H.B. Fuller Company — Q1 FY2011 Form 10-Q
Reporting period: 13 weeks ended February 26, 2011; comparisons are with the 13 weeks ended February 27, 2010 unless noted. H.B. Fuller is a global adhesives and specialty products company reporting across North America, EIMEA, Latin America, and Asia Pacific. Amounts below are in U.S. dollars.
Financial performance
| Metric | Q1 FY2011 | Q1 FY2010 | Change |
|---|---|---|---|
| Net revenue | $339.5 million | $309.4 million | +9.7% |
| Gross profit / margin | $96.9 million / 28.5% | $97.7 million / 31.6% | Profit -0.8%; margin -3.1 points |
| Operating income | $21.3 million | $26.2 million | -19.0% |
| Income before tax and equity-method income | $18.6 million | $24.2 million | -23.1% |
| Net income attributable to H.B. Fuller | $14.4 million | $19.0 million | -24.3% |
| Diluted EPS | $0.29 | $0.38 | -23.7% |
| Operating cash flow | $1.5 million | $1.1 million | +$0.4 million |
| Free cash flow, as defined by the company | -$7.9 million | -$11.6 million | Improved $3.7 million |
Revenue growth comprised 6.8% from pricing, 2.2% from sales volume, a 1.0% currency headwind, and 1.7% from acquisitions. Cost of sales rose 14.6%, primarily reflecting higher raw-material costs and supply constraints. SG&A increased 5.9% to $75.7 million, but declined to 22.3% of revenue from 23.1%. Interest expense rose 32.5% to $2.6 million, partly due to a higher-cost debt mix. The effective tax rate was 33.7%, versus 29.1%.
Segments
- North America: Revenue +6.2% to $134.9 million; operating income -13.5% to $14.9 million. Pricing gains were largely offset by higher input costs and SG&A; construction products recorded a $0.3 million operating loss.
- EIMEA: Revenue +7.2% to $100.8 million, including 13.2% organic growth offset by 6.0% currency impact; operating income -52.6% to $1.9 million. Raw-material shortages, costs, and North African production interruptions pressured results.
- Latin America: Revenue +8.3% to $59.9 million; operating income +17.7% to $3.4 million, led by improved Paints performance.
- Asia Pacific: Revenue +32.8% to $43.9 million, including acquisition and currency contributions; operating income -48.4% to $1.1 million as acquisition-related and commercial costs and higher input costs weighed on margins.
Financial position and liquidity
At February 26, 2011, cash and cash equivalents were $121.9 million, down from $133.3 million at November 27, 2010. Total debt, including notes payable and current maturities, was approximately $239.2 million, versus $250.7 million at fiscal year-end. Total debt to total capital was 26.4%, compared with 28.3% at November 27, 2010 and 32.2% a year earlier. Current assets were $551.0 million and current liabilities $229.7 million. The filing states that the company was in compliance with its debt covenants.
Operating cash flow was modest despite positive earnings, with inventory increases using $20.1 million of cash and receivables using $2.5 million, partly offset by a $19.3 million source from trade payables. Capital expenditures were $6.1 million and dividends paid were $3.5 million. Cash declined by $11.3 million during the quarter. Management said expected operating cash flows and access to short- and long-term borrowing would be adequate for liquidity and capital needs.
Developments, outlook, and risks
- Management attributed margin pressure to raw-material shortages and feedstock cost increases that outpaced price increases. The filing describes constrained supplies of key materials and notes purchases based on availability, contributing to higher inventory balances.
- A fire at the Portugal manufacturing site in 2010 led to a decision to discontinue certain resin-product polymer production. The company recorded a $0.3 million trademark and trade-name impairment charge in Q1 2011.
- The company reported no specific numerical earnings or revenue guidance. Management noted continued investment in sales and technical organizations and said it expected to meet fiscal 2011 contractual obligations, including scheduled term-loan payments.
- Environmental matters included a $2.6 million total reserve, including $1.1 million for remediation at the Sorocaba, Brazil facility; additional costs may be required depending on remediation results.
- For asbestos claims, probable liabilities were $0.7 million and related insurance recoveries $0.5 million. Some insurers are insolvent, and the company said future claim costs cannot be reasonably estimated. It also warned that environmental and legal developments could affect results or cash flows in future periods, while not expecting a material adverse effect on long-term financial condition based on information then available.
- Other risks include foreign-exchange exposure, interest-rate changes, economic weakness, and raw-material availability and pricing. A hypothetical 10% U.S. dollar change was estimated to affect net income by about $0.6 million; a one-percentage-point rate change on variable-rate debt by about $1.6 million annually.
Key facts for investors to verify
- Whether selling-price increases can catch up with continued raw-material inflation and restore gross margins.
- Whether working-capital needs, particularly inventory and receivables, continue to constrain operating cash flow.
- The durability of growth and profitability by segment, especially EIMEA and Asia Pacific, where revenue rose but operating income declined.
- The tax disclosures: MD&A cites $0.6 million of discrete tax expense and a 30.5% adjusted effective rate, while the tax note reports $0.9 million recognized as discrete tax expense. Clarification may be warranted.
- Future environmental and asbestos exposures, including remediation progress, insurance recoveries, and the outcome of the insurer coverage litigation.