Patrick Industries, Inc. — Form 10-Q Summary
Reporting period: Third quarter and nine months ended September 30, 2018; comparisons are to the periods ended September 24, 2017. Amounts below are in millions of dollars except per-share data and ratios.
Business context and results
Patrick manufactures component products and distributes building products to recreational vehicle (RV), marine, manufactured housing (MH), and industrial markets. The RV market remained its largest, representing 62% of third-quarter sales and 65% of nine-month sales. The filing attributes much of the substantial year-over-year growth to acquisitions, alongside market penetration and stronger activity in certain end markets.
| Metric | Q3 2018 | Q3 2017 | 9M 2018 | 9M 2017 |
|---|---|---|---|---|
| Net sales | $575.1 | $407.5 | $1,731.9 | $1,160.1 |
| Gross profit | $106.7 | $69.2 | $319.2 | $198.2 |
| Operating income | $44.7 | $30.2 | $139.5 | $87.8 |
| Net income | $27.9 | $17.9 | $92.9 | $56.7 |
| Diluted EPS | $1.15 | $0.72 | $3.77 | $2.32 |
| Gross margin | 18.5% | 17.0% | 18.4% | 17.1% |
| Operating margin | 7.8% | 7.4% | 8.1% | 7.6% |
| Net margin | 4.9% | 4.4% | 5.4% | 4.9% |
Quarterly sales increased 41% and nine-month sales increased 49%; net income rose 56% and 64%, respectively. Gross-margin improvement reflected higher volumes relative to fixed costs, acquired and higher-margin product lines, and efficiency initiatives. Warehouse and delivery, SG&A, and amortization costs also increased, in part due to acquisitions. Nine-month interest expense rose to $18.0 million from $6.2 million, reflecting higher borrowings and rates.
Markets and segments
- Sales increased across all four markets in Q3: RV 30%, marine 138%, MH 28%, and industrial 53%. Nine-month increases were 41%, 153%, 35%, and 58%, respectively.
- RV wholesale shipments declined 12% in Q3 but were essentially flat for the first nine months. Management described the decline as part of dealer-inventory and production realignment.
- Marine growth reflected acquisitions and organic expansion; estimated powerboat retail unit growth was approximately 2% for the first nine months.
- For nine months, Manufacturing segment sales were $1,371.6 million and operating income was $172.8 million; Distribution sales were $390.6 million and operating income was $25.1 million. Segment sales include intersegment activity and are not the same as consolidated net sales.
Cash flow, balance sheet, and capital
- Cash flow: Nine-month operating cash flow was $127.4 million, compared with $32.9 million in 2017. Investing used $311.0 million, including $290.1 million for acquisitions and $26.1 million for capital expenditures. Financing provided $181.1 million. Cash ended at $0.3 million.
- Liquidity: At September 30, current assets were $389.7 million and current liabilities $174.2 million. Unused revolver availability, net of cash, was $434.1 million. Management said cash, operating cash flow, and available credit were expected to meet working-capital and capital-expenditure needs for at least 12 months, excluding acquisitions.
- Debt: Gross debt principal was $634.0 million: $364.0 million on the revolver, $97.5 million on the term loan, and $172.5 million of convertible notes. Debt carrying value is reduced by the convertible-note discount and financing costs. Total debt principal was $354.4 million at December 31, 2017. The company was compliant with its covenants; leverage was 2.26x against a 3.00x maximum, and fixed-charge coverage was 3.51x against a 1.50x minimum.
- Financing and capital allocation: The June 2018 credit agreement provides an $800 million revolver and $100 million term loan, maturing March 2022. The company issued $172.5 million of 1.00% convertible notes due 2023 and entered into $200 million of interest-rate swaps. It repurchased $75.0 million of shares in the first nine months; through November 7, repurchases totaled $100.8 million.
- Capital spending: Management forecast approximately $30 million of 2018 capital expenditures.
Outlook, risks, and notable items
- Management expected continued overall market growth through the rest of 2018, but forecast full-year RV wholesale shipments down low-to-mid single digits versus 2017 as the industry recalibrated. RVIA’s 2019 forecast ranged from low-single-digit decline to low-single-digit growth.
- Management forecast high-single-digit MH wholesale shipment growth in 2018 and high-single-digit to low-double-digit growth in 2019; low-to-mid-single-digit marine retail unit growth in 2018 and 2019; and cited industry forecasts of approximately 5% growth in housing starts in 2018 and 2% in 2019.
- Risks include RV production and dealer inventory adjustments, seasonality, higher interest rates, tariffs, commodity and labor costs, and the ability to pass cost increases to customers. Management said tariffs had limited impact to date and did not expect additional tariffs to have a material impact, citing sourcing alternatives, vendor discussions, inventory management, and planned customer price increases.
- Management estimated a 25%–26% full-year 2018 effective tax rate, excluding specified share-based tax benefits and any additional impact later in the year.
- Eight acquisitions involving 12 companies were completed in the first nine months. Acquired businesses contributed approximately $160.0 million of revenue and $17.3 million of operating income during that period. Contingent consideration had an estimated fair value of $15.8 million, with aggregate potential payments capped at $22.0 million.
- The company adopted revenue-recognition guidance in 2018 without material impact. It expected lease accounting adoption on January 1, 2019 to materially affect reported lease assets and liabilities, but not materially affect results or cash flows.
Important facts for investors to verify
- How much of reported growth and margin performance reflects acquisitions versus organic growth, and how acquired businesses perform after integration.
- RV wholesale shipment, dealer-inventory, and retail-demand trends, especially the expected 2018–2019 production normalization.
- Debt, interest expense, covenant headroom, and the effect of variable rates despite the $200 million interest-rate hedge.
- Cash conversion and working-capital needs, given low cash balances and significant acquisition, capital-spending, and buyback outflows.
- Exposure to tariffs, commodities, labor costs, and the effectiveness and timing of price increases.
- Final purchase-price allocations and contingent-consideration payments, as well as the actual balance-sheet effect of adopting lease accounting.