Graco Inc. — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017; comparisons are to periods ended June 24, 2016. Graco designs, manufactures and markets equipment and systems for moving, measuring, controlling, dispensing and spraying fluids and coatings. Its reportable segments are Industrial, Process and Contractor.
Financial performance
| Metric | Q2 2017 | Q2 2016 | First half 2017 | First half 2016 |
|---|---|---|---|---|
| Net sales | $379.5 million | $348.1 million | $720.1 million | $653.0 million |
| Gross margin | 53.7% | 53.2% | 54.1% | 53.1% |
| Operating earnings | $98.8 million | $78.3 million | $184.6 million | $139.3 million |
| Operating margin | 26.0% | 22.5% | 25.6% | 21.3% |
| Net earnings | $79.8 million | $50.9 million | $140.6 million | $90.5 million |
| Diluted EPS | $1.38 | $0.89 | $2.43 | $1.59 |
| Operating cash flow | Not separately stated | Not separately stated | $135.7 million | $93.5 million |
Q2 sales rose 9%, operating earnings 26%, net earnings 57% and diluted EPS 55%. First-half sales rose 10%, operating earnings 33%, net earnings 55% and diluted EPS 53%. Management attributed operating earnings growth to sales growth, improved gross margins and lower operating expenses. Gross margin benefited from production volume and pricing, partly offset by currency and product mix.
Q2 sales increased across all three segments: Industrial $174.9 million, Process $73.4 million and Contractor $131.2 million. First-half sales were $331.3 million, $143.4 million and $245.4 million, respectively. First-half segment operating margins were 35% Industrial, 19% Process and 24% Contractor, versus 32%, 12% and 21% in the prior-year period. Process remained weak in Oil and Natural Gas; Contractor faced a difficult Q2 comparison due to prior-year product launches.
Cash, debt and liquidity
- Cash and equivalents were $75.4 million at June 30, 2017, up from $52.4 million at year-end. Operating cash flow was $135.7 million; capital expenditures were $16.6 million.
- Cash uses included $90.2 million for share repurchases, $40.1 million for dividends and $9.9 million for acquisitions. Receivables and inventories increased by $35.5 million and $17.1 million, respectively, in the first half.
- Debt comprised $11.1 million of bank notes, $75.0 million of current long-term debt and $236.0 million of long-term debt. Total reported borrowings were approximately $322.1 million. The company had $547 million in credit lines, of which $525 million was unused.
- Current assets were $579.7 million and current liabilities $264.1 million. Restricted cash of approximately $8 million was included in other current assets and reserved for self-insured loss reserves.
Material changes, outlook and risks
- Management raised its 2017 outlook from mid-single-digit to mid-to-high-single-digit organic sales growth worldwide on a constant-currency basis, with mid-to-high-single-digit growth expected in each geographic region. It said Q2 demand remained broad-based and exceeded expectations.
- A new share-based compensation accounting standard reduced income tax expense and increased net earnings by $13.6 million in Q2 and $17.2 million year to date. It added $0.23 and $0.28, respectively, to diluted EPS, so reported earnings growth includes this accounting benefit.
- Lower intangible amortization following a Q4 2016 impairment contributed $0.01 to Q2 and $0.02 to first-half diluted EPS. The filing does not quantify the original impairment in this text.
- The company reported no material change in risk factors or market-risk disclosures. Cited risks include economic and currency changes, international operations, supply interruptions, product demand, competition and intellectual property, acquisitions and impairments, litigation and indemnification claims, and exposure to construction, automotive, mining and oil and gas activity. No material litigation contingency amount is provided in this filing text.
- The company expected to adopt the revenue-recognition standard in Q1 2018 using the modified retrospective method. Its preliminary assessment found no indication of a material financial-statement impact, while noting possible effects involving variable consideration, timing of revenue recognition and balance-sheet presentation.
Important facts for investors to verify
- How much of earnings growth and EPS improvement is sustainable after separating the one-time-period tax accounting benefit and lower amortization.
- Whether the raised organic-growth outlook is supported by continued performance across segments and geographies, particularly given persistent Oil and Natural Gas weakness and the Contractor comparison.
- Whether receivables and inventory growth convert to cash as activity expands, and how working-capital needs affect liquidity.
- The timing and terms of the $75 million current debt maturity, credit availability and any relevant borrowing conditions.
- Potential effects of the upcoming revenue standard and the company’s acquisition-related and indemnification exposures.