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MKC > SEC Filings for MKC > Form 10-Q on 28-Jun-2013All Recent SEC Filings

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Form 10-Q for MCCORMICK & CO INC


28-Jun-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

OVERVIEW
Our Business
We are a global leader in flavor, with the manufacturing, marketing and distribution of spices, seasoning mixes, condiments and other flavorful products to the entire food industry. Customers range from retail outlets and food manufacturers to food service businesses. Our major sales, distribution and production facilities are located in North America and Europe. Additional facilities are based in China, Australia, Mexico, India, Singapore, Central America, Thailand and South Africa. Annually, approximately 40% of our sales have been outside of the United States.
We operate in two business segments, consumer and industrial. Consistent with market conditions in each segment, our consumer business has a higher overall profit margin than our industrial business. In 2012, the consumer business contributed 60% of sales and 79% of operating income and the industrial business contributed 40% of sales and 21% of operating income. Across both segments, we have the customer base and product breadth to participate in all types of eating occasions, whether it is cooking at home, dining out, purchasing a quick service meal or enjoying a snack. We offer consumers a range of products from premium to value-priced.
Our Strategy and Outlook
Our strategy is straightforward - we invest in the business to drive sales and profits and fund these investments with cost savings from our Comprehensive Continuous Improvement (CCI) program. This simple strategy has been the driver of our success and is our plan for growth in the future.
Increasing Sales and Profits - Our long-term goals are to grow sales 4 to 6%, increase operating income 7 to 9% and increase earnings per share 9 to 11%. Long-term, we expect to achieve our sales growth with one-third from category growth, share gains and new distribution, one-third from product innovation and one-third from acquisitions. In 2013, with the addition of Wuhan Asia Pacific Condiments Co. Ltd. (WAPC) in China (see the Acquisitions note to our financial statements), sales are projected to grow 4% to 6% in local currency, due primarily to higher volume and product mix. We have a pipeline of new products for 2013 that includes new varieties of seasonings blends, grilling products, dessert items and authentic ethnic meals. Plans for increased digital marketing activity and other brand support are designed to build consumer awareness and drive volume. We expect the impact of pricing and currency on 2013 sales to be minimal. Earnings per share are projected to be between $3.13 and $3.19, which reflects the impact of higher sales and the CCI cost savings, offset in part by a year-on-year increase in the tax rate and an increase of $22 million in retirement benefit expenses.
In addition to increased sales and profit, our business generates strong cash flow (we generated $455 million in cash flow from operations in 2012). Long-term, we expect higher cash flow and more efficient asset utilization as we anticipate growth in net income and further reductions in our working capital. We are increasing shareholder return with consistent dividend payments. We have paid dividends every year since 1925 and increased the dividend in each of the past 27 years.
Investing in the Business - We are investing in our consumer business with new products, new packaging and greater marketing support. In 2012, we increased brand marketing by $11 million, or 6%, over the prior year to support additional digital marketing, which is one of our highest return investments in brand marketing support. We have planned increases of incremental brand marketing support in 2013 of approximately $15 million and this includes further increases in digital marketing and support for new product launches.

As an industry leader, McCormick brings innovative ideas to consumers and to industrial customers. Innovation continues to be one of the best ways to distinguish our brands from private label and other competition. In the U.S., these include new varieties of GrillMates, Perfect Pinch, Recipe Inspirations and recipe mixes. We are also introducing Zatarain's rice mixes in a convenient microwavable pouch and a line of frozen Thai Kitchen single-serve entrees. In Canada, we are launching a range of recipe mixes to easily prepare authentic Chinese and Philippine dishes and a line of Bag'n Season products. In France, new products include Vahiné dessert items, a recipe mix range and a line of premium gourmet spices and herbs. Product innovation in Poland includes recipe mixes and Bag'n Season items under the Kamis brand. In Australia, we launched liquid marinades in a convenient packaging format and are expanding our Aeroplane gelatin brand with ready-to-serve varieties and a line of "Sweet Treats" dessert mixes. Our first new products for Kohinoor in India include a convenient mix of Rice 'n Spice and a "2 Minute Meal kit." On the industrial side of our business, we have a solid pipeline of new flavors and seasonings aligned with our customers' new product launch plans.


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Inspiring healthy choices is one of our company pillars and we have a number of reduced-sodium and gluten-free products that help consumers create great-tasting meals. Through the McCormick Science Institute, founded by McCormick in 2007, we are funding the advancement of scientific knowledge of the potential health benefits of culinary spices and herbs. This institute is also committed to educating consumers, nutritionists and dietitians about these potential health benefits. In 2012, we added creative and sensory facilities in Mexico and South Africa, and completed new flavor labs in the U.S. and U.K. Early in 2013, we opened a new Asian center for technical innovation in China, similar to our centers for North America and EMEA, where we are developing on-trend, consumer preferred products.

Through acquisitions we are adding leading brands to extend our reach into new geographic regions where we currently have little or no distribution. We have a particular interest in emerging markets that offer high growth potential, such as India and China. On May 31, 2013, we completed our acquisition of the assets of WAPC in China. In our developed markets, we are seeking consumer brands that have a defensible market position and meet a growing consumer trend. Cost Savings from CCI - CCI is our ongoing initiative to improve productivity and reduce costs throughout the company. With CCI, each business unit develops cost reduction opportunities and sets specific goals. Our projects fall into the areas of cost optimization, cost avoidance and productivity that includes streamlining processes. However, the only amounts we report are actual cost reductions where costs have decreased from the prior year. CCI cost savings totaled $56 million in 2012, of which $39 million lowered cost of goods sold. In 2013, CCI-related cost savings are expected to reach at least $50 million, with a large portion impacting our cost of goods sold.
Material cost inflation is expected to moderate to about 3% in 2013, compared to a high single-digit increase in 2012. As such, the year-on-year increase in material costs is expected to ease in 2013 as we progress through the year. We anticipate the 2013 impact of the material cost inflation will be offset in part by the cost savings from our CCI program.

RESULTS OF OPERATIONS - COMPANY

                        Three months ended May 31,          Six months ended May 31,
(in millions)             2013               2012             2013             2012
Net sales           $      1,002.6       $     984.0     $    1,936.9       $ 1,890.7
Percent increase               1.9 %            11.3 %            2.4 %          13.5 %
Gross profit        $        394.4       $     388.4     $      756.1       $   743.7
Gross profit margin           39.3 %            39.5 %           39.0 %          39.3 %

The sales increase of 1.9% for the second quarter of 2013 included a 1.2% unfavorable impact from foreign currency exchange rates. Excluding the foreign currency impact, we grew sales 3.1%. This increase was the result of pricing actions, which added 1.7% to net sales, and higher volume and product mix, which rose 1.4%, driven by our consumer business. For the consumer business, sales increased 3.9%, which included a 1.1% unfavorable impact from foreign exchange rates. Volume and product mix added 2.9% driven largely by product innovation, effective brand marketing support and distribution gains. Pricing actions added 2.1% to consumer net sales. For the industrial business, net sales decreased 0.9%, which included a 1.3% unfavorable impact from foreign exchange rates. Pricing actions added 1.0% to industrial net sales, while volume and product mix declined 0.6% due largely to lower demand from quick service restaurants. In the Americas, quick service restaurant demand was soft due to promotional emphasis on menu items not flavored by McCormick, while in Asia, demand was impacted by consumer concern about bird flu in China. This pressure on industrial business sales is expected to extend through the third quarter of 2013 and improve in the fourth quarter.

Gross profit for the second quarter of 2013 increased by 1.5% over the comparable period from last year, however our gross profit margin declined by 20 basis points when compared to the second quarter of 2012. This was an improvement from the 50 basis point decline in the first quarter of 2013 compared to the first quarter of 2012. The major reason for the gross profit margin decline in 2013 was material cost inflation. We were able to offset most of the material cost increases with price increases on a dollar basis, however, it had a negative impact on gross margin percentage. We had a favorable mix of businesses with our consumer business growing faster than our industrial business, however this was offset by unfavorable business mix in our industrial segment. We expect material cost inflation of about 3% in fiscal 2013, down from a high single digit rate of increase in 2012. As material costs inflation is anticipated to ease, we expect further improvement in the fourth quarter of 2013.


Table of Contents

                                        Three months ended May 31,          Six months ended May 31,
(in millions)                             2013               2012             2013             2012
Selling, general & administrative
expense (SG&A)                       $      278.4       $      267.1     $     528.1       $     509.8
Percent of net sales                         27.7 %             27.2 %          27.2 %            26.9 %

SG&A as a percentage of net sales increased 0.5% for the second quarter of 2013 as compared to the second quarter of 2012. Brand marketing support was $3.0 million higher in the second quarter of 2013 as compared to the same period from the prior year. We also incurred $3.7 million of transaction costs for our WAPC acquisition in the second quarter of 2013. In addition, second quarter 2013 SG&A included an increase in retirement benefit expense, partially offset by cost savings from our CCI program. For the six months ended May 31, 2013, the SG&A percentage was impacted by an increase in retirement benefit expense and the WAPC acquisition transaction costs, partially offset by a $0.9 million decrease in brand marketing support when compared to the same period of the prior year.

                                          Three months ended May 31,      Six months ended May 31,
(in millions)                                2013             2012          2013             2012
Interest expense                        $        13.5     $     13.9   $        27.4     $     27.4
Other (expense) income, net                       0.8           (0.1 )           1.4            0.7

The impact of lower average debt balances in 2013 compared to 2012 was offset by the impact of higher interest rates for 2013 compared to 2012, leading to interest expense for the second quarter and first half of 2013 that was comparable to the prior period. The WAPC acquisition occurred at the end of the second quarter so it had no impact on interest expense in these periods.

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