, 2010 | 26 Weeks Ended May 29, 2010 | 13 Weeks Ended May 30, 2009 | 26 Weeks Ended May 30, 2009 |
|---|---|---|---|---|
| Net Revenue | $347,908 | $657,350 | $299,193 | $577,757 |
| Gross Profit | $101,108 | $198,787 | $89,408 | $164,407 |
| Gross Margin % | 29.1% | 30.2% | 29.9% | 28.5% |
| Operating Income | $25,816 | $52,047 | $27,892 | $40,285 |
| Net Income (Attributable to H.B. Fuller) | $11,011 | $29,963 | $17,558 | $23,674 |
| Diluted EPS | $0.22 | $0.60 | $0.36 | $0.48 |
| Cash and Cash Equivalents | $161,088 | $161,088 | $116,104 | $116,104 |
| Total Debt (Current + Long-term) | $292,396 | $292,396 | $233,038 | $233,038 |
| Free Cash Flow (26 Weeks) | ($5,900) | ($5,900) | $41,300 | $41,300 |
Note: Free Cash Flow is defined by management as net cash from operations less capital expenditures and dividends paid.
Material Changes vs. Prior Period
- Revenue Growth: Net revenue increased 16.3% in the quarter and 13.8% year-to-date compared to 2009. Organic revenue growth was 13.0% for the quarter, driven primarily by sales volume increases across all segments.
- Profitability Decline (Quarterly): Net income attributable to H.B. Fuller decreased 37.3% in the quarter ($11.0M vs $17.6M). This decline was primarily due to a one-time asset impairment charge of $8.8 million related to exiting the polysulfide-based insulating glass product line in Europe.
- Profitability Increase (Year-to-Date): Despite the impairment charge, net income for the first six months increased 26.6% ($30.0M vs $23.7M) due to strong organic sales growth and improved gross margins in the first quarter.
- Margin Pressure: Gross margin for the quarter decreased to 29.1% from 29.9% in the prior year due to rising raw material costs. Selling price increases implemented late in the quarter are expected to mitigate this in the third quarter.
- SG&A Expenses: Selling, general, and administrative expenses increased 22.4% in the quarter, driven by investments in commercial organizations and the impact of a weaker U.S. dollar.
Guidance, Outlook, and Risks
- Full Year Guidance: Management expects full-year net revenue growth in the range of 10% to 12%. This is below the first-half performance due to more difficult year-over-year comparisons in the second half.
- Cost Outlook: Raw material costs are expected to increase approximately 8% for the full year. The effective income tax rate for the remainder of 2010 is expected to be approximately 34%.
- Strategic Actions: The company exited the polysulfide-based insulating glass product line in Europe to improve the growth and profitability profile of the EIMEA segment. This resulted in $11.4 million in pre-tax exit costs and impairment charges.
- Acquisitions: Completed the acquisition of Revertex Finewaters Sdn Bhd in Malaysia for approximately $27 million on June 2, 2010 (subsequent event).
- Risks and Contingencies:
- Environmental: The company is a "potentially responsible party" (PRP) for hazardous waste sites. A liability of $2.6 million is recorded for environmental remediation, including $1.0 million for the Sorocaba, Brazil facility.
- Asbestos Litigation: The company faces ongoing asbestos-related litigation. A probable liability of $3.0 million is accrued, with $1.6 million expected to be recovered from insurers.
- Market Risk: Exposure to foreign currency fluctuations (approx. 58% of revenue generated outside the U.S.) and raw material price volatility.
Investor Verification Checklist
- Impairment Impact: Verify the long-term strategic impact of exiting the European polysulfide product line and whether the $8.8 million charge is a one-time event.
- Raw Material Costs: Monitor the effectiveness of late-Q2 price increases in offsetting the projected 8% full-year rise in raw material costs.
- Currency Sensitivity: Assess the impact of the strengthening Euro and Australian Dollar on reported revenue versus the potential headwinds from a strengthening U.S. Dollar in the second half of the year.
- Working Capital: Review the shift in cash flow from operations, which turned from a source of cash in 2009 to a use of cash in 2010 due to increased inventory and receivables supporting revenue growth.
- Debt Covenants: Confirm continued compliance with debt covenants, specifically the Total Indebtedness to TTM EBITDA ratio (currently 1.5x vs 3.5x limit).