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MHK > SEC Filings for MHK > Form 10-Q on 2-Nov-2012All Recent SEC Filings

Show all filings for MOHAWK INDUSTRIES INC

Form 10-Q for MOHAWK INDUSTRIES INC


2-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Overview

The Company is a leading producer of floor covering products for residential and commercial applications in the United States and residential applications in Europe. The Company is the second largest carpet and rug manufacturer and one of the largest manufacturers, marketers and distributors of ceramic tile, natural stone and hardwood flooring in the U.S., as well as a leading producer of laminate flooring in the U.S. and Europe. The Company is expanding its international presence through investments in Australia, Brazil, China, Mexico and Russia. The Company had annual net sales in 2011 of $5.6 billion.

The Company has three reporting segments: the Mohawk segment, the Dal-Tile segment and the Unilin segment. The Mohawk segment designs, manufactures, sources, distributes and markets its floor covering product lines, which include carpets, ceramic tile, laminate, rugs, carpet pad, hardwood and resilient, primarily in North America through its network of regional distribution centers and satellite warehouses using Company-operated trucks, common carriers or rail transportation. The segment's product lines are sold through various selling channels, which include independent floor covering retailers, home centers, mass merchandisers, department stores, commercial dealers and commercial end users. The Dal-Tile segment designs, manufactures, sources, distributes and markets a broad line of ceramic tile, porcelain tile, natural stone and other products, primarily in North America and Mexico through its network of regional distribution centers and Company-operated service centers using Company-operated trucks, common carriers or rail transportation. The segment's product lines are sold through independent distributors, home center retailers, tile and flooring retailers and contractors. The Unilin segment designs, manufactures, sources, licenses, distributes and markets laminate and hardwood flooring, roofing systems, insulation panels and other wood products, primarily in North America and Europe through various selling channels, which include retailers, independent distributors and home centers.

In 2011, the primary categories of the U.S. floor covering industry, based on sales dollars, were carpet and rug (53%), resilient and rubber (14%), ceramic tile (12%), hardwood (10%), stone (6%) and laminate (5%). Each of these categories is influenced by the average selling price per square foot, the residential builder and homeowner remodeling markets, housing starts and housing resales, average house size and home ownership. In addition, the level of sales in the floor covering industry, both in the U.S. and Europe, is influenced by consumer confidence, spending for durable goods, interest rates and availability of credit, turnover in housing, the condition of the residential and commercial construction industries and the overall strength of the economy.

The U.S. floor covering industry experienced declining demand beginning in the fourth quarter of 2006 with sales declining from $25.7 billion in 2006 to $17.9 billion in 2011. Industry conditions have remained difficult due to many factors, including uncertainty caused by economic conditions in the U.S., the European debt crisis, material price volatility, unemployment and consumer confidence, all of which have created headwinds to industry growth.

For the three months ended September 29, 2012, net earnings attributable to the Company were $70.3 million, or diluted earnings per share ("EPS") of $1.01, compared to the net earnings attributable to the Company of $46.6 million, or diluted EPS of $0.68, for the three months ended October 1, 2011. The increase in EPS was primarily attributable to higher sales volume, the favorable net impact of price and product mix, operations productivity, lower interest costs and the change in the net impact of unrealized foreign exchange gains/losses.

For the nine months ended September 29, 2012, net earnings attributable to the Company were $183.9 million, or diluted EPS of $2.66, compared to the net earnings attributable to the Company of $131.0 million, or diluted EPS of $1.90 for the nine months ended October 1, 2011. The increase in EPS was primarily attributable to higher sales volume, the favorable net impact of price and product mix, operations productivity, lower interest costs and the change in the net impact of unrealized foreign exchange gains/losses, partially offset by higher material input costs.

Foreign Currency Translation: Prior to the second quarter of 2012, operations carried out in Mexico used the U.S. dollar as the functional currency. Effective April 1, 2012, the Company changed the functional currency of its Mexico operations to the Mexican peso. The Company believes that the completion of a second plant in Mexico and growth in sales to the local Mexican market indicated a significant change in the economic facts and circumstances that justified the change in the functional currency. Consistent with the Company's policy on foreign currency translation disclosed in the Company's 2011 Annual Report filed on Form 10-K, the new functional currency will be translated into U.S. dollars for balance sheet accounts using the month end rates in effect as of the balance sheet date and average exchange rate for revenue and expense accounts for each respective period. The translation adjustments are deferred as a separate component of stockholders' equity, within other comprehensive income. The effects of the change in functional currency were not significant to the Company's condensed consolidated financial statements.


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Results of Operations

Quarter Ended September 29, 2012, as Compared with Quarter Ended October 1, 2011

Net sales

Net sales for the three months ended September 29, 2012 were $1,473.5 million, reflecting an increase of $31.0 million, or 2.1%, from the $1,442.5 million reported for the three months ended October 1, 2011. The increase was primarily driven by higher volume of approximately $32 million and the favorable net impact of price and product mix of approximately $32 million, partially offset by the impact of unfavorable foreign exchange rates of approximately $33 million.

Mohawk Segment-Net sales decreased $2.7 million, or 0.4%, to $751.8 million for the three months ended September 29, 2012, compared to $754.5 million for the three months ended October 1, 2011. The decrease was primarily driven by lower volume of approximately $28 million, which was partially offset by the favorable net impact of price and product mix of approximately $25 million. The lower volume was primarily attributable to the timing of carpet product transitions in the home center channel and lower demand for rug products in the retail channel.

Dal-Tile Segment-Net sales increased $35.6 million, or 9.3%, to $417.5 million for the three months ended September 29, 2012, compared to $381.9 million for the three months ended October 1, 2011. The increase was primarily driven by volume increases of approximately $34 million and the favorable net impact of price and product mix of approximately $4 million, partially offset by the impact of unfavorable foreign exchange rates of approximately $2 million. The volume increases were primarily attributable to improvement in the U.S. commercial and residential channels and growth in the Mexican market.

Unilin Segment-Net sales decreased $0.9 million, or 0.3%, to $328.6 million for the three months ended September 29, 2012, compared to $329.5 million for the three months ended October 1, 2011. The decrease was primarily driven by the impact of unfavorable foreign exchange rates of approximately $31 million, which was partially offset by volume increases of approximately $28 million and the favorable net impact of price and product mix of approximately $2 million. The volume increases were primarily attributable to sales increases in U.S. laminate and wood, insulation products, sales in our Russian market and home center channel expansion.

Gross profit

Gross profit for the three months ended September 29, 2012 was $372.8 million (25.3% of net sales), an increase of $15.2 million or 4.3%, compared to gross profit of $357.6 million (24.8% of net sales) for the three months ended October 1, 2011. The increase in gross profit dollars was primarily attributable to operations productivity of approximately $10 million, higher sales volume of approximately $8 million and the favorable net impact of price and product mix of approximately $6 million, partially offset by the impact of unfavorable foreign exchange rates of approximately $7 million.

Selling, general and administrative expenses

Selling, general and administrative expenses for the three months ended September 29, 2012 were $268.9 million (18.2% of net sales), compared to $266.2 million (18.5% of net sales) for the three months ended October 1, 2011. The increase in selling, general and administrative expenses in dollars was primarily driven by increases in costs to support new product introductions and geographic expansion, partially offset by favorable foreign exchange rates.

Operating income

Operating income for the three months ended September 29, 2012 was $104.0 million (7.1% of net sales) reflecting an increase of $12.5 million, or 13.7%, compared to operating income of $91.5 million (6.3% of net sales) for the three months ended October 1, 2011. The increase in operating income was primarily driven by operations productivity of approximately $10 million, sales volume increases of approximately $8 million and the favorable net impact of price and product mix of approximately $6 million, partially offset by increases in costs to support new product introductions and geographic expansion of approximately $5 million and increases in manufacturing start-up costs of approximately $3 million.

Mohawk Segment-Operating income was $43.8 million (5.8% of segment net sales) for the three months ended September 29, 2012 reflecting an increase of $12.9 million compared to operating income of $30.9 million (4.1% of segment net sales) for the three months ended October 1, 2011. The increase in operating income was primarily driven by the favorable net impact of price and product mix of approximately $8 million, lower input costs and higher operations productivity of


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approximately $12 million, partially offset by lower sales volume of approximately $4 million.

Dal-Tile Segment-Operating income was $37.5 million (9.0% of segment net sales) for the three months ended September 29, 2012 reflecting an increase of $4.4 million compared to operating income of $33.1 million (8.7% of segment net sales) for the three months ended October 1, 2011. The increase in operating income was primarily driven by sales volume increases of approximately $6 million, partially offset by increases in costs to support new product introductions and geographic expansion of approximately $3 million.

Unilin Segment-Operating income was $28.9 million (8.8% of segment net sales) for the three months ended September 29, 2012 reflecting a decrease of $4.1 million compared to operating income of $33.0 million (10.0% of segment net sales) for the three months ended October 1, 2011. The decrease in operating income was primarily driven by unfavorable foreign exchange rates of approximately $4 million, higher input costs of approximately $4 million and the unfavorable net impact of price and product mix of approximately $3 million, partially offset by operations productivity of approximately $4 million and sales volume increases of approximately $4 million.

Interest expense

Interest expense was $18.0 million for the three months ended September 29, 2012, reflecting a decrease of $7.1 million compared to interest expense of $25.1 million for the three months ended October 1, 2011. The decrease in interest expense in 2012 was due to lower interest rates on the Company's outstanding debt. The lower interest rates were primarily attributable to the shift from higher interest rate senior notes to the Senior Credit Facility and the rating agency upgrades discussed in Liquidity and Capital Resources.

Other expense

Other expense was $0.3 million for the three months ended September 29, 2012, reflecting a change of $13.1 million compared to other expense of $13.4 million for the three months ended October 1, 2011. The change was primarily attributable to net foreign currency losses of approximately $13 million. The unrealized foreign currency losses in the prior year were primarily a result of volatility in the Mexican Peso and Canadian Dollar that occurred late in the third quarter of 2011. Prior to the second quarter of 2012, operations carried out in Mexico used the U.S. dollar as the functional currency. Effective April 1, 2012, the Company changed the functional currency of its Mexico operations to the Mexican peso.

Income tax expense

For the three months ended September 29, 2012, the Company recorded income tax expense of $15.4 million on earnings before income taxes of $85.7 million for an effective tax rate of 17.9%, as compared to an income tax expense of $5.2 million on earnings before income taxes of $52.9 million, resulting in an effective tax rate of 9.9% for the three months ended October 1, 2011. The difference in the effective tax rate for the comparative period is primarily due to the geographical dispersion of earnings and losses in the current period, an Internal Revenue Service ("IRS") refund received in the third quarter of 2011, and adjustments made in the third quarter of 2011 in conjunction with the Company's projected full year tax rate analysis.

Nine Months Ended September 29, 2012, as Compared with Nine Months Ended October 1, 2011

Net sales

Net sales for the nine months ended September 29, 2012 were $4,352.3 million, reflecting an increase of $88.3 million, or 2.1%, from the $4,264.0 million reported for the nine months ended October 1, 2011. The increase was primarily driven by the favorable net impact of price and product mix of approximately $113 million and higher volume of approximately $58 million, partially offset by the impact of unfavorable foreign exchange rates of approximately $83 million.

Mohawk Segment-Net sales decreased $17.5 million, or 0.8%, to $2,186.2 million for the nine months ended September 29, 2012, compared to $2,203.7 million for the nine months ended October 1, 2011. The decrease was primarily driven by lower volume of approximately $115 million, partially offset by the favorable net impact of price and product mix of approximately $97 million. The lower volume was primarily attributable to the timing of carpet product transitions in the home center channel and lower demand for rug products in the retail channel.

Dal-Tile Segment-Net sales increased $108.9 million, or 9.9%, to $1,214.7 million for the nine months ended September 29, 2012, compared to $1,105.8 million for the nine months ended October 1, 2011. The increase was primarily


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driven by volume increases of approximately $109 million and the favorable net impact of price and product mix of approximately $7 million, partially offset by the impact of unfavorable foreign exchange rates of approximately $7 million. The volume increases were primarily attributable to improvement in the U.S. commercial and residential channels and growth in the Mexican market.

Unilin Segment-Net sales increased $2.0 million, or 0.2%, to $1,020.4 million for the nine months ended September 29, 2012, compared to $1,018.4 million for the nine months ended October 1, 2011. The increase was primarily driven by volume increases of approximately $69 million and the favorable net impact of price and product mix of approximately $9 million, partially offset by the impact of unfavorable foreign exchange rates of approximately $76 million. The volume increases were primarily attributable to laminate and wood flooring and insulation products.

Gross profit

Gross profit for the nine months ended September 29, 2012 was $1,120.7 million (25.8% of net sales), an increase of $39.2 million or 3.6%, compared to gross profit of $1,081.5 million (25.4% of net sales) for the nine months ended October 1, 2011. The increase in gross profit dollars was primarily attributable to the favorable net impact of price and product mix of approximately $46 million, operations productivity of approximately $35 million and higher sales volume of approximately $18 million, partially offset by higher material input costs of approximately $44 million and the impact of unfavorable foreign exchange rates of approximately $15 million.

Selling, general and administrative expenses

Selling, general and administrative expenses for the nine months ended September 29, 2012 were $837.1 million (19.2% of net sales), compared to $832.2 million (19.5% of net sales) for the nine months ended October 1, 2011. The increase in selling, general and administrative expenses in dollars was primarily driven by increases in costs to support new product introductions and geographic expansion, partially offset by favorable foreign exchange rates.

Operating income

Operating income for the nine months ended September 29, 2012 was $283.6 million (6.5% of net sales) reflecting an increase of $34.4 million, or 13.8%, compared to operating income of $249.2 million (5.8% of net sales) for the nine months ended October 1, 2011. The increase in operating income was primarily driven by the favorable net impact of price and product mix of approximately $46 million, operations productivity of approximately $35 million and higher sales volume of approximately $18 million, partially offset by higher input costs of approximately $44 million and increases in costs to support new product introductions and geographic expansion of approximately $14 million and increases in manufacturing start-up costs of approximately $5 million.

Mohawk Segment-Operating income was $106.2 million (4.9% of segment net sales) for the nine months ended September 29, 2012 reflecting an increase of $27.0 million compared to operating income of $79.2 million (3.6% of segment net sales) for the nine months ended October 1, 2011. The increase in operating income was primarily driven by the favorable net impact of price and product mix of approximately $51 million, operations productivity of approximately $17 million and lower restructuring costs of approximately $5 million, partially offset by lower sales volume of approximately $27 million and higher input costs of approximately $24 million.

Dal-Tile Segment-Operating income was $99.9 million (8.2% of segment net sales) for the nine months ended September 29, 2012 reflecting an increase of $17.0 million compared to operating income of $82.9 million (7.5% of segment net sales) for the nine months ended October 1, 2011. The increase in operating income was primarily driven by sales volume increases of approximately $30 million and operations productivity of approximately $7 million, partially offset by increases in costs to support new product introductions and geographic expansion of approximately $12 million and higher input costs of approximately $6 million.

Unilin Segment-Operating income was $96.6 million (9.5% of segment net sales) for the nine months ended September 29, 2012 reflecting a decrease of $8.9 million compared to operating income of $105.5 million (10.4% of segment net sales) for the nine months ended October 1, 2011. The decrease in operating income was primarily driven by higher input costs of approximately $13 million, unfavorable foreign exchange rates of approximately $9 million, increases in costs to support new product introductions and geographic expansion of approximately $5 million and the unfavorable net impact of price and product mix of approximately $4 million, partially offset by sales volume increases of approximately $14 million and operations productivity of approximately $11 million.


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Interest expense

Interest expense was $59.3 million for the nine months ended September 29, 2012, reflecting a decrease of $18.2 million compared to interest expense of $77.5 million for the nine months ended October 1, 2011. The decrease in interest expense in 2012 was due to lower interest rates on the Company's outstanding debt. The lower interest rates were primarily attributable to the shift from higher interest rate senior notes to the Senior Credit Facility and the rating agency upgrades discussed in Liquidity and Capital Resources.

Other (income) expense

Other (income) was $(1.1) million for the nine months ended September 29, 2012, reflecting a change of $14.9 million compared to other expense of $13.8 million for the nine months ended October 1, 2011. The change was primarily attributable to net foreign currency losses of approximately $17.6 million. The unrealized foreign currency losses in the prior year were primarily a result of volatility in the Mexican Peso and Canadian Dollar that occurred late in the third quarter of 2011. Prior to the second quarter of 2012, operations carried out in Mexico used the U.S. dollar as the functional currency. Effective April 1, 2012, the Company changed the functional currency of its Mexico operations to the Mexican peso.

Income tax expense

For the nine months ended September 29, 2012, the Company recorded income tax expense of $40.9 million on earnings before income taxes of $225.4 million for an effective tax rate of 18.1%, as compared to an income tax expense of $23.6 million on earnings before income taxes of $158.0 million, resulting in an effective tax rate of 15.0% for the nine months ended October 1, 2011. The difference in the effective tax rate for the comparative period is primarily due to the geographical dispersion of earnings and losses, an IRS refund received in the third quarter of 2011, and adjustments made in the third quarter of 2011 in conjunction with the Company's projected full year tax rate analysis.

Liquidity and Capital Resources

The Company's primary capital requirements are for working capital, capital expenditures and acquisitions. The Company's capital needs are met primarily through a combination of internally generated funds, bank credit lines, term and senior notes and credit terms from suppliers.

Net cash provided by operating activities in the first nine months of 2012 increased $160.4 million to $298.5 million, compared to net cash provided by operating activities of $138.2 million in the first nine months of 2011. The favorable change in operating activities is primarily attributable to improved earnings and changes in net working capital, partially offset by a tax deposit of 26.5 million paid to the Belgian tax authority as discussed in Note 11 in the notes to the condensed consolidated financial statements. For the nine months ended September 29, 2012, the $97.3 million increase in receivables is primarily related to seasonality.

Net cash used in investing activities in the first nine months of 2012 was $142.0 million compared to net cash used in investing activities of $206.4 million in the first nine months of 2011. Cash used in investing activities primarily relates to various geographic capacity expansions. Capital spending during the remainder of 2012, excluding acquisition expenditures, is expected to range from approximately $55 million to $65 million and is intended to be used primarily to purchase equipment, add geographic capacity and to streamline manufacturing capabilities. During the second quarter of 2012, the Company's Unilin segment made a $7.0 million equity investment in a laminate flooring facility in Brazil.

Net cash used in financing activities in the first nine months of 2012 was $87.7 million compared to net cash used in financing activities of $8.0 million in the first nine months of 2011. The proceeds from the incremental term loan facility of $150.0 million discussed below were used to pay down the revolving portion of the Senior Credit Facility. The increase in total borrowings on the Senior Credit Facility was primarily used to pay down the Company's senior 7.20% notes due April 15, 2012, as well as the purchase of the non-controlling interest within the Dal-Tile segment for $35.0 million and funding of working capital.

On July 8, 2011, the Company entered into a five-year, senior, secured revolving credit facility (the "Senior Credit Facility"). The Senior Credit Facility provides for a maximum of $900.0 million of revolving credit, including limited amounts of credit in the form of letters of credit and swingline loans. The Company paid financing costs of $8.2 million in connection with its Senior Credit Facility. These costs were deferred and, along with unamortized costs of $12.3 million related to the Company's prior senior, secured revolving credit facility, are being amortized over the term of the Senior Credit Facility.


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On January 20, 2012, the Company entered into an amendment to the Senior Credit Facility that provides for an incremental term loan facility in the aggregate principal amount of $150.0 million. The Company paid financing costs of $1.0 million in connection with the amendment to its Senior Credit Facility. These costs were deferred and are being amortized over the remaining term of the Senior Credit Facility. The incremental term loan facility provides for eight scheduled quarterly principal payments of $1.875 million, with the first such payment due on June 30, 2012, followed by four scheduled quarterly principal payments of $3.750 million, with remaining quarterly principal payments of $5.625 million prior to maturity.

The Senior Credit Facility is scheduled to mature on July 8, 2016. The Company can terminate and prepay the Senior Credit Facility at any time without payment of any termination or prepayment penalty (other than customary breakage costs in respect of loans bearing interest at a rate based on LIBOR).

At the Company's election, revolving loans under the Senior Credit Facility bear interest at annual rates equal to either (a) LIBOR for 1-, 2-, 3- or 6- month periods, as selected by the Company, plus an applicable margin ranging between 1.25% and 2.0%, or (b) the higher of the Bank of America, N.A. prime rate, the Federal Funds rate plus 0.5%, and a monthly LIBOR rate plus 1.0%, plus an applicable margin ranging between 0.25% and 1.0%. The Company also pays a commitment fee to the lenders under the Senior Credit Facility on the average amount by which the aggregate commitments of the lenders' exceed utilization of the Senior Credit Facility ranging from 0.25% to 0.4% per annum. The applicable margin and the commitment fee are determined based on the Company's Consolidated Net Leverage Ratio (with applicable margins and the commitment fee increasing as the ratio increases).

All obligations of the Company and the other borrowers under the Senior Credit Facility are required to be guaranteed by all of the Company's material domestic subsidiaries and all obligations of borrowers that are foreign subsidiaries are guaranteed by those foreign subsidiaries of the Company which the Company designates as guarantors.

Due to the rating agency upgrade announced on March 14, 2012 by Standard & Poor's Financial Services, LLC ("S&P"), the security interests in domestic accounts receivable and inventories, certain shares of capital stock (or equivalent ownership interests) of the domestic borrowers' and domestic guarantors' subsidiaries, and proceeds of any of the foregoing securing obligations under the Senior Credit Facility were released. The Company will be required to reinstate such security interests if there is a ratings downgrade such that: (a) both (i) the Moody's Investor's Service, Inc. ("Moody's") rating is Ba2 and (ii) the S&P rating is BB, (b) (i) the Moody's rating is Ba3 or lower . . .

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