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CTAS > SEC Filings for CTAS > Form 10-Q on 10-Oct-2013All Recent SEC Filings

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Form 10-Q for CINTAS CORP


10-Oct-2013

Quarterly Report


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

BUSINESS STRATEGY

Cintas provides highly specialized products and services to businesses of all types primarily throughout North America, as well as Latin America, Europe and Asia. We bring value to our customers by helping them provide a cleaner, safer and more pleasant atmosphere for their customers and employees. Our products and services are designed to improve our customers' images. We also help our customers protect their employees and their company by enhancing workplace safety and helping to ensure legal compliance in key areas of their business.

We are North America's leading provider of corporate identity uniforms through rental and sales programs, as well as a significant provider of related business services, including entrance mats, restroom cleaning services and supplies, carpet and tile cleaning services, first aid, safety and fire protection products and services, and document management services.

Cintas' principal objective is "to exceed customers' expectations in order to maximize the long-term value of Cintas for shareholders and working partners," and it provides the framework and focus for Cintas' business strategy. This strategy is to achieve revenue growth for all of our products and services by increasing our penetration at existing customers and by broadening our customer base to include business segments to which we have not historically served. We will also continue to identify additional product and service opportunities for our current and future customers.

To pursue the strategy of increasing penetration, we have a highly talented and diverse team of service professionals visiting our customers on a regular basis. This frequent contact with our customers enables us to develop close personal relationships. The combination of our distribution system and these strong customer relationships provides a platform from which we launch additional products and services.

We pursue the strategy of broadening our customer base in several ways. Cintas has a national sales organization introducing all of its products and services to prospects in all business segments. Our broad range of products and services allows our sales organization to consider any type of business a prospect. We also broaden our customer base through geographic expansion, especially in our first aid, safety and fire protection and document management businesses. Finally, we evaluate strategic acquisitions as opportunities arise.

RESULTS OF OPERATIONS

Cintas classifies its businesses into four operating segments based on the types of products and services provided. The Rental Uniforms and Ancillary Products operating segment consists of the rental and servicing of uniforms and other garments including flame resistant clothing, mats, mops and shop towels and other ancillary items. In addition to these rental items, restroom cleaning services and supplies and carpet and tile cleaning services are also provided within this operating segment. The Uniform Direct Sales operating segment consists of the direct sale of uniforms and related items. The First Aid, Safety and Fire Protection Services operating segment consists of first aid, safety and fire protection products and services. The Document Management Services operating segment consists of document destruction, document imaging and document retention services. Revenue and income before income taxes for each of these operating segments for the three months ended August 31, 2013 and 2012 are presented in Note 10 entitled Segment Information of "Notes to Consolidated Condensed Financial Statements."

Consolidated Results

Three Months Ended August 31, 2013 Compared to Three Months Ended August 31, 2012

Total revenue increased 6.6% for the three months ended August 31, 2013 over the same period in the prior fiscal year, from $1,051.3 million to $1,120.3 million. Total revenue was negatively impacted by 1.6% due to one fewer workday in the period ended August 31, 2013 compared to the period ended August 31, 2012. Revenue increased organically, which adjusts for the impact of acquisitions and the impact of one less workday in the current period, by 7.1%. The 1.1% difference in growth rates represents growth derived through acquisitions in our First Aid, Safety and Fire Protection Services and our Document Management Services operating segments.


Rental Uniforms and Ancillary Products operating segment revenue increased 5.0% for the three months ended August 31, 2013 over the same period in the prior fiscal year, from $754.8 million to $792.9 million. Revenue was negatively impacted by 1.7% due to one fewer workday in the period ended August 31, 2013 compared to the period ended August 31, 2012. Revenue increased organically by 6.7%. Revenue from existing national accounts was robust, which enhanced growth. Additionally, sales representative productivity was strong, and revenue from existing customers showed improvement over the prior year period. Generally, sales productivity improvements are the result of increased tenure and improved training, which result in a higher number of products and services sold.

Other Services revenue, consisting of revenue from the reportable operating segments of Uniform Direct Sales, First Aid, Safety and Fire Protection Services and Document Management Services, increased 10.5% for the three months ended August 31, 2013 over the same period in the prior fiscal year, from $296.5 million to $327.5 million. Revenue was negatively impacted by 1.7% due to one fewer workday in the period ended August 31, 2013 compared to the period ended August 31, 2012. Revenue increased organically by 8.2%. The 4.0% difference in growth rates represents growth derived through acquisitions in our First Aid, Safety and Fire Protection Services and our Document Management Services operating segments.

Cost of rental uniforms and ancillary products consists primarily of production expenses, delivery expenses and the amortization of in service inventory, including uniforms, mats, shop towels and other ancillary items. Cost of rental uniforms and ancillary products increased $26.6 million, or 6.2%, for the three months ended August 31, 2013, compared to the three months ended August 31, 2012. This increase was due to higher Rental Uniforms and Ancillary Products operating segment sales volume, higher energy-related costs, and higher service costs associated with route expansion.

Cost of other services consists primarily of cost of goods sold (predominantly uniforms and first aid, safety and fire protection products), delivery expenses and distribution expenses in the Uniform Direct Sales operating segment, the First Aid, Safety and Fire Protection Services operating segment and the Document Management Services operating segment. Cost of other services increased $22.3 million, or 12.6%, for the three months ended August 31, 2013, compared to the three months ended August 31, 2012. This increase was primarily due to increased sales volume.

Selling and administrative expenses increased $19.3 million, or 6.3%, for the three months ended August 31, 2013, compared to the three months ended August 31, 2012, due to increases in labor and other employee-partner related expenses. However, the increase in selling and administrative costs was less than the 6.6% increase in total revenue as we were able to leverage our cost structure despite the noted increases.

Net interest expense (interest expense less interest income) was $16.5 million for the three months ended August 31, 2013 and 2012.

Cintas' effective tax rate was 37.1% for the three months ended August 31, 2013, compared to 37.5% for the three months ended August 31, 2012. The effective tax rate can fluctuate from quarter to quarter based on specific discrete items.

Net income increased $1.0 million, or 1.3%, for the three months ended August 31, 2013, from the same period in the prior fiscal year. This increase was primarily due to the growth in revenue. The impact of the increase was partially offset by one fewer workday in the three months ended August 31, 2013, compared to the three months ended August 31, 2012. Several large expenses, including rental material cost, depreciation and amortization are determined on a monthly basis instead of a workday basis, and one fewer workday results in one less day of revenue to cover these fixed expenses. Diluted earnings per share were $0.63 for the three months ended August 31, 2013, which was an increase of 5.0% compared to the same period in the prior fiscal year. Diluted earnings per share increased due to an increase in earnings combined with a decrease in weighted average common stock outstanding. The decrease in common stock outstanding resulted from purchasing 5.3 million shares of common stock under the October 18, 2011 share buyback program since the beginning of the second quarter of fiscal 2013 through the first quarter of fiscal 2014.


Rental Uniforms and Ancillary Products Operating Segment

Three Months Ended August 31, 2013 Compared to Three Months Ended August 31, 2012

As previously discussed, Rental Uniforms and Ancillary Products operating segment revenue increased from $754.8 million to $792.9 million, or 5.0%, and the cost of rental uniforms and ancillary products increased $26.6 million, or 6.2%. The operating segment's gross margin was $338.1 million, or 42.6% of revenue. This gross margin as a percent of revenue of 42.6% was 70 basis points lower than the prior fiscal year's first quarter of 43.3%, primarily due to the impact of one fewer workday in the first quarter of fiscal 2014 compared to the first quarter of fiscal 2013, an increase in energy-related costs and higher service costs associated with expanded route capacity.

Selling and administrative expenses increased $11.0 million in the first quarter of fiscal 2014 compared to the first quarter of fiscal 2013 primarily due to increased labor and other employee-partner related expenses; however, selling and administrative expenses as a percent of revenue remained consistent at 27.8% for both quarters.

Income before income taxes increased $0.5 million to $117.4 million for the Rental Uniforms and Ancillary Products operating segment for the first quarter of fiscal 2014 compared to the same quarter last fiscal year. Income before income taxes was 14.8% of the operating segment's revenue, which is a 70 basis point decrease compared to the first quarter of the prior fiscal year. This decrease is due to the decrease in gross margin previously discussed.

Uniform Direct Sales Operating Segment

Three Months Ended August 31, 2013 Compared to Three Months Ended August 31, 2012

Uniform Direct Sales operating segment revenue increased from $100.3 million to $107.5 million, or 7.2%, for the three months ended August 31, 2013, over the same quarter in the prior fiscal year due to several large uniform customer roll-outs.

Cost of uniform direct sales increased $6.9 million, or 9.8%, for the three months ended August 31, 2013, over the same quarter in the prior fiscal year. The gross margin as a percent of revenue was 27.7% for the three months ended August 31, 2013, which is a 170 basis point decrease compared to the gross margin percent of revenue of 29.4% in the same quarter of the prior fiscal year. The change is mainly due to a greater mix of national account revenue in the first quarter of this fiscal year. National accounts generally have a lower gross margin than other types of accounts.

Selling and administrative expenses increased $0.3 million compared to the first quarter of the prior fiscal year, primarily due to an increase in labor and other employee-partner related expenses. Selling and administrative expenses as a percent of revenue, at 19.6%, decreased 110 basis points compared to the three months ended August 31, 2012. This decrease as a percent of revenue is mainly due to higher revenue for the first quarter of fiscal 2014 compared to the same quarter in the prior fiscal year.

Income before income taxes decreased $0.1 million for the Uniform Direct Sales operating segment for the first quarter of fiscal 2014 compared to the same quarter last fiscal year. Income before income taxes was 8.1% of the operating segment's revenue, which is a 60 basis point decrease compared to the same quarter last fiscal year. This decrease is primarily due to the decline in gross margin as discussed above.

First Aid, Safety and Fire Protection Services Operating Segment

Three Months Ended August 31, 2013 Compared to Three Months Ended August 31, 2012

First Aid, Safety and Fire Protection Services operating segment revenue increased from $110.8 million to $125.9 million, or 13.6%, for the three months ended August 31, 2013. Revenue was negatively impacted by 1.7% due to one fewer workday in the period ended August 31, 2013, compared to the period ended August 31, 2012. Revenue increased organically by 9.2%. The 6.1% difference in growth rates represents growth derived through acquisitions.

Cost of first aid, safety and fire protection services increased $7.9 million, or 12.6%, for the three months ended August 31, 2013, over the three months ended August 31, 2012, due to increased First Aid, Safety and Fire Protection Services operating segment revenue. Gross margin for the First Aid, Safety and Fire Protection Services operating segment is defined as revenue less cost of goods, warehouse expenses, service expenses and training expenses.


The gross margin as a percent of revenue was 43.6% for the quarter ended August 31, 2013, which is a 50 basis point increase compared to the gross margin as a percent of revenue of 43.1% in the same quarter of the prior fiscal year. The margin improvement is partially due to a decrease in energy costs of approximately 20 basis points. The remaining improvement is due to better leveraging of fixed costs in addition to an improved mix of higher gross margin revenue in the first quarter of Fiscal 2014. These improvements were partially offset by the one less workday in the first quarter of Fiscal 2014.

Selling and administrative expenses increased $4.7 million compared to the first quarter of the prior fiscal year, primarily due to an increase in labor and other employee-partner related expenses. Selling and administrative expenses as a percent of revenue, at 34.5%, decreased 50 basis points compared to the first quarter of the prior fiscal year due to revenue growing at a faster rate than selling and administrative expenses.

Income before income taxes for the First Aid, Safety and Fire Protection Services operating segment increased $2.4 million to $11.4 million for the three months ended August 31, 2013, compared to the same quarter in the prior fiscal year, due to the increase in First Aid, Safety and Fire Protection Services operating segment revenue and the improvement in margins as discussed above. Income before income taxes, at 9.1% of the operating segment's revenue, is a 100 basis point increase compared to the same quarter last fiscal year.

Document Management Services Operating Segment

Three Months Ended August 31, 2013 Compared to Three Months Ended August 31, 2012

Document Management Services operating segment revenue increased from $85.4 million to $94.1 million, or 10.3%, for the quarter ended August 31, 2013, over the same quarter in the prior fiscal year. Revenue was negatively impacted by 1.7% due to one fewer workday in the period ended August 31, 2013, compared to the period ended August 31, 2012. Revenue increased organically by 6.3% due to sales productivity improvements. The 5.7% difference in growth rates represents growth derived through acquisitions. This operating segment derives a portion of its revenue from the sale of shredded paper to paper recyclers. The average price from these paper sales decreased by approximately 25% for the quarter ended August 31, 2013, in comparison to the same quarter of the prior fiscal year. This decrease resulted in lower recycled paper revenue.

Cost of document management services increased $7.5 million, or 17.2%, for the three months ended August 31, 2013, over the same quarter in the prior fiscal year due to increased Document Management Services operating segment revenue. Gross margin for the Document Management Services operating segment is defined as revenue less production and service costs. The gross margin as a percent of revenue was 45.9% for the three months ended August 31, 2013, which is a decrease from last year's first quarter gross margin as a percent of revenue of 49.1%. The decrease is due primarily to lower recycled paper revenue.

Selling and administrative expenses increased $3.4 million compared to the first quarter of the prior fiscal year, primarily due to an increase in labor and other related expenses. Selling and administrative expenses as a percent of revenue, at 43.2%, decreased 50 basis points compared to the three months ended August 31, 2012. This decrease in percent of revenue is mainly due to revenue growing at a faster rate than selling and administrative expenses.

Income before income taxes for the Document Management Services operating segment decreased $2.1 million to $2.6 million for the three months ended August 31, 2013, compared to the same period in the prior fiscal year. Income before income taxes as a percentage of the operating segment's revenue decreased from 5.4% in last year's first quarter to 2.7% for the quarter ended August 31, 2013, primarily as a result of lower recycled paper revenue.


Liquidity and Capital Resources

The following is a summary of our cash flows and cash, cash equivalents and
marketable securities as of and for the three months ended August 31, 2013 and
August 31, 2012:
(In thousands)                                        2013          2012
Net cash provided by operating activities          $  82,559     $  94,865
Net cash used in investing activities              $ (67,004 )   $ (61,241 )
Net cash used in financing activities              $ (88,933 )   $ (55,479 )

Cash and cash equivalents at the end of the period $ 278,670     $ 319,217
Marketable securities at the end of the period     $   4,189     $  10,948

The cash and cash equivalents and marketable securities as of August 31, 2013 include $27.6 million that is located outside of the United States. We expect to use these amounts to fund our international operations and international expansion activities. The marketable securities at August 31, 2013 consist of Canadian treasury securities. We believe that our investment policy pertaining to marketable securities is conservative. The primary criterion used in making investment decisions is the preservation of principal, while earning an attractive yield.

Cash flows provided by operating activities have historically supplied us with a significant source of liquidity. We generally use these cash flows to fund most, if not all, of our operations and expansion activities and dividends on our common stock. We may also use cash flows provided by operating activities, as well as proceeds from long-term debt and short-term borrowings, to fund growth and expansion opportunities, as well as other cash requirements such as the repurchase of our common stock.

Net cash provided by operating activities was $82.6 million for the three months ended August 31, 2013, a decrease of $12.3 million compared to the same period last fiscal year. The decrease is largely due to timing issues relating to customer collections and vendor payments.

Net cash used in investing activities includes capital expenditures and cash paid for acquisitions of businesses. Capital expenditures were $37.5 million and $47.4 million for the three months ended August 31, 2013 and August 31, 2012, respectively. These capital expenditures primarily relate to expansion efforts in Rental Uniforms and Ancillary Products and Document Management Services operating segments. Capital expenditures for the three months ended August 31, 2013 included $22.2 million for the Rental Uniforms and Ancillary Products operating segment and $11.3 million for the Document Management Services operating segment. Cash paid for acquisitions of businesses net of cash acquired was $32.2 million and $2.1 million for the three months ended August 31, 2013 and August 31, 2012, respectively. The acquisitions this fiscal year occurred in our First Aid, Safety and Fire Protection Services and Document Management Services operating segments. The acquisitions in the prior fiscal period occurred in our Document Management Services segment.

Net cash used in financing activities was $88.9 million and $55.5 million for the three months ended August 31, 2013 and August 31, 2012, respectively. On October 18, 2011, we announced that the Board of Directors authorized a $500.0 million share buyback program. On July 30, 2013, we announced that the Board of Directors authorized a new $500.0 million share buyback program, which does not have an expiration date. During the first three months of fiscal 2013, we purchased 1.8 million shares of Cintas common stock for a total purchase price of $70.6 million. Beginning in April 2012 through May 31, 2013, under the October 18, 2011 share buyback program, Cintas purchased a total of 8.4 million shares of Cintas common stock at an average price of $39.10 per share for a total purchase price of $337.6 million. During the first three months of fiscal 2014, we purchased 2.1 million shares of Cintas common stock for a total purchase price of $100.8 million. In the period subsequent to August 31, 2013 through October 10, 2013, we purchased 0.9 million shares of Cintas common stock for $46.3 million. From the inception of the October 18, 2011 share buyback program through October 10, 2013, Cintas has purchased a total of 11.4 million shares of Cintas common stock at an average price of $42.44 per share for a total purchase price of $484.6 million. For the three months ended August 31, 2013, Cintas acquired 0.1 million shares of Cintas common stock for employee payroll taxes due on restricted stock awards that vested during the three months ended August 31, 2013. These shares were acquired at an average price of $47.67 per share for a total purchase price of $6.2 million.

As of August 31, 2013 we had $1,300.0 million aggregate principal amount in fixed rate senior notes outstanding with maturities ranging from 2016 to 2036. On June 1, 2012, Cintas repaid at maturity $225.0 million aggregate principal


amount of its 6.00% senior notes due 2012. On June 5, 2012, Cintas issued $250.0 million aggregate principal amount of senior notes due June 1, 2022. These senior notes bear interest at a rate of 3.25% paid semi-annually beginning December 1, 2012. The net proceeds generated from the offering ($25.0 million) were used for general corporate purposes.

Cintas' commercial paper program has a capacity of $300.0 million that is fully supported by a backup revolving credit facility through a credit agreement with its banking group. This revolving credit facility has an accordion feature that allows for a maximum borrowing capacity of $450.0 million. The revolving credit facility was amended on October 7, 2011, to extend the maturity date from September 26, 2014 to October 6, 2016, to improve the applicable margin used to calculate the interest rate payable on any outstanding loans and the facility fee payable under the agreement and to replace the financial covenant regarding Cintas' net funded indebtedness to total capitalization with a requirement to maintain a leverage ratio of consolidated indebtedness to consolidated earnings before interest, taxes, depreciation and amortization (debt to EBITDA) of no more than 3.5 to 1.0. We believe this program, along with cash generated from operations, will be adequate to provide necessary funding for our future cash requirements. No commercial paper or borrowings under our revolving credit facility were outstanding as of August 31, 2013 or May 31, 2013.

Cintas has certain covenants related to debt agreements. These covenants limit our ability to incur certain liens, to engage in sale-leaseback transactions and to merge, consolidate or sell all or substantially all of Cintas' assets. These covenants also require Cintas to maintain certain debt to EBITDA and interest coverage ratios. Cross-default provisions exist between certain debt instruments. If a default of a significant covenant were to occur, the default could result in an acceleration of the maturity of the indebtedness, impair liquidity and limit the ability to raise future capital. As of August 31, 2013, Cintas was in compliance with all significant debt covenants.

Our access to the commercial paper and long-term debt markets has historically provided us with sources of liquidity. We do not anticipate having difficulty in obtaining financing from those markets in the future in view of our favorable experiences in the debt markets in the recent past. Our ability to continue to access the commercial paper and long-term debt markets on favorable interest rate and other terms will depend, to a significant degree, on the ratings assigned by the credit rating agencies to our indebtedness. As of August 31, 2013, our ratings were as follows:

      Rating Agency         Outlook   Commercial Paper   Long-term Debt
Standard & Poor's           Stable          A-2               BBB+
Moody's Investors Service   Stable          P-1                A2

In the event that the ratings of our commercial paper or our outstanding long-term debt issues were substantially lowered or withdrawn for any reason, or if the ratings assigned to any new issue of long-term debt securities were significantly lower than those noted above, particularly if we no longer had investment grade ratings, our ability to access the debt markets may be adversely affected. In addition, in such a case, our cost of funds for new issues of commercial paper and long-term debt would be higher than our cost of funds would have been had the ratings of those new issues been at or above the level of the ratings noted above. The rating agency ratings are not recommendations to buy, sell or hold our commercial paper or debt securities. Each rating may be subject to revision or withdrawal at any time by the assigning rating organization and should be evaluated independently of any other rating. Moreover, each credit rating is specific to the security to which it applies.

To monitor our credit rating and our capacity for long-term financing, we consider various qualitative and quantitative factors. One such factor is the ratio of our debt to EBITDA. For the purpose of this calculation, debt is defined as the sum of short-term borrowings, long-term debt due within one year, obligations under capital leases due in one year, long-term debt and long-term obligations under capital leases.

Litigation and Other Contingencies

Cintas is subject to legal proceedings and claims arising from the ordinary course of its business, including personal injury, customer contract, environmental and employment claims. In the opinion of management, the aggregate liability, if any, with respect to such ordinary course of business actions will not have a material adverse effect on the consolidated financial position or results of operation of Cintas. Cintas is party to additional litigation not considered in the ordinary course of business. Please refer to Note 8 entitled Litigation and Other Contingencies of "Notes to Consolidated Condensed Financial Statements" for a detailed discussion of certain specific litigation.


Forward-Looking Statements

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