MSC INDUSTRIAL DIRECT CO INC (MSM) FY 2021 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Overview
MSC is a leading North American distributor of a broad range of metalworking and MRO products and services. We help our customers drive greater productivity, profitability and growth with approximately 1.9 million products, inventory management and other supply chain solutions, and deep expertise from more than 80 years of working with customers across industries. We continue to implement our strategies to gain market share, generate new customers, increase sales to existing customers, and diversify our customer base.
Our experienced team of more than 6,500 associates works with our customers to help drive results for their businesses, from keeping operations running efficiently today to continuously rethinking, retooling and optimizing for a more productive tomorrow. We offer approximately 1.9 million active SKUs through our catalogs; our brochures; our eCommerce channels, including the MSC website; our inventory management solutions; and our call centers, branch offices, customer fulfillment centers and regional inventory centers. We service our customers from 11 customer fulfillment centers (seven customer fulfillment centers are located in the United States which includes five primary customer fulfillment centers, three are located in Canada and one is located in the United Kingdom), seven regional inventory centers and 28 branch offices. Many of our products are carried in stock, and orders for these in-stock products are typically fulfilled the day on which the order is received.
Our business model focuses on providing overall procurement cost reduction and just-in-time delivery to meet our customers’ needs. We focus on offering inventory, process and procurement solutions that reduce MRO supply chain costs and improve plant floor productivity for our customers. We will seek to continue to achieve cost reductions throughout our business through cost-saving strategies and increased leverage from our existing infrastructure, and continue to provide additional procurement cost-savings solutions to our customers through technology such as our CMI, VMI and vending programs. Our field sales and service associate headcount was 2,398 at August 28, 2021, compared to 2,263 at August 29, 2020 and 2,414 at August 31, 2019. We have migrated our sales force from one designed to sell a spot buy value proposition to one prepared to deliver upon the new, more complex and high-touch role that we play driving value for our customers by enabling them to achieve higher levels of growth, profitability and productivity.
The chart below displays a two-year comparison of our net sales from fiscal year 2020 through fiscal year 2021:
(1)Pricing and other is comprised of changes in customer and product mix, discounting and other items.
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Highlights
Highlights during fiscal year 2021 include the following:
We generated $224.5 million of cash from operations.
We repurchased and immediately retired $67.5 million of MSC Class A Common Stock.
We paid out $362.7 million in cash dividends, comprised of special and regular cash dividends of $195.4 million and $167.3 million, respectively, compared to $444.2 million in cash dividends in fiscal year 2020, comprised of special and regular cash dividends of $277.6 million and $166.5 million, respectively.
In June 2021, we acquired 80% of the outstanding shares of Hurst for aggregate consideration of $15.3 million, which included a post-closing working capital adjustment of $0.1 million paid out in August 2021.
In July 2021, MSC Mexico acquired additional assets of TAC in conjunction with the acquisition of its outsourcing and logistics businesses for aggregate consideration of $8.0 million, which included $6.7 million of cash paid and $1.3 million of contingent consideration. Following this acquisition, the Company retained its 75% interest in MSC Mexico.
We incurred $31.4 million in restructuring costs, comprised of $15.0 million in operating lease asset impairment charges, net of gains related to settlement of lease liabilities, $4.5 million in associate severance and separation costs, $3.3 million in other exit-related costs, primarily related to our sales workforce realignment and enhanced customer support model, and $8.6 million in consulting costs related to the optimization of the Company’s operations.
We incurred a $26.7 million impairment charge relating to the sourcing of nitrile gloves. The Company subsequently recorded $20.8 million of loss recovery related to this PPE prepayment impairment for a net impairment charge of $5.9 million.
We incurred PPE-related inventory write-downs of $30.1 million in the second quarter to reduce the carrying value of certain PPE-related inventory to its estimated net realizable value as a result of increased supply in the market of such products and an expected inability to sell excess safety-related products.
Recent Developments
Progress on Mission Critical
As previously disclosed, we initiated a company-wide project, which we refer to as “Mission Critical,” to accelerate market share capture and improve profitability over the period through fiscal year 2023. Among the Mission Critical initiatives to realize growth, we began and expect to continue investing in our market-leading metalworking business by adding to our metalworking specialist team, introducing value-added services to our customers, expanding our vending, VMI and in-plant solutions programs, building out our sales force, and diversifying our customers and end markets. We also are focused on critical structural cost reductions in order to improve return on invested capital. We anticipate that these cost reductions will be comprised of savings in the areas of sales and service, supply chain and general and administrative expenses, and include initiatives to optimize our distribution center network and real estate footprint, renegotiate supplier contracts, and redesign our talent acquisition and retention approach.
Enhanced Customer Support Model
In January 2021, as part of Mission Critical, we announced an enhanced customer support model, including a transition from the branch office network to virtual customer care hubs. This move is expected to provide personalized support to customers, regardless of their physical location. Along with this transition, we closed 73 branch offices and realigned certain existing locations from branch offices to regional inventory centers during fiscal year 2021. Restructuring associated with this enhanced model included one-time impairment charges for operating lease assets, net of gains related to settlement of lease liabilities, associate severance and separation costs, and other exit-related costs.
Relocation and Pending Sale of Long Island CSC
In December 2020, we announced plans to relocate our Long Island CSC to a smaller facility. In connection with the announcement, we signed a 10-year lease to occupy approximately 26,000 square feet in an office building in Melville, New York, which commenced in September 2021. In furtherance of these plans, we entered into a Purchase and Sale Agreement to
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sell our Long Island CSC. This transaction is currently within a permitting period as outlined within the Purchase and Sale Agreement.
Impact of COVID-19 on Our Business
The COVID-19 pandemic has resulted, and will continue to result, in significant economic disruption and has and will likely continue to adversely affect our business. The following events related to the COVID-19 pandemic have resulted, and will continue to result, in lost or delayed revenue to the Company: limitations on the ability of manufacturers to manufacture the products we sell; limitations on the ability of our suppliers to obtain the products we sell or to meet delivery requirements and commitments; limitations on the ability to import products into the United States; limitations on the ability of our associates to perform their work due to illness caused by the pandemic or federal, state or local orders requiring associates to remain at home; limitations on the ability of UPS, LTL carriers and other carriers to deliver our packages to customers; limitations on the ability of our customers to conduct their business and purchase our products and services; disruptions to our customers’ supply chains or purchasing patterns; and limitations on the ability of our customers to pay us on a timely basis.
To meet anticipated demand for PPE products during the COVID-19 pandemic, the Company used a number of distributors and brokers to source PPE products, including purchasing products from manufacturers outside its typical programs and under non-standard payment terms. In September 2020, we prepaid approximately $26.7 million for the purchase of nitrile gloves to be sourced from manufacturers in Asia and experienced significant delays in obtaining possession of this PPE. We evaluated the potential recoverability of these assets and, as a result, recorded an impairment charge of $26.7 million in the first quarter of fiscal year 2021 to reflect the fact that the Company would not ultimately obtain this PPE or recover its related prepayment. During fiscal year 2021, the Company entered into a legal settlement agreement with a vendor and, as a result, received $20.8 million of loss recovery in its Consolidated Statements of Income related to this PPE prepayment impairment. The Company continues to pursue its legal avenues for recovery of the remaining prepayment. Furthermore, the Company has realized lower product margins as well as inventory write-downs, each as a result of the COVID-19 pandemic, primarily due to the increased supply of competing products from manufacturers and an expected inability to sell excess inventory of safety-related products ordered from manufacturers earlier in the COVID-19 pandemic. The Company incurred PPE-related inventory write-downs of $30.1 million during the second quarter of fiscal year 2021 to reduce the carrying value of certain PPE-related inventory to its estimated net realizable value. The extent to which the COVID-19 pandemic will continue to impact our business, financial condition and results of operations will depend on future developments, which are highly uncertain and depend on, among other things, the duration, spread, severity and impact of the COVID-19 pandemic and the success and speed of vaccination efforts both in the United States and globally, the effects of the COVID-19 pandemic on the Company’s customers, suppliers and vendors and the remedial actions and stimulus measures adopted by local and federal governments, and the pace and the extent to which normal economic and operating conditions can resume.
Our number one priority is the health and safety of our associates and their families, our customers, and our other partners. We have taken and will continue to take measures to reduce the risk of infection and to protect our associates and our business, in line with guidelines issued by the authorities in the jurisdictions in which we operate, including federal, state and local governments and the Centers for Disease Control and Prevention. We have instituted enhanced safety procedures to safeguard the health and safety of our associates, including the use of additional protective equipment and the frequent cleaning of our facilities. We have restricted non-associate access to our sites, reorganized our workflows where permitted to maximize social distancing, implemented extensive restrictions on associate travel, and utilized remote working strategies where possible.
We continue to experience limited disruptions in our business as we have implemented modifications to associate travel and associate work locations and in-person events, among other modifications. We have taken many actions to reduce spending more broadly across the Company, including limiting our operating and capital spending on critical items and reducing hiring and discretionary expenses. We have developed contingency plans that we anticipate would reduce costs further if business and financial conditions deteriorate. We will continue to actively monitor the situation and may take further actions that alter our business operations as may be required by federal, state and local, and foreign authorities, or that we determine are in the best interests of our associates, customers, suppliers and shareholders.
As the impact of the COVID-19 pandemic has begun to abate, and restrictions on business and commercial activity have been lifted, the economy in the United States has experienced acute increases in demand for certain products and services, including the demand for fuel, labor and certain products the Company sells or the inputs for such products. In some cases, this has led to shortages of fuel, labor and certain such products. While such shortages have not yet had a material impact on the Company’s business or results of operations, they may do so in the future and the Company cannot reasonably estimate the future impacts of such shortages at this time.
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Our Strategy
Our primary objective is to grow sales profitably while offering our customers highly technical and high-touch solutions to solve their most complex challenges on the plant floor. Our strategy is to complete the transition from being a spot buy supplier to a mission-critical partner to our customers. We will selectively pursue strategic acquisitions that expand or complement our business in new and existing markets or further enhance the value and offerings we provide.
Business Environment
We utilize various indices when evaluating the level of our business activity, including the Metalworking Business Index (the “MBI”) and the Industrial Production (“IP”) index. Approximately 70% of our revenues came from sales in the manufacturing sector during the fourth quarter of fiscal year 2021. Through statistical analysis, we have found that trends in our customers’ activity have correlated to changes in the MBI and the IP index. The MBI is a sentiment index developed from a monthly survey of the U.S. metalworking industry, focusing on durable goods manufacturing. For the MBI, a value below 50.0 generally indicates contraction and a value above 50.0 generally indicates expansion. The IP index measures short-term changes in industrial production. Growth in the IP index from month to month indicates growth in the manufacturing, mining and utilities industries. Note that the composition of the IP index was revised by the Federal Reserve in May 2021 which adjusted, among other factors, the base year with which the IP index is calculated. This resulted in a lower level for the historical index in recent years, however the trend in the index continues to show growth as noted above. The MBI and the IP index over the fourth quarter of fiscal year 2021 and the fourth quarter and fiscal year averages were as follows:
| Period | MBI | IP Index | ||
|---|---|---|---|---|
| June | 63.8 | 100.4 | ||
| July | 61.2 | 101.4 | ||
| August | 60.0 | 101.3 | ||
| Fiscal year 2021 Q4 average | 61.7 | 101.1 | ||
| Fiscal year 2021 full year average | 57.4 | 98.7 |
During fiscal year 2021, the MBI average exceeded 50.0, which indicated growth in manufacturing during the period, particularly in the second half of the fiscal year. Similarly, the IP index averaged 98.7 during the same period, an improvement from the 2020 revised average of 96.6. We believe the recent trending improvement in the IP index was primarily due to the recovery in economic conditions related to the gradual lifting of government-imposed restrictions on economic activity and the abatement of the COVID-19 pandemic. We will monitor the current economic conditions for its impact on our customers and markets and continue to assess both risks and opportunities that may affect our business. The recent volatility stems from the economic disruptions of the COVID-19 pandemic. See “Impact of COVID-19 on Our Business” above.
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Results of Operations
Fiscal Year Ended August 28, 2021 Compared to the Fiscal Year Ended August 29, 2020
The table below summarizes the Company’s results of operations both in dollars (in thousands) and as a percentage of net sales for the periods indicated:
| Fiscal Years Ended | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| August 28, 2021 | August 29, 2020 | |||||||||||||||||
| (52 weeks) | (52 weeks) | Change | ||||||||||||||||
| $ | % | $ | % | $ | % | |||||||||||||
| Net sales | $ | 3,243,224 | 100.0% | $ | 3,192,399 | 100.0% | $ | 50,825 | 1.6% | |||||||||
| Cost of goods sold | 1,909,709 | 58.9% | 1,849,077 | 57.9% | 60,632 | 3.3% | ||||||||||||
| Gross profit | 1,333,515 | 41.1% | 1,343,322 | 42.1% | (9,807) | (0.7)% | ||||||||||||
| Operating expenses | 994,468 | 30.7% | 975,553 | 30.6% | 18,915 | 1.9% | ||||||||||||
| Impairment loss, net | 5,886 | 0.2% | - | 0.0% | 5,886 | N/A(1) | ||||||||||||
| Restructuring costs | 31,392 | 1.0% | 17,029 | 0.5% | 14,363 | 84.3% | ||||||||||||
| Income from operations | 301,769 | 9.3% | 350,740 | 11.0% | (48,971) | (14.0)% | ||||||||||||
| Total other expense | (13,390) | (0.4)% | (16,490) | (0.5)% | 3,100 | (18.8)% | ||||||||||||
| Income before provision for income taxes | 288,379 | 8.9% | 334,250 | 10.5% | (45,871) | (13.7)% | ||||||||||||
| Provision for income taxes | 70,442 | 2.2% | 82,492 | 2.6% | (12,050) | (14.6)% | ||||||||||||
| Net income | 217,937 | 6.7% | 251,758 | 7.9% | (33,821) | (13.4)% | ||||||||||||
| Less: Net income attributable to noncontrolling interest | 1,030 | 0.0% | 641 | 0.0% | 389 | 60.7% | ||||||||||||
| Net income attributable to MSC Industrial | $ | 216,907 | 6.7% | $ | 251,117 | 7.9% | $ | (34,210) | (13.6)% | |||||||||
| (1) N/A is Not Applicable. |
Net Sales
Net sales for fiscal year 2021 increased 1.6% or $50.8 million from the prior fiscal year. We estimate that this increase in net sales is comprised of approximately $42.3 million from improved pricing, inclusive of changes in customer and product mix, discounting and other items, $3.7 million of net sales from the fiscal year 2021 acquisitions, and $6.0 million of favorable foreign exchange impact, partially offset by $1.2 million of lower sales volume. Of the above $50.8 million increase in net sales, sales to our government and national account programs (“Large Account Customers”) decreased by $58.7 million and sales other than to our Large Account Customers increased by $109.5 million, which includes $3.7 million of net sales from the fiscal year 2021 acquisitions.
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The table below shows the change in our fiscal quarterly and annual 2021 average daily sales by total company and by customer type compared to the same periods in the prior fiscal year:
| Average Daily Sales Percentage Change | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (unaudited) | ||||||||||||||
| 2021 vs. 2020 Fiscal Period | Thirteen-Week Period Ended Fiscal Q1 | Thirteen-Week Period Ended Fiscal Q2 | Thirteen-Week Period Ended Fiscal Q3 | Thirteen-Week Period Ended Fiscal Q4 | Fiscal Year Ended | |||||||||
| Net Sales (in thousands) | $ | 771,904 | $ | 773,995 | $ | 866,294 | $ | 831,031 | $ | 3,243,224 | ||||
| Sales Days | 62 | 61 | 65 | 63 | 251 | |||||||||
| Average Daily Sales (“ADS”)(1) (in millions) | $ | 12.5 | $ | 12.7 | $ | 13.3 | $ | 13.2 | $ | 12.9 | ||||
| Total Company ADS Percent Change | -6.3% | -1.5% | 2.2% | 12.9% | 1.6% | |||||||||
| Manufacturing Customers ADS Percent Change | -13.5% | -4.9% | 18.8% | 21.8% | 4.5% | |||||||||
| Manufacturing Customers Percent of Total Net Sales | 65% | 68% | 69% | 70% | 68% | |||||||||
| Non-Manufacturing Customers ADS Percent Change | 10.8% | 6.6% | -21.9% | -3.2% | -4.0% | |||||||||
| Non-Manufacturing Customers Percent of Total Net Sales | 35% | 32% | 31% | 30% | 32% | |||||||||
| (1) ADS is calculated using the number of business days in the United States. |
We believe that our ability to transact business with our customers through various electronic portals and directly through the MSC website gives us a competitive advantage over smaller suppliers. Sales made through our eCommerce platforms, including sales made through EDI systems, VMI systems, XML ordering-based systems, vending, hosted systems and other electronic portals, represented 60.0% of consolidated net sales for fiscal year 2021, compared to 59.2% of consolidated net sales for fiscal year 2020. This percentage increase was primarily related to the higher volume of safety and janitorial product sales in fiscal year 2020 that were not transacted through our eCommerce platforms. These percentages of consolidated net sales do not include eCommerce sales from our recent acquisitions.
Gross Profit
Gross profit margin was 41.1% in fiscal year 2021 as compared to 42.1% in fiscal year 2020. The Company has realized lower product margins as well as inventory write-downs, each as a result of the COVID-19 pandemic, primarily due to the increased supply of competing products from manufacturers and an expected inability to sell excess inventory of safety-related products ordered from manufacturers earlier in the pandemic. The decline in gross profit margin was primarily the result of PPE-related inventory write-downs of $30.1 million during the second quarter of fiscal year 2021 to reduce the carrying value of certain PPE-related inventory to its estimated net realizable value.
Operating Expenses
Operating expenses increased 1.9% to $994.5 million in fiscal year 2021, as compared to $975.6 million in fiscal year 2020. Operating expenses were 30.7% of fiscal year 2021 net sales, as compared to 30.6% for fiscal year 2020. The increase in operating expenses was primarily attributable to an increase in payroll and payroll-related costs and freight costs associated with higher sales volumes, partially offset by lower travel costs.
Payroll and payroll-related costs, excluding restructuring costs, were approximately 56.9% of total operating expenses for fiscal year 2021, as compared to approximately 56.7% for fiscal year 2020. Payroll and payroll-related costs, which include salary, incentive compensation, sales commission, and fringe benefit costs, increased by $13.1 million for fiscal year 2021, primarily due to higher sales commission and incentive compensation costs.
Freight expense was approximately $133.7 million for fiscal year 2021, as compared to $125.9 million for fiscal year 2020. The primary drivers of this increase were increased freight rates and increased sales volumes.
Travel and entertainment expense was $3.6 million for fiscal year 2021, as compared to $8.0 million for fiscal year 2020. This decrease was due to the Company’s travel restrictions in place resulting from the COVID-19 pandemic.
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Impairment Loss, Net
In September 2020, the Company prepaid approximately $26.7 million for the purchase of nitrile gloves to be sourced from manufacturers in Asia and experienced significant delays in obtaining possession of this PPE. The Company evaluated the potential recoverability of these assets and, as a result, recorded an impairment charge of $26.7 million in the first quarter of fiscal year 2021 to reflect the fact that the Company would not ultimately obtain this PPE or recover its related prepayment. During fiscal year 2021, the Company entered into a legal settlement agreement with a vendor and, as a result, received $20.8 million of loss recovery in its Consolidated Statements of Income related to this PPE prepayment impairment. The Company continues to pursue its legal avenues for recovery of the remaining prepayment. We also incurred $1.6 million of legal costs associated with this matter during fiscal year 2021 that are included in Operating expenses.
Restructuring Costs
For fiscal year 2021, we incurred approximately $31.4 million in restructuring costs related to both the optimization of the Company’s operations and the enhancement of our customer support model. These charges include one-time impairment charges for operating lease assets, net of gains related to settlement of lease liabilities, associate severance and separation costs, and other exit-related costs. More specifically, in the second quarter of fiscal year 2021, the Company announced an enhanced customer support model, including a transition from the branch office network to virtual customer care hubs. This transition included the closure of 73 branch offices, all of which were under operating leases. As a result, we recorded an impairment charge of $15.0 million for impacted operating lease assets, net of gains related to settlement of lease liabilities, which is included in Restructuring costs on the Consolidated Statements of Income. See Note 13, “Restructuring Costs” in the Notes to Consolidated Financial Statements for additional information.
Income from Operations
Income from operations decreased 14.0% to $301.8 million in fiscal year 2021, as compared to $350.7 million in fiscal year 2020. This decline was primarily attributable to PPE-related inventory write-downs and the impairment and restructuring charges discussed above.
Provision for Income Taxes
Our effective tax rate for fiscal year 2021 was 24.4% as compared to 24.7% in fiscal year 2020. The decrease in the effective tax rate was primarily due to discrete items relating to a higher tax benefit from stock-based compensation as well as lower non-deductible travel and entertainment expenses. See Note 7, “Income Taxes” in the Notes to Consolidated Financial Statements for further information.
Net Income
The factors which affected net income for fiscal year 2021 as compared to the prior fiscal year have been discussed above.
Liquidity and Capital Resources
| As of | As of | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| August 28, | August 29, | ||||||||
| 2021 | 2020 | $ Change | |||||||
| (Dollars in thousands) | |||||||||
| Total debt | $ | 786,049 | $ | 619,266 | $ | 166,783 | |||
| Less: Cash and cash equivalents | 40,536 | 125,211 | (84,675) | ||||||
| Net debt | $ | 745,513 | $ | 494,055 | $ | 251,458 | |||
| Equity | $ | 1,161,872 | $ | 1,320,573 | $ | (158,701) |
As of August 28, 2021, we had $40.5 million in cash and cash equivalents, substantially all with well-known financial institutions. Historically, our primary financing needs have been to fund our working capital requirements necessitated by our sales growth and the costs of acquisitions, new products, new facilities, facility expansions, investments in vending solutions, technology investments, and productivity investments. Cash generated from operations, together with borrowings under our credit facilities and net proceeds from the private placement notes, have been used to fund these needs, to repurchase shares of our Class A Common Stock from time to time, and to pay dividends to our shareholders. More
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recently, we have taken the actions discussed above under “Impact of COVID-19 on Our Business” to improve our business operations, lower costs and preserve financial flexibility through the COVID-19 pandemic.
At August 28, 2021, total borrowings outstanding, representing amounts due under our credit facilities and notes, as well as all finance leases and financing arrangements, were $786.0 million, net of unamortized debt issuance costs of $1.9 million, as compared to total borrowings of $619.3 million, net of unamortized debt issuance costs of $0.8 million, as of August 29, 2020. The increase was primarily driven by borrowings under our uncommitted credit facilities. See Note 9, “Debt” in the Notes to Consolidated Financial Statements for more information about these balances.
We believe, based on our current business plan, that our existing cash, financial resources and cash flow from operations will be sufficient to fund necessary capital expenditures and operating cash requirements for at least the next 12 months. The Company further believes that its financial resources, along with managing discretionary expenses, will allow it to manage the anticipated impact of the COVID-19 pandemic on the Company's business operations for the foreseeable future, which will include reduced sales and net income levels for the Company. We will continue to evaluate our financial position in light of future developments, particularly those relating to the COVID-19 pandemic, and to take appropriate action as it is warranted.
The table below summarizes information regarding the Company’s cash flows for the periods indicated:
| Fiscal Years Ended | ||||||
|---|---|---|---|---|---|---|
| August 28, | August 29, | |||||
| 2021 | 2020 | |||||
| (Dollars in thousands) | ||||||
| Net cash provided by operating activities | $ | 224,462 | $ | 396,739 | ||
| Net cash used in investing activities | $ | (75,746) | $ | (49,277) | ||
| Net cash used in financing activities | $ | (233,747) | $ | (254,618) | ||
| Effect of foreign exchange rate changes on cash and cash equivalents | $ | 356 | $ | 81 | ||
| Net increase (decrease) in cash and cash equivalents | $ | (84,675) | $ | 92,925 |
Operating Activities
Net cash provided by operating activities for fiscal years 2021 and 2020 was $224.5 million and $396.7 million, respectively. There were various increases and decreases contributing to the decrease in net cash provided by operating activities, including an increase in the change in accounts receivable and inventories primarily attributable to higher sales volume, partially offset by an increase in the change in accounts payable and accrued liabilities.
| Fiscal Years Ended | ||||||
|---|---|---|---|---|---|---|
| August 28, | August 29, | |||||
| 2021 | 2020 | |||||
| (Dollars in thousands) | ||||||
| Working Capital (1) | $ | 752,317 | $ | 829,037 | ||
| Current Ratio (2) | 2.3 | 3.0 | ||||
| Days’ Sales Outstanding (3) | 61.1 | 58.2 | ||||
| Inventory Turnover (4) | 3.4 | 3.3 |
(1) Working Capital is calculated as current assets less current liabilities.
(2) Current Ratio is calculated by dividing total current assets by total current liabilities.
(3) Days’ Sales Outstanding is calculated by dividing accounts receivable by net sales.
(4) Inventory Turnover is calculated by dividing total cost of goods sold by inventory, using a 13-month average inventory.
The decrease in working capital and the current ratio at August 28, 2021 compared to August 29, 2020 was primarily due to a decrease in cash and cash equivalents and an increase in the current portion of debt, partially offset by an increase in inventories and accounts receivable resulting from higher sales volumes.
The increase in inventories of $81.1 million from August 29, 2020 to August 28, 2021 was due to an increasing sales trend as well as ongoing challenges in the supply chain requiring earlier purchasing to meet customer demand. Higher inventory purchasing levels also drove the $60.6 million increase in accounts payable during this period. Accounts receivable increased $68.6 million due to increased sales levels during the second half of fiscal year 2021.
The increase in days’ sales outstanding as of August 28, 2021 as compared to August 29, 2020 was primarily due to the receivables portfolio consisting of a greater percentage of our national account program sales, which are typically at longer terms, and temporary extended terms for certain customers due to the impact of the COVID-19 pandemic.
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Inventory turnover remained consistent with the prior fiscal year periods displayed.
Investing Activities
Net cash used in investing activities for fiscal years 2021 and 2020 was $75.7 million and $49.3 million, respectively. The use of cash for fiscal year 2021 included expenditures for property, plant and equipment and the acquisitions of Hurst and the outsourcing and logistics businesses of TAC. The use of cash for fiscal year 2020 primarily consisted of expenditures for property, plant and equipment.
Financing Activities
Net cash used in financing activities for fiscal years 2021 and 2020 was $233.7 million and $254.6 million, respectively. The major components contributing to the use of cash for fiscal year 2021 were the aggregate repurchases of our Class A Common Stock of $71.3 million, the regular and special dividends paid of $362.7 million, and the payments under Shelf Facility Agreements and Private Placement Debt (as each term is defined below) of $20.0 million. These uses of cash were partially offset by net borrowings under all the credit facilities of $184.3 million and proceeds from the exercise of common stock options of $29.7 million. The major components contributing to the use of cash for fiscal year 2020 were the regular and special dividends paid of $444.2 million and payments under Shelf Facility Agreements and Private Placement Debt of $20.0 million. These uses of cash were partially offset by proceeds from the issuance of long-term debt of $100.0 million and net borrowings under our credit facilities of $96.2 million.
Debt
Credit Facilities
In April 2017, the Company entered into a $600.0 million revolving credit facility which was subsequently amended and extended in August 2021. As of August 28, 2021, the Company also has three uncommitted credit facilities, totaling $208.0 million of maximum uncommitted availability. See Note 9, “Debt” in the Notes to Consolidated Financial Statements for more information about our credit facilities. As of August 28, 2021, we were in compliance with the operating and financial covenants of our credit facilities.
Subsequent to fiscal year 2021, the Company made additional payments of $34.0 million through October 1, 2021 on its revolving credit facility. The current unused balance of $395.8 million from the revolving credit facility, which is reduced by outstanding letters of credit, is available for working capital purposes if necessary. See Note 9, “Debt” in the Notes to Consolidated Financial Statements for more information about these balances.
Private Placement Debt and Shelf Facility Agreements
In July 2016, we completed the issuance and sale of unsecured senior notes. In January 2018, we entered into two note purchase and private shelf agreements. In June 2018 and March 2020, we entered into additional note purchase agreements. See Note 9, “Debt” in the Notes to Consolidated Financial Statements for more information about these transactions.
Financing Arrangements
From time to time, we enter into financing arrangements with vendors to purchase certain IT equipment or software. See Note 9, “Debt” in the Notes to Consolidated Financial Statements for more information about our financing arrangements.
Leases
As of August 28, 2021, certain of our operations are conducted on leased premises. These leases are for varying periods, the longest extending to fiscal year 2031. In fiscal year 2021, the Company announced an enhanced customer support model, including a transition from the branch office network to virtual customer care hubs. This transition included the closure of 73 branch offices, all of which were under operating leases. Operating lease asset impairment charges, net of gains related to settlement of lease liabilities, are included within Restructuring costs in the Consolidated Statement of Income for fiscal year 2021. In addition, we are obligated under certain equipment and automobile operating and finance leases, which expire on varying dates through fiscal year 2026. See Note 10, “Leases” in the Notes to Consolidated Financial Statements for more information about our finance and operating leases.
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Capital Expenditures
We continue to invest in sales productivity initiatives, eCommerce and vending platforms, customer fulfillment centers and distribution network, and other infrastructure and technology.
Future Liquidity Outlook
Our future contractual obligations as of August 28, 2021 (in thousands) are as follows:
| Contractual Obligations | 2022 | Thereafter | ||||
|---|---|---|---|---|---|---|
| Operating lease obligations(1) | $ | 15,420 | $ | 39,531 | ||
| Finance lease obligations, net of interest(2) | 1,353 | 1,206 | ||||
| Maturities of long-term debt obligations, net of interest(3) | — | 583,750 | ||||
| Estimated interest on long-term debt(4) | 12,849 | 39,407 | ||||
| Total contractual obligations | $ | 29,622 | $ | 663,894 |
(1)Certain of our operations are conducted on leased premises. These leases (most of which require us to provide for the payment of real estate taxes, insurance and other operating costs) are for varying periods, the longest extending to fiscal year 2031. In addition, we are obligated under certain equipment and automobile operating leases, which expire on varying dates through fiscal year 2024. See Note 10, “Leases” in the Notes to Consolidated Financial Statements for additional information on our operating lease arrangements.
(2)As of August 28, 2021, the Company has entered into various finance leases for certain IT equipment, which expire on varying dates through fiscal year 2026. See Note 10, “Leases” in the Notes to Consolidated Financial Statements for additional information on our finance lease arrangements.
(3)Excludes debt issuance costs.
(4)Interest payments for long-term debt are based on principal amounts and coupons or contractual rates at fiscal year end.
As of August 28, 2021, the Company had recorded a non-current liability of $5.1 million for tax uncertainties and interest. This amount is excluded from the table above, as the Company cannot make reliable estimates of these cash flows by period. See Note 7, “Income Taxes” in the Notes to Consolidated Financial Statements.
We have not entered into any off-balance sheet arrangements and there are no commitments or obligations (including, but not limited to, guarantees; retained or contingent interests in assets transferred; contractual arrangements that support the credit, liquidity or market risk for transferred assets; or risk related to derivatives or other financial products related to our equity securities), including contingent obligations, with unconsolidated entities or persons that had during the periods presented herein or are reasonably likely to have a material impact on the financial statements.
Critical Accounting Estimates
We make estimates, judgments and assumptions in determining the amounts reported in the consolidated financial statements and accompanying notes. Estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. The estimates are used to form the basis for making judgments about the carrying values of assets and liabilities and the amount of revenues and expenses reported that are not readily apparent from other sources. Actual results may differ from these estimates. Our significant accounting policies are described in the Notes to Consolidated Financial Statements. The accounting policies described below are impacted by our critical accounting estimates. More information on the critical accounting estimates can be found in Note 1, “Business and Summary of Significant Accounting Policies” in the Notes to Consolidated Financial Statements.
Allowance for Credit Losses
We perform periodic credit evaluations of our customers’ financial condition, and collateral is generally not required. The Company considers several factors to estimate the allowance for credit losses in accounts receivable including the age of the receivables and the historical ratio of actual write-offs to the age of the receivables, and also reflects the adoption of the new accounting standard related to current expected credit losses in the most recent fiscal year. See Note 1, “Business and Summary of Significant Accounting Policies” in the Notes to Consolidated Financial Statements for more information.
Inventories
Inventory is reflected at the lower of weighted average cost or net realizable value considering future demand, market conditions and physical condition of the inventory. We write-down inventories for shrinkage and slow-moving or obsolete inventory. The analysis includes inventory levels, sales information, historical write-down information, and the on-hand quantities relative to the sales history for the product.
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Goodwill and Indefinite-Lived Intangible Assets
The purchase price of an acquired company is allocated between the intangible assets and the net tangible assets of the acquired business with the residual of the purchase price recorded as goodwill. The determination of the value of the intangible assets acquired involves certain judgments and estimates. These judgments can include, but are not limited to, the cash flows that an asset is expected to generate in the future and the appropriate weighted average cost of capital. The Company annually reviews goodwill at the reporting unit level and intangible assets that have indefinite lives for impairment in its fiscal fourth quarter and when events or changes in circumstances indicate the carrying value of these assets might exceed their current fair values.
Income Taxes
The Company recognizes deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax assets and liabilities are determined based on the differences between the financial reporting and tax basis of assets and liabilities, using enacted tax rates in effect for the year in which the differences are expected to reverse. The tax balances and income tax expense recognized by the Company are based on management’s interpretations of the tax laws of multiple jurisdictions. Income tax expense reflects the Company’s best estimates and assumptions regarding, among other items, the level of future taxable income, interpretation of tax laws and uncertain tax positions.
Other
Other significant accounting policies, not involving the same level of measurement uncertainties as those discussed above, are nevertheless important to an understanding of the financial statements. Policies such as revenue recognition, depreciation, intangibles, accruals related to self-insured associate health costs, long-lived assets and warranties require judgments on complex matters that are often subject to multiple external sources of authoritative guidance such as the Financial Accounting Standards Board and the SEC. Possible changes in estimates or assumptions associated with these policies are not expected to have a material effect on the financial condition or results of operations of the Company. More information on these additional accounting policies can be found in Note 1, “Business and Summary of Significant Accounting Policies” in the Notes to Consolidated Financial Statements.
Recently Issued Accounting Pronouncements
Refer to Note 1, “Business and Summary of Significant Accounting Policies” in the Notes to Consolidated Financial Statements.
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