Business Context and Reporting Period
Company: Graco Inc.
Filing Type: Form 10-Q (Unaudited)
Reporting Period: Thirteen and twenty-six weeks ended June 29, 2007.
Business Overview: Graco Inc. operates in three reportable segments: Industrial, Contractor, and Lubrication. The company manufactures and markets fluid handling equipment and components. The reporting period includes the full impact of the Lubriquip acquisition completed in July 2006 and the consolidation of Gusmer operations completed in the first quarter of 2007.
Key Financial Metrics
| Metric (in thousands) | 13 Weeks Ended June 29, 2007 |
13 Weeks Ended June 30, 2006 |
26 Weeks Ended June 29, 2007 |
26 Weeks Ended June 30, 2006 |
|---|---|---|---|---|
| Net Sales | $231,384 | $218,632 | $428,879 | $410,848 |
| Gross Profit | $122,232 | $116,946 | $227,094 | $220,173 |
| Gross Margin % | 52.8% | 53.5% | 53.0% | 53.6% |
| Operating Earnings | $67,714 | $63,828 | $119,801 | $118,480 |
| Net Earnings | $44,180 | $41,335 | $77,915 | $76,757 |
| Diluted EPS | $0.66 | $0.60 | $1.16 | $1.11 |
| Cash from Operations (26 wks) | $53,164 (2007) vs $64,527 (2006) | |||
| Cash and Equivalents | $4,689 (as of June 29, 2007) | |||
| Notes Payable (Current) | $65,168 (as of June 29, 2007) |
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 6% for the quarter and 4% year-to-date (YTD). Growth was driven by the Lubrication segment (+30% Q/Q, +29% YTD) and the Industrial segment (+9% Q/Q, +7% YTD). The Contractor segment declined 2% Q/Q and 4% YTD, primarily due to weakness in the Americas home center channel.
- Profitability: Net earnings rose 7% for the quarter and 2% YTD. Gross margins compressed slightly (52.8% vs 53.5% Q/Q) due to lower margins on Lubriquip products, consolidation costs, and higher material costs, partially offset by favorable currency translation and pricing.
- Cash Flow: Net cash provided by operating activities decreased to $53.2 million YTD from $64.5 million in the prior year, largely due to increased working capital requirements (higher accounts receivable and inventory) and lower accruals for salaries.
- Capital Allocation: The company spent $78.5 million on share repurchases and $21.6 million on capital additions YTD. Cash dividends declared were $0.33 per share YTD.
Guidance, Outlook, and Risks
- Outlook: Management expects difficult conditions to persist for the Contractor business in the Americas for the remainder of the year. However, the company remains encouraged by the strength of its international business and the Industrial segment.
- Integration: The integration of Lubriquip is on track for completion by year-end. Consolidation of Gusmer operations was completed in Q1.
- Liquidity Update: In July 2007, the company secured a new $250 million unsecured credit facility (with an option for an additional $150 million) to replace expiring lines of credit. This facility supports working capital, acquisitions, and share repurchases.
- Risks: Key risks include economic conditions in the U.S. and global markets, currency fluctuations, political instability, and changes in product demand. The company is currently under IRS examination for 2004 and 2005 tax returns.
Investor Verification Checklist
- Contractor Segment Weakness: Verify the extent of the decline in the Americas home center channel and its impact on future revenue guidance.
- Margin Compression: Assess whether the lower gross margins in the Lubrication segment are temporary integration issues or structural.
- Working Capital Trends: Monitor the significant increase in accounts receivable ($24.7 million cash outflow YTD) and inventory levels relative to sales growth.
- Share Repurchase Authorization: Confirm the remaining capacity under the share repurchase program (3 million shares remaining as of June 29, 2007) and the expiration date (Feb 29, 2008).
- Debt Covenants: Review the financial ratios required under the new $250 million credit facility (cash flow leverage and interest coverage).