Masco Corporation — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016; comparisons are with Q1 2015 unless noted. Masco sells branded building products across plumbing, decorative architectural, cabinetry, and windows and other specialty businesses. TopBuild was spun off in June 2015 and is presented as a discontinued operation; Q1 2015 included $3 million of related after-tax income.
Financial performance
- Sales: $1.720 billion, up 4% reported. Excluding acquisitions and currency translation, sales rose 5%. North America increased 5%; international sales declined 2% reported, but rose 2% in local currencies.
- Profit and margins: Gross profit was $569 million versus $495 million; gross margin improved to 33.1% from 29.8%. Operating profit was $234 million versus $165 million, with reported operating margin of 13.6% versus 9.9%. Net income attributable to Masco was $109 million versus $64 million; diluted EPS was $0.32 versus $0.18. Continuing-operations diluted EPS was $0.32 versus $0.17.
- Segment results: Plumbing sales rose 2% and operating margin increased to 15.9% from 13.9%; Decorative Architectural sales rose 9% and margin increased to 21.3% from 18.4%. Cabinetry sales fell 5%, although the segment returned to a 10.2% margin from a 1.6% loss margin. Windows and Other Specialty sales rose 9%, while margin fell to 1.7% from 3.7%.
- Cash flow: Operating activities used $100 million, compared with $152 million used in Q1 2015. Management attributed first-quarter cash use partly to recurring seasonal increases in receivables and inventories. Capital expenditures were $37 million. Financing activities provided $781 million, largely from note issuance; investing activities provided $20 million.
- Liquidity and debt: Cash, cash investments, and short-term bank deposits totaled approximately $2.37 billion at March 31, compared with $1.72 billion at year-end. Current ratio was 1.5 versus 1.3. Notes payable were $1.303 billion and long-term debt was $2.993 billion, totaling approximately $4.30 billion, versus $3.41 billion at year-end. Masco reported no revolver borrowings and compliance with its credit covenants.
Material changes and drivers
- Gross margin improvement reflected higher sales volume, a more favorable relationship between selling prices and commodity costs, and cost-saving initiatives. SG&A was 19.5% of sales versus 19.9%.
- North American sales gains included higher volumes in paints and stains, plumbing products, windows, and builders’ hardware. Cabinetry volumes declined in North America and internationally. Currency translation, principally the stronger U.S. dollar, weighed on international and plumbing sales.
- Operating profit included $3 million of rationalization and other initiative costs, compared with $6 million in Q1 2015. Windows and Other Specialty results also faced higher labor and system implementation costs.
- Debt issuance increased liquidity and debt during the quarter. Masco issued $400 million of 3.5% notes due 2021 and $500 million of 4.375% notes due 2026. On April 15, 2016, after quarter-end, it used proceeds and cash to retire $1.0 billion of 6.125% notes due October 2016 and $300 million of 5.85% notes due March 2017. Masco said it recorded $40 million of additional interest expense in April related to the extinguishment.
Outlook, risks, and other matters
- Management expects steady demand as repair and remodeling and new-home construction trends improve, and described long-term fundamentals for both markets as positive. It emphasized branded-product investment, innovation, operational excellence, and disciplined capital allocation; the filing gives no quantitative earnings or sales guidance.
- Identified risks include housing and remodeling demand, brand and product competitiveness, key-customer reliance, strategic execution, cabinetry performance, raw-material costs and availability, supplier dependence, and international operations. Management said the risk factors were not materially changed from the 2015 Form 10-K.
- Masco faces ordinary-course claims and proceedings, including product liability, environmental, construction-defect, and employment matters. Management considered a material adverse outcome remote, while noting outcomes cannot be assured.
- The effective tax rate was 33% versus 36%, including a $4 million state tax benefit related to the expiration of statutes of limitation, as well as the domestic production deduction. Q1 earnings therefore included tax benefits relative to the stated normalized rate.
- Masco began phased deployment of a new ERP system at Milgard. The implementation modified certain internal controls due to its scale and complexity; management said it was not in response to an identified control deficiency. Disclosure controls were deemed effective at quarter-end.
Important facts for investors to verify
- Completion and cash/debt effects of the April 2016 note retirements, including the reported $40 million extinguishment expense.
- Whether sales and margin improvement persist, particularly given cabinetry volume declines and weaker Windows and Other Specialty margin.
- How seasonal working-capital needs affect cash generation through the rest of the year.
- The extent to which earnings benefited from tax items and cost initiatives, and whether those benefits recur.
- Progress and control implications of the Milgard ERP rollout, as well as developments in disclosed litigation and other contingencies.