ACCO Brands Corporation — Q2 2015 Form 10-Q
Business context and period. ACCO Brands manufactures and markets office, school, calendar and computer accessories through North America, International and Computer Products Group segments. This unaudited filing covers the three and six months ended June 30, 2015; comparisons are with the corresponding 2014 periods.
Financial performance
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Net sales | $394.7m | $427.7m | $684.7m | $757.1m |
| Gross profit / margin | $126.7m / 32.1% | $131.2m / 30.7% | $206.9m / 30.2% | $219.7m / 29.0% |
| Operating income / margin | $49.2m / 12.5% | $43.9m / 10.3% | $51.8m / 7.6% | $43.3m / 5.7% |
| Net income | $27.7m | $21.3m | $21.9m | $13.5m |
| Diluted earnings per share | $0.25 | $0.18 | $0.19 | $0.12 |
Revenue and profitability. Q2 sales fell 7.7%; currency translation reduced sales by $27.7m (6.5%). Management attributed the remaining decline mainly to lost sales, store closures and inventory reductions following a large North American customer’s merger. Higher pricing and International purchases ahead of further price increases partly offset declines. Q2 gross margin rose 1.4 percentage points and operating income rose 12%, with savings, productivity gains, fewer inventory write-offs and lower SG&A contributing. SG&A included a one-time $2.3m Brazilian indirect-tax recovery. For the six-month period, sales fell 9.6%, including a $47.7m currency headwind; operating income increased 20%.
Segments. Q2 segment operating income increased in North America ($50.1m versus $49.0m), International ($6.2m versus $5.2m) and Computer Products Group ($2.2m versus $0.4m). For the six months, International operating income declined to $9.5m from $12.8m, principally amid volume weakness in Brazil and Europe and higher USD-sourced inventory costs. Computer Products Group sales declined as the company deemphasized lower-margin tablet accessories.
Cash flow and liquidity. Six-month operating cash flow was $8.9m, versus $5.6m; investing cash use was $15.5m, including $15.6m of capital expenditures. Cash increased $33.7m to $86.9m. Inventory used $91.7m of cash, partly offset by receivables collections and payables. At June 30, total debt was $890.3m, including $95.0m drawn on the revolving facility; $198.0m remained available after letters of credit. The company reported $785.0m of long-term debt and $105.3m of current debt, including notes payable. Approximately $66m of cash was held in Brazil. Management said cash, operating cash flow and available borrowing capacity should support working capital, capital expenditures and debt service.
Margins, taxes and unusual items. Q2 interest expense decreased to $11.3m from $12.1m. Other expense included a $1.9m write-off of debt issuance costs related to refinancing. The Q2 effective tax rate was 29.2%, versus 39.0%; the lower rate primarily reflected a correction of prior-period deferred taxes in a foreign entity, which management said was not material and did not require restatement. The six-month rate was 34.4%, versus 44.2%.
Material changes, outlook and risks
- Refinancing: On April 28, 2015, ACCO replaced its prior credit agreement with a five-year, $600m secured facility: a $300m term loan and a $300m revolver. The company expected to repay the $95m revolving balance by year-end 2015. The term loan and revolver mature in 2020, subject to an earlier-maturity provision linked to the 2020 unsecured notes. The company reported compliance with applicable covenants; the leverage ceiling tightened to 3.75:1.00 from July 1, 2015.
- Operating outlook: Management expected the North American customer-related sales headwinds to continue through 2015. It cited weak Brazilian conditions and adverse currency movements; roughly half of consolidated results are denominated in currencies other than the U.S. dollar. The filing provides no specific consolidated revenue or earnings guidance.
- Brazil tax contingency: The company is contesting Brazilian assessments concerning goodwill deductions for 2007–2010. It had accrued R$106.9m, or $34.3m at current exchange rates, for tax, penalties and interest for 2007–2012. The appeal may take years; if the tax authority’s initial position is upheld, management said settlement would materially and adversely affect cash flow. Additional assessments for 2011–2012 cannot be ruled out.
- Other risks and items: Seasonal working-capital needs, currency and sourcing-cost exposure, customer and channel concentration, and execution of cost reductions remain relevant. Management found no goodwill or indefinite-lived intangible impairment in its Q2 qualitative assessments. It expected approximately $7.5m of defined-benefit plan contributions in 2015, of which $3.7m had been contributed by June 30. Remaining restructuring liabilities of $3.8m were expected to be substantially paid within six months.
Important facts for investors to verify
- Whether customer-merger impacts and weak International demand persist, and how much reported sales and earnings are affected by currency movements.
- Progress in reducing the revolving borrowings and meeting the tighter leverage covenant; verify seasonal liquidity needs and the availability of cash held in Brazil.
- Developments in the Brazilian tax appeals, accrued liability and potential cash exposure.
- How much Q2 margin and income improvement is repeatable, given the one-time Brazilian tax recovery and the deferred-tax correction.
- Whether inventory growth, including goods in transit and safety stock associated with the port strike, converts to sales and cash as planned.