Sherwin-Williams 2010 Q1 Form 10-Q Summary
Business context and reporting period
The Sherwin-Williams Company develops, manufactures, distributes and sells paints, coatings and related products to professional, industrial, commercial and retail customers. Reportable segments are Paint Stores Group, Consumer Group and Global Finishes Group. The filing covers the three months ended March 31, 2010, compared with the three months ended March 31, 2009.
Key financial metrics
| Metric | Q1 2010 | Q1 2009 | Change |
|---|---|---|---|
| Net sales | $1.565 billion | $1.551 billion | +1.0% |
| Gross profit | $692.0 million | $680.6 million | +1.7% |
| Gross margin | 44.2% | 43.9% | +0.3 percentage points |
| SG&A expense | $612.9 million | $608.8 million | +0.7% |
| SG&A as percentage of sales | 39.1% | 39.3% | Improved 0.2 percentage points |
| Income before taxes | $59.5 million | $50.9 million | +16.8% |
| Net income | $32.6 million | $37.3 million | -12.5% |
| Diluted EPS | $0.30 | $0.32 | -6.3% |
| Net operating cash flow | $(115.8) million | $(112.3) million | Greater seasonal cash use |
| Cash and cash equivalents | $91.2 million | $42.2 million | +$48.9 million |
Net income margin was approximately 2.1% in Q1 2010 versus approximately 2.4% in Q1 2009. EBITDA, a non-GAAP measure defined by management, was $110.9 million versus $105.2 million.
- Segment sales: Paint Stores Group $850.9 million, down 5.3%; Consumer Group $292.1 million, up 1.4%; Global Finishes Group $421.1 million, up 16.2%.
- Segment profit: Paint Stores Group $47.8 million, down 15.6%; Consumer Group $37.5 million, up 24.0%; Global Finishes Group $23.0 million, up 333.6%.
- Total debt was $1.041 billion at March 31, 2010, including $245.5 million of short-term borrowings and $795.3 million of current and long-term debt.
- Debt represented 41.0% of total capitalization, compared with 40.5% at March 31, 2009 and 35.4% at December 31, 2009.
- Current assets were $1.950 billion and current liabilities were $1.558 billion; the current ratio was 1.25.
- Remaining borrowing capacity was $1.067 billion. The company was in compliance with its 3.00-to-1.00 leverage covenant.
- Capital expenditures were $25.4 million, cash dividends were $39.4 million, and treasury stock purchases were $25.8 million.
Material changes versus the prior comparable period
- Sales growth was modest and was driven primarily by favorable foreign currency translation and stronger Global Finishes performance, while domestic architectural paint volume remained weak.
- Paint Stores Group comparable-store sales declined 5.4%, reflecting lower paint volume and weaker non-paint sales.
- Gross margin improved because of sales mix, favorable currency effects and expense control, partly offset by higher raw material costs.
- Income before taxes increased $8.6 million, but net income declined $4.7 million because the effective tax rate increased to 45.2% from 26.7%.
- The tax-rate increase included an $11.4 million one-time charge from the 2010 health-care legislation eliminating the future tax deduction for the Medicare Part D subsidy. The charge reduced basic and diluted EPS by approximately $0.11 and $0.10, respectively.
- Other expense changed from $1.1 million of income in Q1 2009 to $6.8 million of expense in Q1 2010, primarily because of foreign-currency-related losses.
- Short-term borrowings were $245.5 million, compared with $22.7 million at December 31, 2009, reflecting normal seasonal working-capital needs.
- The company repurchased 400,000 shares for $25.8 million and had authorization remaining to repurchase 10.35 million shares.
Outlook, commentary, risks and unusual items
Management described economic conditions as challenging, citing weak architectural paint demand, lower manufacturing throughput, increased manufacturing costs, tight credit markets, raw-material cost pressure and foreign-currency volatility. Management stated that liquidity and borrowing capacity remained sufficient for current operating needs. The filing does not provide a specific full-year sales or earnings guidance range.
- Effective April 1, 2010, the company acquired Sayerlack Industrial Coatings for $53.8 million, excluding post-closing adjustments. The acquisition was not included in Q1 operating results.
- Three Paint Stores Group locations were closed during the quarter. Qualified exit-cost liabilities were $26.8 million at March 31, 2010.
- Environmental-related accruals were $161.5 million. The unaccrued maximum of the estimated range of possible environmental outcomes was $100.8 million above the recorded minimum accrual.
- Lead pigment and lead-based paint litigation remains unaccrued because potential liabilities cannot reasonably be estimated. An adverse outcome could materially affect earnings, liquidity or financial condition.
- The company faces product liability, warranty, environmental, intellectual-property, commercial, contractual and antitrust claims. Product warranty accruals were $21.5 million at March 31, 2010.
- Foreign-currency and commodity risks are managed with derivatives. Management did not expect these risks or related hedge losses to have a material adverse effect, but actual results remain sensitive to currency, raw-material and energy-price movements.
- Management stated that quarterly results are not necessarily indicative of full-year results because the first quarter is seasonally weak.
Investor verification checklist
- Verify whether the one-time $11.4 million health-care-related tax charge is excluded from any adjusted earnings comparison.
- Assess whether sales growth is sustainable without favorable currency translation, particularly given the decline in Paint Stores comparable-store sales.
- Monitor raw-material costs, manufacturing utilization and the contrasting profitability trends among the three operating segments.
- Reconcile seasonal operating cash use with full-year cash generation, debt reduction, dividends and share repurchases.
- Review the company’s $1.067 billion borrowing capacity, commercial-paper exposure and compliance with the leverage covenant.
- Track environmental accruals and the potential $100.8 million unaccrued range exposure.
- Review developments in lead pigment and lead-based paint litigation, including the Santa Clara County proceeding and related insurance coverage litigation.
- Evaluate the integration, valuation and subsequent contribution of the Sayerlack acquisition.