Sherwin-Williams Company: Q3 2015 Form 10-Q Summary
Business context and reporting period
The Sherwin-Williams Company develops, manufactures, distributes and sells paints, coatings and related products primarily in North and South America, with additional international operations. The filing covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods. Reportable segments are Paint Stores, Consumer, Global Finishes and Latin America Coatings.
Key financial metrics
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Net sales | $3.152 billion | $3.151 billion | $8.735 billion | $8.560 billion |
| Gross profit | $1.575 billion | $1.471 billion | $4.237 billion | $3.947 billion |
| Gross margin | 49.9% | 46.7% | 48.5% | 46.1% |
| Income before taxes | $550.7 million | $474.0 million | $1.252 billion | $1.069 billion |
| Net income | $374.5 million | $326.2 million | $855.8 million | $733.1 million |
| Diluted EPS | $3.97 | $3.35 | $9.04 | $7.39 |
| Operating cash flow | Not separately provided | Not separately provided | $902.5 million | $881.3 million |
SG&A was $993.6 million in the quarter and $2.922 billion for the first nine months. SG&A represented 31.5% and 33.5% of sales, respectively. EBITDA, as defined by management, was $616.4 million in Q3 and $1.441 billion for the first nine months.
At September 30, 2015, cash and cash equivalents were $91.0 million, current assets were $2.924 billion, and current liabilities were $2.294 billion. The current ratio was 1.27. Total debt was approximately $1.960 billion, representing 66.8% of total capitalization, compared with $1.681 billion and 55.4% at September 30, 2014. Remaining borrowing capacity was $2.328 billion, including $1.328 billion unused under the new revolving credit agreement.
Capital expenditures were $158.0 million for the first nine months. Investing cash usage was $161.8 million, financing cash usage was $671.4 million, treasury stock purchases were $766.1 million, and dividends paid were $187.2 million. The company purchased 2.58 million shares during the first nine months and paid quarterly dividends of $0.67 per share.
Material changes versus the prior comparable period
- Q3 sales increased 0.1%; nine-month sales increased 2.0%, driven primarily by higher volume in the Paint Stores and Consumer Groups.
- Gross margin expanded by 320 basis points in Q3 and 240 basis points for the first nine months, primarily from higher paint volume and improved operating efficiency.
- Q3 net income increased 14.8% and nine-month net income increased 16.7%. Diluted EPS increased 18.5% and 22.3%, respectively, aided by earnings growth and a lower share count.
- Paint Stores sales increased 2.9% in Q3 and 5.0% for the first nine months; segment income before taxes increased 17.5% and 17.1%.
- Consumer sales increased 9.4% in Q3 and 10.4% year to date, helped by a new national-retailer paint program; segment income increased 11.8% and 15.9%.
- Global Finishes sales decreased 9.3% in Q3 and 7.4% year to date, while segment income decreased 9.2% and 6.7%, primarily because of unfavorable currency translation and lower international sales.
- Latin America Coatings sales decreased 22.1% in Q3 and 16.3% year to date; segment income decreased 81.8% and 42.9%, primarily because of currency translation effects.
- Foreign subsidiary sales declined 22.9% in Q3 and 18.1% year to date, largely because of unfavorable currency translation. Management stated that translation reduced consolidated sales by 3.6% in Q3 and 3.2% year to date.
- Total debt increased $279.5 million from September 30, 2014. The company issued $400 million of 3.45% Senior Notes due 2025 and $400 million of 4.55% Senior Notes due 2045, using proceeds partly to repay short-term borrowings.
Outlook, commentary, risks and unusual items
Management characterized financial condition, liquidity and cash flow as strong, citing improved operating results in the Paint Stores and Consumer Groups. No quantitative full-year sales or earnings guidance is provided in the filing. Management stated that available cash and borrowing capacity were sufficient for current operating needs.
The company entered into a new five-year $1.350 billion credit agreement, with two one-year extension options and potential lender-approved expansion to $1.850 billion. The company was in compliance with its 3.50-to-1.00 leverage covenant at September 30, 2015.
Key risks include foreign currency and commodity-price volatility, raw-material and energy costs, competitive pricing, customer and supplier relationships, economic conditions, acquisitions and integration, regulatory and environmental requirements, unusual weather, and international operating risks.
Environmental accruals totaled approximately $143.3 million, including $126.4 million in other long-term liabilities and $16.9 million in other accruals. The unaccrued maximum of the estimated range of possible environmental outcomes was $90.5 million above the minimum estimate. Management stated that ultimate liabilities remain uncertain and could materially affect results if significantly above current accruals.
Lead pigment and lead-based paint litigation remains unaccrued because management does not believe a loss is probable and cannot estimate a loss range. In the Santa Clara County public nuisance case, the company was jointly and severally liable with two other defendants for a $1.15 billion abatement judgment; the judgment was stayed pending appeal as of the filing date. The company also faced an approximately $85 million claim in Consorcio Comex-related arbitration, with a merits hearing scheduled for April 2016.
During the first nine months, the company closed 23 Paint Stores, three Global Finishes branches and two Latin America Coatings stores, and exited a European business. Qualified exit-cost liabilities were $10.2 million at September 30, 2015. Product warranty accruals were $28.6 million.
Interim results use estimated LIFO inventory valuations and are not necessarily indicative of full-year results. The company adopted ASU 2014-01 without a material effect and was evaluating the future revenue-recognition standard.
Most important facts for investors to verify
- Whether margin expansion and earnings growth can persist after the benefit of higher paint volume and operating efficiencies.
- The sensitivity of Global Finishes and Latin America results to currency movements and international demand.
- Debt leverage, refinancing requirements, interest costs and compliance with the 3.50-to-1.00 leverage covenant.
- The ultimate exposure from environmental matters and the unaccrued lead-paint litigation, including the Santa Clara appeal and insurance coverage disputes.
- The financial impact and execution risk associated with the national-retailer paint program and store closures.
- The sustainability of substantial share repurchases and the increased $0.67 quarterly dividend relative to operating cash flow and debt levels.
- Potential year-end adjustments to LIFO inventory valuation, taxes, foreign-currency translation and other estimates.