AND RESULTS OF OPERATIONS (issued June 4, 2010)
Nature of Operations
The Toro Company is in the business of designing, manufacturing, and marketing professional turf maintenance equipment and services, turf and agricultural micro-irrigation systems, landscaping equipment, and residential yard and snow removal products.
We sell our products through a network of distributors, dealers, hardware retailers, home centers, mass retailers, and over the Internet.
Our businesses are organized into three reportable business segments: professional, residential, and distribution. Our distribution segment, which consists of our company-owned domestic distribution company, has been combined with our corporate activities. Our emphasis is to provide innovative, well-built, and dependable products supported by an extensive service network. A significant portion of our revenues has historically been, and we expect it to continue to be, attributable to new and enhanced products.
RESULTS OF OPERATIONS
Overview
Our results for the second quarter of fiscal 2010 were generally positive with a net sales growth rate of 12.6 percent and a net earnings growth rate of 23.9 percent compared to the second quarter of fiscal 2009. Year-to-date net earnings increased 29.8 percent in fiscal 2010 compared to the same period in the last fiscal year on a year-to-date sales growth rate of 6.4 percent.
Shipments of most professional segment products were up primarily from improved economic conditions, increased demand for our products, the successful introduction of new products, and customers who aligned their orders closer to retail demand. Net sales of micro-irrigation products continued to gain momentum with our investment in addition manufacturing capacity to increase production of our water conserving products to meet the growing worldwide market demand. Residential segment net sales also increased due to favorable weather conditions, as well as increased demand and additional product placement for riding products. In addition, shipments of snow thrower products were up for the second quarter and year-to-date period of fiscal 2010 compared to the same periods in the prior fiscal year due to increased demand from heavy snow falls during the winter season of 2009-2010 and the timing of the introduction of our new redesigned offering of snow thrower products that shipped to customers in the first quarter of fiscal 2010.
Net earnings as a percentage of net sales rose to 8.1 percent and 6.3 percent in the second quarter and year-to-date period of fiscal 2010, respectively, compared to 7.4 percent and 5.2 percent in the second quarter and year-to-date period of fiscal 2009, respectively. Higher gross margins, leveraging of selling, general, and administrative expenses, and a lower effective tax rate also contributed to the earnings improvement.
We continued to focus on reducing working capital and improving asset management. As a result of our efforts, as of the end of our fiscal 2010 second quarter we achieved our long-term goal to reduce average net working capital (accounts receivable plus inventory less trade payables) as a percentage of net sales to below 20 percent, or “in the teens.” Our average net working capital as a percentage of net sales for the twelve months ended April 30, 2010 was 19.0 percent. The impact of our efforts to reduce working capital resulted in a significant improvement of our cash flows from operating activities for the first six months of fiscal 2010 compared to the first six months of fiscal 2009. We also paid a cash dividend of $0.18 per share during the second quarter of fiscal 2010, which was an increase of 20 percent over our cash dividend of $0.15 per share for the second quarter of fiscal 2009.
Our fiscal 2010 second quarter financial results were positive, and we are generally optimistic that the positive momentum from our second quarter should continue through the remainder of fiscal 2010. We are off to a good start with our new one-year initiative, “5 in One: Back on Course,” which is intended to guide us through this year of anticipated recovery with an even stronger focus on the customer and a single financial goal: five percent profit after tax as a percentage of net sales for fiscal 2010.
We believe we have taken the necessary proactive measures through our continued focus on asset management, reductions to our cost structure, and our commitment to product innovation, to position us well to benefit if our markets continue to improve. We will continue to keep a cautionary eye on the global economies, and particularly Europe, retail demand, field inventory levels, commodity prices, weather, competitive actions, and other factors identified below under the heading “Forward-Looking Information,” which could cause our actual results to differ from our outlook.
Net Sales
Worldwide consolidated net sales for the second quarter and year-to-date periods of fiscal 2010 were up 12.6 percent and 6.4 percent, respectively, from the same periods in the prior fiscal year. Worldwide professional segment net sales were up 12.6 percent and 4.2 percent for the second quarter and year-to-date periods of fiscal 2010, respectively, compared to the same periods in the prior fiscal year.
Shipments of most professional segment products were up as a result of improved economic conditions, the successful introduction of new products, and customers who aligned their orders closer to retail demand, all of which resulted in increased demand for our products.
Retail sales increased for the second quarter and year-to-date periods of fiscal 2010 compared to the same periods in fiscal 2009, mainly as the result of increased retail demand for landscape contractor equipment. Professional segment field inventory levels were down as of the end of the second quarter of fiscal 2010 compared to the end of the second quarter of fiscal 2009. Net sales of micro-irrigation products were up due to our investments in additional manufacturing capacity that increased production of our water conserving products to meet the growing worldwide market demand.
Residential segment net sales increased 14.5 percent and 12.5 percent for the second quarter and year-to-date periods of fiscal 2010, respectively, compared to the same periods in fiscal 2009 as a result of favorable weather conditions, increased demand and additional product placement for riding products, and the introduction of our new cordless electric walk power mower. In addition, shipments of snow thrower products were up for the second quarter and year-to-date periods of fiscal 2010 compared to the same periods in the prior fiscal year due to increased demand from heavy snow falls during the winter season of 2009-2010 and the timing of the introduction of our new redesigned offering of snow thrower products that shipped to customers in the first quarter of fiscal 2010.
Net sales of Pope irrigation products sold in Australia also increased for the year-to-date period of fiscal 2010 compared to the year-to-date period of fiscal 2009 as a result of dry weather conditions in that region. International net sales for the second quarter and year-to-date periods of fiscal 2010 increased 13.5 percent and 6.5 percent, respectively, from the same periods in the prior fiscal year due in part to a weaker U.S. dollar compared to other currencies in which we transact business that accounted for approximately $4.7 million and $14.2 million of additional net sales for the second quarter and year-to-date periods of fiscal 2010, respectively.
Gross Profit
As a percentage of net sales, gross profit for the second quarter of fiscal 2010 increased to 33.3 percent compared to 32.3 percent in the second quarter of fiscal 2009. Gross profit as a percent of net sales for the year-to-date period of fiscal 2010 also increased to 34.0 percent compared to 33.3 percent for year-to-date period of fiscal 2009.
These improvements were due to the following factors: (i) lower average commodity costs in the first half of fiscal 2010 compared to the first half of fiscal 2009, primarily from lower steel and aluminum costs; (ii) lower manufacturing costs from increased plant utilization due to increased demand for our products; (iii) a weaker U.S. dollar compared to other currencies in which we transact business; and (iv) resulting effects from cost reduction efforts implemented in fiscal 2009. Somewhat offsetting those positive factors was an increase in freight expense.
Selling, General, and Administrative Expense
SG and A expense increased $13.1 million, or 12.8 percent, for the second quarter of fiscal 2010 compared to the second quarter of fiscal 2009 due to an increase in employee incentive compensation expense, but was even as a percentage of net sales at 20.5 percent as compared to the second quarter of fiscal 2009. SG and A expense increased $5.1 million, or 2.5 percent for the year-to-date period of fiscal 2010 compared to the year-to-date period of fiscal 2009. SG and A expense as a percentage of net sales for the year-to-date period of fiscal 2010 decreased to 23.7 percent compared to 24.6 percent for the year-to-date period of fiscal 2009.
This decrease was primarily attributable to our leaner cost structure resulting from cost reduction efforts taken in fiscal 2009, costs incurred in fiscal 2009 for workforce adjustments of $2.1 million that were not duplicated in fiscal 2010, and a decrease in bad debt expense of $1.1 million. Somewhat offsetting those decreases was an increase in employee incentive compensation expense of $9.0 million from anticipated improved financial performance in fiscal 2010, as compared to fiscal 2009.
Interest Expense
Interest expense for the second quarter and year-to-date periods of fiscal 2010 decreased 3.4 percent and 3.0 percent, respectively, compared to the same periods in the prior fiscal year as a result of lower average debt levels.
Other Income, Net
Other income, net for the second quarter and year-to-date periods of fiscal 2010 decreased $0.6 million and $0.5 million, respectively, compared to the same periods in the prior fiscal year. These decreases were due to lower foreign currency exchange rate gains, a decrease in finance charge revenue, somewhat offset by income from our investment in Red Iron.
Provision for Income Taxes
The effective tax rate for the second quarter and year-to-date period of fiscal 2010 was 33.6 percent compared to 34.2 percent for the same periods in fiscal 2009. The decrease in the effective tax rate was primarily the result of a valuation allowance for foreign net operating losses and provision adjustments in fiscal 2009, somewhat offset by the expiration of the domestic research tax credit.
BUSINESS SEGMENTS
As described previously, we operate in three reportable business segments: professional, residential, and distribution. Our distribution segment, which consists of our wholly owned domestic distribution company, has been combined with our corporate activities that is shown as “Other” in the following tables. Operating earnings for our professional and residential segments are defined as earnings from operations plus other income, net. Operating loss for “Other” includes earnings (loss) from operations, corporate activities, other income, net, and interest expense.
Professional
Net Sales. Worldwide net sales for the professional segment in the second quarter and year-to-date periods of fiscal 2010 increased 12.6 percent and 4.2 percent, respectively, compared to the same periods in the last fiscal year. Shipments of most professional segment products were up as a result of improved economic conditions, increased demand for our products, the successful introduction of new products, and customers who aligned their orders closer to retail demand.
Retail sales increased for the second quarter and year-to-date periods of fiscal 2010 compared to the same periods in fiscal 2009, mainly as the result of increased retail demand for landscape contractor equipment. Professional segment field inventory levels were down as of the end of the second quarter of fiscal 2010 compared to the end of the second quarter of fiscal 2009. Net sales of micro-irrigation products were up due to our investments in additional manufacturing capacity that increased production of our water conserving products to meet the growing worldwide market demand.
Operating Earnings. Operating earnings for the professional segment in the second quarter and year-to-date periods of fiscal 2010 increased 18.9 percent and 7.4 percent, respectively, compared to the same periods in the last fiscal year. Expressed as a percentage of net sales, professional segment operating margin increased to 19.3 percent compared to 18.3 percent in the second quarter of fiscal 2009, and fiscal 2010 year-to-date professional segment operating margin also increased to 16.6 percent compared to 16.1 percent from the same period in the last fiscal year.
These profit improvements were primarily attributable to higher gross margins due to the same factors discussed previously in the Gross Profit section. In addition, a decline in SG&A expense as a percentage of net sales also contributed to the operating earnings improvement, which was due mainly to leveraging SG&A costs over higher sales volumes.
Residential
Net Sales. Worldwide net sales for the residential segment in the second quarter and year-to-date periods of fiscal 2010 increased 14.5 percent and 12.5 percent, respectively, compared to the same periods in the last fiscal year. These sales increases were due mainly to favorable weather conditions, additional product placement for riding products, and the introduction of our new cordless electric walk power mower, all of which contributed to an increase in demand for our products.
In addition, shipments of snow thrower products were up for the second quarter and year-to-date period of fiscal 2010 compared to the same periods in the prior fiscal year due to increased demand from heavy snow falls during the winter season of 2009-2010 and the timing of the introduction of our new redesigned offering of snow thrower products that shipped to customers in the first quarter of fiscal 2010. Net sales of Pope irrigation products sold in Australia also increased for the year-to-date period of fiscal 2010 compared to the year-to-date period of fiscal 2009 as a result of dry weather conditions in that region.
Operating Earnings. Operating earnings for the residential segment in the second quarter and year-to-date periods of fiscal 2010 increased 51.5 percent and 79.9 percent, respectively, compared to the same periods in the last fiscal year. Expressed as a percentage of net sales, residential segment operating margin increased to 12.0 percent compared to 9.0 percent in the second quarter of fiscal 2009, and fiscal 2010 year-to-date residential segment operating margin increased to 11.8 percent compared to 7.4 percent last fiscal year. These profit improvements were due to higher gross margins primarily from lower average commodity costs in the first half of fiscal 2010 compared to the first half of fiscal 2009, a weaker U.S. dollar compared to other currencies in which we transact business, resulting effects of cost reduction efforts implemented in fiscal 2009, and increased sales volumes of higher-margin products. Somewhat offsetting the profit improvements were higher freight expense and an increase in SG and A expense.
Other
Net Sales. Net sales for the other segment include sales from our wholly owned domestic distribution company less sales from the professional and residential segments to that distribution company. In fiscal 2009, “Other” also included elimination of the professional and residential segments’ floor plan interest costs from Toro Credit Company (TCC), our wholly owned financing company. With the establishment of Red Iron, net sales for the “Other” segment no longer includes corporate financing activities, including the elimination of floor plan costs from TCC, which results in lower net sales for the other segment. Net sales for the “Other” segment were down for the second quarter and year-to-date periods of fiscal 2010 compared to the same periods in the last fiscal year by $2.8 million, or 46.9 percent, and $4.8 million, or 49.0 percent, respectively, as a result of the elimination of TCC floor plan interest costs, as well as lower net sales at our wholly owned distributorship.
Operating Losses. Operating losses for the other segment were up for the second quarter and year-to-date periods of fiscal 2010 by $6.6 million, or 37.8 percent, and $4.5 million, or 10.8 percent, respectively, compared to the same periods in the last fiscal year. These loss increases were primarily attributable to an increase in employee incentive compensation expense due to anticipated improved financial performance in fiscal 2010, as compared to fiscal 2009, lower foreign currency exchange rate gains, and the elimination of TCC floor plan interest costs, as described above. Somewhat offsetting those factors was overall reduced spending from our leaner cost structure as a result of actions we implemented in fiscal 2009, as well as elimination of costs incurred in fiscal 2009 for workforce adjustments.
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