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Section 1: 8-K (FORM 8-K)

esnd-ex991_8.htm

 

 UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

 

 

FORM 8-K

 

CURRENT REPORT
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

Date of Report (Date of Earliest Event Reported):  May 30, 2018

 

ESSENDANT INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

001-38499

 

36-3141189

(State or other jurisdiction
of incorporation)

 

(Commission File Number)

 

(IRS Employer
Identification No.)

 

 

 

 

 

One Parkway North Blvd.

Suite 100

Deerfield, Illinois

 

60015-2559

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code (847) 627-7000

 

Check the appropriate box below if the Form 8-K filing is intended to simultaneously satisfy the filing obligation of the registrant under any of the following provisions (see General Instruction A.2. below):

 

[  ]   Written communications pursuant to Rule 425 under the Securities Act (17 CFR 230.425)

 

[  ]   Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR 240.14a-12)

 

[  ]   Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange Act (17 CFR 240.14d-2(b))

 

[  ]   Pre-commencement communications pursuant to Rule 13e-4(c) under the Exchange Act (17 CFR 240.13e-4(c))

 

Indicate by check mark whether the registrant is an emerging growth company as defined in Rule 405 of the Securities Act of 1933 (§230.405 of this chapter) or Rule 12b-2 of the Securities Exchange Act of 1934 (§240.12b-2 of this chapter).                                                               Emerging growth company ◻

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ◻


Item 8.01

 

Other Events

 

Essendant Inc. (the “Company” or the “Registrant”) is filing this Current Report on Form 8-K to recast financial statements and other financial information previously included in its Annual Report on Form 10-K (the “2017 Form 10-K”) for the year ended December 31, 2017, filed with the Securities and Exchange Commission on February 21, 2018.

On January 1, 2018, the Company adopted the Financial Accounting Standards Board Accounting Standard Update (“ASU”) No. 2017-07, Compensation – Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. The standard requires registrants that include a measure of operating income to include the service cost component in the same financial statement line item as other compensation costs and to report other pension-related costs, including interest cost on projected benefit obligation, actuarial losses, settlement and curtailment effects, etc. separately, excluding them from operating expenses and operating income. The ASU also stipulates that only the service cost component of net benefit cost is eligible for capitalization. Application of the standard is required to be made on a retrospective basis for the presentation of the service cost component and the other components of net periodic pension cost and net periodic postretirement benefit cost in the income statement, while the change in capitalized benefit cost is to be applied prospectively.

Although ASU 2017-07 requires that the Company apply these retroactive adjustments to annual disclosures the next time it files its prior year financial statements, the Company determined to voluntarily file this Current Report on Form 8-K to reflect the adjustments to such prior year financial information at this time.

ASU 2017-07 impacted the operating (loss) income subtotal presented on the Consolidated Statement of Operations for the years ended December 31, 2017, 2016 and 2015, as well as items within the 2017 Form 10-K referencing operating (loss) income. Adoption of the ASU did not impact the Company’s net (loss) income, net (loss) income per share, Consolidated Balance Sheets, Consolidated Statements of Cash Flows, or Consolidated Statements of Changes in Stockholders’ Equity for the periods presented. Accordingly, the Company is filing this Current Report on Form 8-K to recast impacted areas within the following items of the 2017 Form 10-K:

Item 6—Selected Financial Data

Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations

Item 8—Financial Statements and Supplementary Data

Except as included in this filing with respect to ASU 2017-07, the Company has not updated or enhanced any other disclosures presented in its 2017 Form 10-K. All other information is presented as of the original filing date and has not been updated in this Current Report on Form 8-K. Without limitation of the foregoing, this Current Report on Form 8-K does not purport to update the Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in the 2017 Form 10-K with respect to any uncertainties, transactions, risks, events or trends occurring, or known to management. More current information is included in the Company’s other filings with the Securities and Exchange Commission including the Form 10-Q filed April 25, 2018 and the Form 8-K’s filed March 3, 2018, April 12, 2018, April 25, 2018 and May 17, 2018. This Form 8-K should be read in conjunction with the 2017 Form 10-K and the Company’s other filings. Other filings may contain important information regarding uncertainties, trends, risks, events, transactions, developments and updates to certain expectations of the Company that may have been reported since the filing of the 2017 Form 10-K.

Cautionary Statement

This document contains forward-looking statements. From time to time, oral or written forward-looking statements may also be included in other information released to the public. These forward-looking statements are intended to provide management’s current expectations or plans for our future operating and financial performance, based on assumptions currently believed to be valid. Forward-looking statements often contain words such as “expects,” “anticipates,” “estimates,” “intends,” “plans,” “believes,” “seeks,” “will,” “is likely to,” “scheduled,” “positioned to,” “continue,” “forecast,” “predicting,” “projection,” “potential” or similar expressions. Forward-looking statements may include references to goals, plans, strategies, objectives, projected costs or savings, anticipated future performance, results, events or transactions of the Company, and other statements that are not strictly historical in nature. These forward-looking statements are based on management’s current expectations, forecasts and assumptions. This means they involve a number of risks and uncertainties that could cause actual results to differ materially from those expressed or implied here, including but not limited to: market dynamics that create sales risks, including the Company’s reliance on key customers, including key customers in the independent reseller


channel, the risks inherent in continuing or increased customer concentration and consolidations, efforts by suppliers and customers to bypass the Company and transact directly with each other, and competition from e-commerce businesses and other resellers increasing their presence at the wholesale level; the impact of price transparency, customer consolidation and product sales mix changes on the Company’s sales and margins; the Company’s reliance on supplier allowances and promotional incentives; the Company’s exposure to the credit risk of its customers; potential disruptions to the Company’s relationships with customers and suppliers due to the Company’s significant cost reduction initiatives; continuing or increasing competitive activity and pricing pressures within existing or expanded product categories, including competition from e-commerce businesses and the online branches of brick-and-mortar businesses; the impact of supply chain disruptions or changes in key suppliers’ distribution strategies; continued declines in end-user demand for products in the office, technology and furniture product categories; financial cycles due to secular consumer demand, recession or other events, most notably in the Company’s Industrial and Automotive businesses; the impact of the Company’s strategic objectives and possible disruption of business operations and relationships with customers and suppliers; the Company’s ability to manage inventory in order to maximize sales and supplier allowances while minimizing excess and obsolete inventory; the Company’s success in effectively identifying, consummating and integrating acquisitions; the Company’s ability to attract and retain key management personnel; the costs and risks related to compliance with laws, regulations and industry standards affecting the Company’s business; the Company’s ability to maintain its existing information technology systems and to successfully procure, develop and implement new systems and services without business disruption or other unanticipated difficulties or costs; the impact on the Company’s reputation and relationships of a breach of the Company’s information technology systems or a failure to maintain the security of private information; the availability of financing sources to meet the Company’s business needs; unexpected events that could disrupt business operations, increasing costs and decreasing revenues; the ability of the Company and Genuine Parts Company (“GPC”) to receive the required regulatory approvals for the proposed transaction in which GPC will separate its Business Products Group and combine this business with the Company and approval of the Company’s stockholders and to satisfy the other conditions to the closing of the transaction on a timely basis or at all; the occurrence of events that may give rise to a right of one or both of the Company and GPC to terminate the merger agreement between the Company and GPC; negative effects of the announcement or the consummation of the transaction with GPC on the market price of the Company’s common stock and/or on its business, financial condition, results of operations and financial performance; risks relating to the value of the shares of the Company to be issued in the transaction with GPC, significant transaction costs and/or unknown liabilities; the possibility that the anticipated benefits from the proposed transaction with GPC cannot be realized in full or at all or may take longer to realize than expected; risks associated with contracts containing consent and/or other provisions that may be triggered by the proposed transaction; risks associated with litigation related to the transaction with GPC; the possibility that costs or difficulties related to the integration of Essendant and GPC’s Business Products Group will be greater than expected; and the ability of the combined company to retain and hire key personnel. There can be no assurance that the proposed transaction with GPC will in fact be consummated in the manner described or at all. Stockholders, potential investors and other readers are urged to consider these risks and uncertainties in evaluating forward-looking statements and are cautioned not to place undue reliance on the forward-looking statements. For additional information on identifying factors that may cause actual results to vary materially from those stated in forward-looking statements, please see the Company’s and GPC’s reports on Forms 10-K, 10-Q and 8-K filed with or furnished to the U.S. Securities and Exchange Commission and other written statements made by the Company and/or GPC from time to time. The forward-looking information herein is given as of this date only, and neither the Company nor GPC undertakes any obligation to revise or update it.

 

Item 9.01

 

Financial Statements and Exhibits.

The following exhibits are filed herewith:

 

 

 

 

Exhibit No.

 

Description

 

 

23.1

 

Consent of Ernst & Young LLP.

99.1

 

Items 6, 7 and 8 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2017.

101.INS

 

XBRL Instance Document


101.SCH

 

XBRL Taxonomy Extension Schema

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase

101.LAB

 

XBRL Taxonomy Extension Label Linkbase

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase

 


SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.  

 

 

ESSENDANT INC.

Date:  May 30, 2018

 

/s/ Janet Zelenka

 

Janet Zelenka

Senior Vice President and Chief Financial Officer

 

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Section 2: EX-23 (EX-23.1)

esnd-ex231_18.htm

Exhibit 23.1

Consent of Independent Registered Public Accounting Firm

 

We consent to the incorporation by reference in the Registration Statements (Form S-8 No. 333-205830, No. 333-134058 and No. 333-120563) pertaining to the Company's various employee benefit plans of our reports dated February 21, 2018 (except for  Notes 2 and 13, as to which the date is May 30, 2018), with respect to the consolidated financial statements and schedule of Essendant Inc. and our report dated February 21, 2018, with respect to the effectiveness of internal control over financial reporting of Essendant, included in this Current Report on Form 8-K.

 

/s/Ernst & Young LLP

Chicago, Illinois

May 30, 2018

 

 

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Section 3: EX-99 (EX-99.1)

esnd-10k_20171231.htm

Exhibit 99.1

 

ITEM 6.

SELECTED FINANCIAL DATA.

The selected consolidated financial data of the Company for the years ended December 31, 2013 through 2017 has been derived from the Consolidated Financial Statements of the Company, which have been audited by Ernst & Young LLP, an independent registered public accounting firm. The adoption of new accounting pronouncements, changes in certain accounting policies, and reclassifications are reflected in the financial information presented below. The selected consolidated financial data below should be read in conjunction with, and is qualified in its entirety by, Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements of the Company included in Items 7 and 8, respectively, of this Annual Report. Except for per share data, all amounts presented are in thousands:  

 

Years Ended December 31,

 

 

2017

 

 

2016

 

 

2015

 

 

2014

 

 

2013

 

Statement of Operations Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net sales

$

5,037,327

 

 

$

5,369,022

 

 

$

5,363,046

 

 

$

5,327,205

 

 

$

5,085,293

 

Cost of goods sold

 

4,331,273

 

 

 

4,609,161

 

 

 

4,526,551

 

 

 

4,524,676

 

 

 

4,297,952

 

     Gross profit(1)

 

706,054

 

 

 

759,861

 

 

 

836,495

 

 

 

802,529

 

 

 

787,341

 

Operating expenses(2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Warehousing, marketing and administrative expenses

 

661,386

 

 

 

626,117

 

 

 

671,972

 

 

 

593,141

 

 

 

575,984

 

Impairments of goodwill and intangible assets

 

285,166

 

 

 

-

 

 

 

129,338

 

 

 

9,034

 

 

 

1,183

 

Loss (gain) on disposition of business

 

-

 

 

 

-

 

 

 

1,461

 

 

 

(800

)

 

 

-

 

Operating (loss) income

 

(240,498

)

 

 

133,744

 

 

 

33,724

 

 

 

201,154

 

 

 

210,174

 

Interest expense

 

26,696

 

 

 

24,143

 

 

 

20,580

 

 

 

16,234

 

 

 

12,233

 

Interest income

 

(1,078

)

 

 

(1,272

)

 

 

(996

)

 

 

(500

)

 

 

(593

)

Pension expense (3)

 

2,894

 

 

 

16,218

 

 

 

3,941

 

 

 

2,532

 

 

 

2,974

 

Interest and other expense, net

 

28,512

 

 

 

39,089

 

 

 

23,525

 

 

 

18,266

 

 

 

14,614

 

(Loss) income before income taxes

 

(269,010

)

 

 

94,655

 

 

 

10,199

 

 

 

182,888

 

 

 

195,560

 

Income tax (benefit) expense(4)

 

(2,029

)

 

 

30,803

 

 

 

54,541

 

 

 

70,773

 

 

 

73,507

 

Net (loss) income

$

(266,981

)

 

$

63,852

 

 

$

(44,342

)

 

$

112,115

 

 

$

122,053

 

Net (loss) income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income per common share—basic

$

(7.27

)

 

$

1.75

 

 

$

(1.18

)

 

$

2.90

 

 

$

3.08

 

Net (loss) income per common share—diluted

$

(7.27

)

 

$

1.73

 

 

$

(1.18

)

 

$

2.87

 

 

$

3.03

 

Cash dividends declared per share

$

0.56

 

 

$

0.56

 

 

$

0.56

 

 

$

0.56

 

 

$

0.56

 

Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Working capital

$

793,128

 

 

$

904,715

 

 

$

956,588

 

 

$

968,894

 

 

$

829,917

 

Total assets

 

1,774,250

 

 

 

2,163,506

 

 

 

2,262,859

 

 

 

2,347,368

 

 

 

2,104,019

 

Total debt(5)

 

498,123

 

 

 

608,969

 

 

 

716,315

 

 

 

710,768

 

 

 

530,306

 

Total stockholders’ equity

 

494,914

 

 

 

781,106

 

 

 

723,734

 

 

 

843,667

 

 

 

820,146

 

Statement of Cash Flows Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by operating activities

$

185,543

 

 

$

130,942

 

 

$

162,734

 

 

$

77,133

 

 

$

74,737

 

Net cash used in investing activities

 

(38,455

)

 

 

(3,769

)

 

 

(67,929

)

 

 

(183,633

)

 

 

(30,273

)

Net cash (used in) provided by financing activities

 

(140,001

)

 

 

(135,964

)

 

 

(84,990

)

 

 

105,968

 

 

 

(53,060

)

 

(1) 2015 — Includes $4.9 million related to Industrial obsolescence reserve.

(2) 2017 — Includes $285.2 million of charges related to goodwill impairment, $19.7 million of transformational expenses, $9.0 million of charges related to litigation reserves, partially offset by a $0.3 million gain reflecting recovery of notes receivable reserved in 2015.

2016 — Includes $20.5 million gain on sale of City of Industry facility, $4.0 million charge related to a litigation reserve, $1.2 million charge related to severance costs for operating leadership, $0.9 million reversal of 2015 restructuring expenses partially offset by 2016 facility charges.

     2015 — $115.8 million charge related to Industrial impairment of goodwill and intangible assets, $18.6 million charge related to workforce reductions and facility consolidations, a $17.0 million loss on sale and related costs of the Company’s Mexican subsidiary, $12.0 million intangible asset impairment charge related to rebranding and accelerated amortization related to rebranding efforts, and $10.7 million impairment of seller notes receivable related to the Company’s prior year sale of a software service provider.

     2014 — $8.2 million loss on disposition of a software service provider.

     2013 — $13.0 million charge for a workforce reduction and facility closures and a $1.2 million asset impairment charge.

(3) On January 1, 2018, the Company adopted the Financial Accounting Standards Board Accounting Standard Update (“ASU”) No. 2017-07, Compensation – Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. The standard requires registrants that include a measure of operating income to include the service cost component in the same financial statement line item as other compensation costs and to report other pension-related

 


 

costs, including amortization of prior service cost/credit and settlement and curtailment effects, etc. separately, excluding them from operating expenses and operating income. This resulted in a $2.9 million, $16.2 million, $3.9 million, $2.5 million and $3.0 million reclassification between operating expense and pension expense in the Company’s Consolidated Statements of Operations for the years ended December 31, 2017, 2016, 2015, 2014 and 2013, respectively. Included within pension expense in 2016 is a $12.5 million charge related to a defined benefit plan settlement.

(4) Includes $2.6 million related to the one-time impact of the passage of the Tax Cuts and Jobs Act (“Tax reform”, “2017 Tax act” or the “Act”) in 2017; $1.7 million related to tax effect of a dividend from a foreign subsidiary and a $0.4 million change in reserve related to uncertain tax positions taken in the prior year in 2016; and the tax effects for items noted above for each respective year.

(5) Total debt includes current maturities where applicable.

FORWARD LOOKING INFORMATION

This Annual Report on Form 10-K contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Exchange Act. Forward-looking statements often contain words such as “expects”, “anticipates”, “estimates”, “intends”, “plans”, “believes”, “seeks”, “will”, “is likely to”, “scheduled”, “positioned to”, “continue”, “forecast”, “predicting”, “projection”, “potential” or similar expressions. Forward-looking statements include references to goals, plans, strategies, objectives, projected costs or savings, anticipated future performance, results or events and other statements that are not strictly historical in nature. These forward-looking statements are based on management’s current expectations, forecasts and assumptions. This means they involve a number of risks and uncertainties that could cause actual results to differ materially from those expressed or implied here. These risks and uncertainties include, without limitation, those set forth under the heading “Risk Factors” in the Company’s Securities and Exchange Commission filings.

 

Readers should not place undue reliance on forward-looking statements contained herein. The forward-looking information herein is given as of this date only, and the Company undertakes no obligation to revise or update it.

 

ITEM  7.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

The following discussion should be read in conjunction with the information included herein and in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017 in Part I, Item 1 – Description of Business, Item 6 – Selected Financial Data and in Item 8 – Financial Statements and Supplementary Data. Please see the Adjusted Gross Profit, Adjusted Operating Expenses, Adjusted Operating Income, Adjusted Net Income, Adjusted Diluted Earnings Per Share, Adjusted EBITDA and Free Cash Flow table (the “Non-GAAP table”) for information concerning the reconciliation of GAAP to Non-GAAP financial measures.

 

Key Trends and Recent Results

Results for 2017 were negatively impacted by lower sales volume that resulted in reduced gross profit, supplier allowances and inventory balances as the Company reduced purchases to more closely align with sales. The decline in operating results and softening within the industries that the Company operates, led to charges for goodwill impairment. The Company incurred transformational expenses in the year as part of the Company’s strategic driver to advance supplier partnerships and, in addition to higher costs for employee compensation, was unable to deleverage fixed costs at a pace commensurate with the sales decline. We are implementing strategies to address market trends, but we expect these trends will continue to impact results of operations and financial condition in subsequent periods.

 

Recent Results

 

 

Net loss per share for 2017 was $(7.27) compared to diluted earnings per share of $1.73 in 2016, including impacts of the Actions discussed below. Non-GAAP adjusted diluted earnings per share in 2017 were $0.67 compared to adjusted earnings per share of $1.54 in 2016. Refer to the Non-GAAP table included later in this section for more detail on the Actions.

 

Sales decreased 5.8%, workday adjusted, to $5.0 billion, driven by reduced sales in JanSan, traditional office products, office furniture and technology products, partly offset by growth in industrial supplies, cut-sheet paper and automotive product categories.

 

Gross profit was down $53.8 million, primarily due to decreased sales volume, and gross profit as a percentage of sales for 2017 decreased slightly to 14.0% in 2017 compared to 14.2% in 2016.

 

Operating expenses in 2017 totaled $946.6 million or 18.8% of sales compared with $626.1 million or 11.7% of sales in 2016, including impacts of the Actions discussed below. Adjusted operating expenses in 2017 decreased to $632.9 million compared to $642.4 million in 2016, principally driven by cost saving initiatives, partially offset by increased variable incentive compensation. Adjusted operating expenses as a percentage of sales increased to 12.6% in 2017 from 12.0% in 2016 due to lower sales volume.

2


 

 

Operating loss in 2017 was $(240.5) million or (4.8%) of sales, compared with operating income of $133.7 million or 2.5% of sales in the prior year, including impacts of the Actions discussed below. Adjusted operating income in 2017 was $73.1 million or 1.5% of sales, compared with $117.5 million or 2.2% of sales in 2016, primarily resulting from reduced gross margin in the current year, partially offset by reduced adjusted operating expenses.

 

Operating cash flows for 2017 were $185.5 million versus $130.9 million in 2016. The 2017 increase was primarily attributable to increased accounts payable balances, and reduced accounts receivable and inventory balances.

 

Cash flow used in investing activities was $38.5 million in 2017 compared to $3.8 million in the prior year, due primarily to the sale of the City of Industry, California facility in 2016.

 

Cash outflows from financing activities were $140.0 million in 2017 compared to $136.0 million in 2016.

 

In February 2017, the Company replaced two of its financing agreements with a new credit agreement to provide enhanced liquidity and increase debt availability.

 

Actions impacting comparability of results (the “Actions”)

 

2017 Actions

 

Goodwill impairment charges of $285.2 million were recognized (refer to Note 6 – “Goodwill and Intangible Assets”).

 

Transformational expenses associated with the implementation of strategic drivers to improve the value of the business totaled $19.7 million. These expenses, which result from the changing strategies of the Company, included consulting fees and other activities for which the Company has had significant expense.

 

Litigation matters resulted in accruals of $9.0 million (refer to Note 18 – “Legal Matters”).

 

One-time tax expenses of $2.6 million related to the December 2017 changes in tax laws (refer to Note 15 – “Income Taxes”).

 

Recovery related to notes receivable, which were impaired in 2015, resulted in $0.3 million of gain in 2017.

 

2016 Actions

 

Sale of a facility resulted in a $20.5 million gain.

 

A voluntary lump-sum pension offering resulted in a significant reduction of interest rate, mortality and investment risk of the Essendant Pension Plan. Due to this offer, a settlement and remeasurement of the Essendant Pension Plan was required, resulting in a defined benefit plan settlement loss of $12.5 million.

 

An accrual related to ongoing Telephone Consumer Protection Act of 1991 (“TCPA”) litigation of $4.0 million.

 

The tax impact of settlement of a dividend from a foreign subsidiary of $1.7 million.

 

Severance costs of $1.2 million related to two members of the Company’s operating leadership team.

 

A $1.2 million reversal of restructuring expenses accrued in 2015 due to severance, partially offset by a $0.3 million facility consolidation charge.

 

A reserve recognized related to discrete prior year uncertain tax positions of $0.4 million.

 

2015 Actions

 

Charges totaling $120.7 million relating to the Industrial business unit were incurred in the fourth quarter. These charges were comprised of an impairment of goodwill and intangibles totaling $115.8 million and an increase in reserves for obsolete inventory of $4.9 million. These impacts were the result of the macroeconomic environment in the oilfield and energy sectors.

 

Restructuring actions were taken to improve the Company’s operational utilization, labor spend, inventory performance and functional alignment of the organization. This included workforce reductions and facility consolidations with an unfavorable impact of $18.6 million for the year.

 

Sale of Azerty de Mexico, the Company’s operations in Mexico, resulted in total charges of $17.0 million. In the year, the subsidiary had net sales of $50.1 million and operating loss of $5.0 million, excluding the charges previously mentioned.

 

The Company officially rebranded to Essendant Inc. to communicate the Company’s strategy in a consistent manner. The rebranding resulted in reevaluation of the Company’s trademarks and it was determined that the ORS Nasco trademark and certain OKI brands were impaired. Pre-tax, non-cash, impairment charges and accelerated amortization totaling $12.0 million were recorded in the year.

 

In 2014, the Company sold its subsidiary that provided software services in exchange for a combination of cash and convertible and non-convertible notes. Based upon subsequent information, the Company determined it was not able to collect the note amounts or other receivables due from the acquirer and, as such, fully impaired the receivables and recorded a loss of $10.7 million during 2015.

 

Actions and events expected to affect future results

 

Restructuring Program. Essendant has launched a restructuring program to advance the Company’s strategic drivers by reducing the cost base, aligning organizational infrastructure and leadership with the Company’s growth channels to drive sales, and providing capacity to invest in products with preferred suppliers and in growth categories.  The Company expects

3


 

 

to the restructuring program and other initiatives to reduce costs beginning in 2018 and reach run-rate annual savings of more than $50 million by 2020, with more than half achieved in 2018.

The program includes facility consolidations and workforce reductions with an estimated cash cost of $30 million to $40 million over the restructuring period, which began in the first quarter of 2018.  

Product assortment refinements are also planned to eliminate items that have limited availability and lower sales. This is expected to improve service levels and have minimal impact on sales.  It will also increase capacity to support expansion into new categories to support customer growth, and is necessary to execute the planned facility consolidations. A non-cash charge related to these refinements is expected in the first quarter of 2018 and estimated in the range of $42 million to $48 million. Refer to Note 7 – “Severance and Restructuring Charges” for further details.

 

Tax Reform. In 2018, the Company anticipates the effective tax rate, excluding Actions, will be between 35% and 37%, reflecting the reduction in income tax rate promulgated by Tax reform, partly offset by increased state income taxes, the loss of deductions for entertainment expenses and reductions in share price subsequent to the grant date on equity compensation vesting during the year. Refer to Note 2 – “Summary of Significant Accounting Policies” for further details.

Critical Accounting Policies, Judgments and Estimates

As described in Note 2 – “Summary of Significant Accounting Policies”, the preparation of financial statements in conformity with U.S. Generally Accepted Accounting Principles (“GAAP”) requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Future events and their effects cannot be determined with absolute certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results may differ from those estimates.

 

The Company’s critical accounting policies are those which are most significant to the Company’s results of operations and financial condition and require especially difficult, subjective or complex judgments or estimates by management. In most cases, critical accounting policies require management to make estimates on matters that are uncertain at the time the estimate is made. The basis for the estimates is historical experience, terms of existing contracts, observance of industry trends, information provided by customers or suppliers, and information available from other outside sources, as appropriate. These critical accounting policies include the following:

Supplier Allowances

 

The majority of the Company’s annual supplier allowances and incentives are variable, based solely on the volume and mix of the Company’s product purchases from suppliers. These variable allowances are recorded based on the Company’s annual inventory purchase volumes and product mix and are included in the Company’s Consolidated Financial Statements as a reduction to cost of goods sold, thereby reflecting the net inventory purchase cost. The potential amount of variable supplier allowances often differs based on purchase volumes by supplier and product category. Changes in the Company’s sales volume (which can increase or reduce inventory purchase requirements), changes in product sales mix (especially because higher-margin products often benefit from higher supplier allowance rates), or changes in the amount of purchases Essendant makes to attain supplier allowances can create fluctuations in future results.

 

Customer Rebates

 

Customer rebates include volume rebates, sales growth incentives, advertising allowances, participation in promotions and other miscellaneous discount programs. Estimates for volume rebates and growth incentives are based on estimated annual sales volume to the Company’s customers. The aggregate amount of customer rebates depends on product sales mix and customer mix changes. Reported results reflect management’s current estimate of such rebates. Changes in estimates of sales volumes, product mix, customer mix or sales patterns, or actual results that vary from such estimates may impact future results.

Allowance for doubtful accounts

Management estimates an allowance for doubtful accounts, which addresses the collectability of trade accounts receivable based on judgments as to the collectability of trade accounts receivable balances driven by historic results and future expectations. This allowance adjusts gross trade accounts receivable downward to its estimated collectible or net realizable value. To determine the allowance for doubtful accounts, management reviews specific customer risks and the Company’s trade accounts receivable aging. Uncollectible trade receivable balances are written off against the allowance for doubtful accounts when it is determined that the trade receivable balance is uncollectible.    

4


 

Inventory Reserves

The Company also records adjustments to inventory that is obsolete, damaged, defective or slow moving. Inventory is recorded at the lower of cost or market. These adjustments are determined using historical trends such as the age of the inventory, market demands, customer commitments, and new products introduced to the market. The reserves are further adjusted, if necessary, as new information becomes available; however, based on historical experience, the Company does not believe the estimates and assumptions will have a material impact on the financial statements as of and for the year ended December 31, 2017. Product assortment refinements are planned in 2018 to address items with limited availability and lower sales. An estimated non-cash charge of $42 million to $48 million is expected in the first quarter of 2018 and will be reflected as additional cost of goods sold.

 

Income Taxes

The Company accounts for income taxes using the liability method in accordance with the accounting guidance for income taxes. The Company estimates actual current tax expense and assesses temporary differences that exist due to differing treatments of items for tax and financial statement purposes. These temporary differences result in the recognition of deferred tax assets and liabilities. A provision has not been made for deferred U.S. income taxes on the undistributed earnings of the Company’s foreign subsidiaries as these earnings have historically been permanently invested. It is not practicable to determine the amount of unrecognized deferred tax liability for such unremitted foreign earnings. The Company accounts for interest and penalties related to uncertain tax positions as a component of income tax expense.

Pension Obligations

To select the appropriate actuarial assumptions when determining pension benefit obligations, the Company relied on current market conditions, historical information and consultation with and input from the Company’s outside actuaries. These actuarial assumptions include discount rates, expected long-term rates of return on plan assets, and life expectancy of plan participants. The expected long-term rate of return on plan assets assumption is based on historical returns and the future expectation of returns for each asset category, as well as the target asset allocation of the asset portfolio.

At December 31, 2017, the Company refined the method used to determine the service and interest cost components of the Company’s net periodic benefit cost. Previously, the cost was determined using a single weighted-average discount rate derived from the yield curve. Under the refined method, known as the spot rate approach, individual spot rates along the yield curve that correspond with the timing of each benefit payment are used. The Company believes this change provides a more precise measurement of service and interest costs by improving the correlation between projected cash outflows and corresponding spot rates on the yield curve. Compared to the previous method, the spot rate approach will decrease the service and interest components of the Company’s benefit costs by an immaterial amount in 2018. There is no impact on the total benefit obligation. The Company will account for this change prospectively as a change in accounting estimate.

 

Net periodic pension cost for 2017 was $4.2 million, compared to $17.6 million in 2016 and $5.4 million in 2015. 2016 net periodic pension cost includes a settlement charge of $12.5 million related to a lump-sum offering. Refer to Note 13 – “Pension Plans and Defined Contribution Plan” for further information. To better understand the impact of changes in net periodic pension cost based on certain circumstances the company performed a sensitivity analysis, noting that a one percentage point decrease or increase in the assumed discount rate would have resulted in an increase or decrease in pension expense for 2017 of approximately $2.0 million and increase or decrease in the year-end projected benefit obligation by $37.7 million. Additionally, a one percentage point decrease or increase in the expected rate of return assumption would have resulted in an increase or decrease, respectively, in the net periodic benefit cost for 2017 of approximately $1.4 million.

5


 

Results for the Years Ended December 31, 2017, 2016 and 2015

The following table presents the Consolidated Statements of Operations results (in thousands). This table has been recast to reflect the retrospective effect of adoption of ASU 2017-07 which reclassified the components of net periodic pension cost other than service cost from operating expenses to pension expense:

 

 

Year Ended December 31,

 

 

 

2017

 

 

2016

 

 

2015

 

 

 

Amount

 

 

% of Revenue

 

 

 

Amount

 

 

% of Revenue

 

 

 

Amount

 

 

% of Revenue

 

Net sales: (1)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Janitorial, foodservice and breakroom supplies (JanSan)

$

 

1,324,051

 

 

 

26.3

%

 

$

 

1,453,425

 

 

 

27.1

%

 

$

 

1,475,379

 

 

 

27.4

%

Technology products

 

 

1,216,103

 

 

 

24.1

%

 

 

 

1,348,404

 

 

 

25.1

%

 

 

 

1,356,342

 

 

 

25.3

%

Traditional office products

 

 

745,719

 

 

 

14.8

%

 

 

 

830,856

 

 

 

15.5

%

 

 

 

841,654

 

 

 

15.7

%

Industrial supplies

 

 

589,857

 

 

 

11.7

%

 

 

 

562,485

 

 

 

10.5

%

 

 

 

588,578

 

 

 

11.0

%

Cut sheet paper

 

 

414,989

 

 

 

8.2

%

 

 

 

403,090

 

 

 

7.4

%

 

 

 

346,969

 

 

 

6.5

%

Automotive

 

 

324,060

 

 

 

6.5

%

 

 

 

316,546

 

 

 

5.9

%

 

 

 

279,966

 

 

 

5.2

%

Office furniture

 

 

268,484

 

 

 

5.3

%

 

 

 

299,180

 

 

 

5.6

%

 

 

 

321,295

 

 

 

6.0

%

Freight and other

 

 

154,064

 

 

 

3.1

%

 

 

 

155,036

 

 

 

2.9

%

 

 

 

152,863

 

 

 

2.9

%

Total net sales

 

 

5,037,327

 

 

 

100.0

%

 

 

 

5,369,022

 

 

 

100.0

%

 

 

 

5,363,046

 

 

 

100.0

%

Cost of goods sold

 

 

4,331,273

 

 

 

86.0

%

 

 

 

4,609,161

 

 

 

85.8

%

 

 

 

4,526,551

 

 

 

84.4

%

Total gross profit

$

 

706,054

 

 

 

14.0

%

 

$

 

759,861

 

 

 

14.2

%

 

$

 

836,495

 

 

 

15.6

%

Total operating expenses

 

 

946,552

 

 

 

18.8

%

 

 

 

626,117

 

 

 

11.7

%

 

 

 

802,771

 

 

 

15.0

%

Total operating (loss) income

$

 

(240,498

)

 

 

-4.8

%

 

$

 

133,744

 

 

 

2.5

%

 

$

 

33,724

 

 

 

0.6

%

Interest expense, net

 

 

25,618

 

 

 

0.5

%

 

 

 

22,871

 

 

 

0.4

%

 

 

 

19,584

 

 

 

0.4

%

Pension expense

 

 

2,894

 

 

 

0.0

%

 

 

 

16,218

 

 

 

0.3

%

 

 

 

3,941

 

 

 

0.0

%

Interest and other expense, net

 

 

28,512

 

 

 

0.5

%

 

 

 

39,089

 

 

 

0.7

%

 

 

 

23,525

 

 

 

0.4

%

(Loss) income before income taxes

$

 

(269,010

)

 

 

-5.3

%

 

$

 

94,655

 

 

 

1.8

%

 

$

 

10,199

 

 

 

0.2

%

Income tax (benefit) expense

 

 

(2,029

)

 

 

0.0

%

 

 

 

30,803

 

 

 

0.6

%

 

 

 

54,541

 

 

 

1.0

%

Net (loss) income

$

 

(266,981

)

 

 

-5.3

%

 

$

 

63,852

 

 

 

1.2

%

 

$

 

(44,342

)

 

 

-0.8

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(1) Certain prior period amounts have been reclassified to conform to the current presentation. Such changes include reclassification of specific products to different product categories and did not impact the Consolidated Statements of Operations. All presentations described below are based on the reclassified amounts.

 

 

Comparison of Results for the Years Ended December 31, 2017 and 2016

Net Sales. Net sales for the year ended December 31, 2017 were $5.0 billion, a workday adjusted decrease of 5.8% from $5.4 billion in sales during 2016. 2018 net sales are expected to be down 3% to 6% compared to 2017. Net sales by key product category for 2017 and 2016 included the following (in thousands):

 

JanSan sales decreased $129.4 million or 8.9% in 2017 compared to 2016. Sales decreased due to declines in the national reseller channel of $118.1 million and the independent reseller channel of $13.4 million. As a percentage of total sales, JanSan represented 26.3% in 2017, a decrease from the 2016 percentage of total sales of 27.1%. This decrease was principally the result of reduced demand due to specific customer losses and continued competitive actions from other JanSan product providers.

 

Technology product sales decreased $132.3 million or 9.8% in 2017 versus 2016. Sales in this product category decreased primarily due to declines in the national reseller channel of $68.6 million, independent reseller channel of $53.7 million as well as declines in e-commerce sales of $9.9 million. As a percentage of total sales, technology products represented 24.1% in 2017, a decrease from the 2016 percentage of total sales of 25.1% due to specific customer losses and reduced supplier promotion activity throughout 2017.

 

Traditional office product sales decreased $85.1 million or 10.2% in 2017 versus 2016. Sales in this category decreased due to reductions in the national reseller channel of $42.7 million, declines in the independent reseller channel of $36.9 million and e-commerce sales declines of $5.5 million. As a percentage of total sales, traditional office products represented 14.8% in 2017, a decrease from the 2016 percentage of total sales of 15.5%.

6


 

 

Industrial supplies sales increased $27.4 million or 4.9%. The increase was primarily driven by growth in general industrial sales of $14.6 million, international sales of $6.6 million and energy sales of $6.1 million. As a percentage of total sales, industrial supplies represented 11.7% in 2017, an increase from the 2016 percentage of total sales of 10.5% due to product category growth.

Cut sheet paper product sales increased $11.9 million or 3.0% in 2017 compared to 2016. The increase in this category was primarily driven by increased sales to independent resellers of $10.5 million and e-commerce sales increases of $3.4 million, partially offset by declines in sales to national resellers of $2.0 million. As a percentage of total sales, cut sheet paper represented 8.2% in 2017, which increased from the 2016 percentage of total sales of 7.4%.

Automotive product sales increased $7.5 million or 2.4% in 2017 versus 2016. The increase in this category was primarily due to increases in recreational vehicle and marine sales of $4.6 million and mobile sales of $2.6 million, partially offset by declines in collision sales of $3.6 million. As a percentage of total sales, automotive products represented 6.5% in 2017, which increased from the 2016 percentage of total sales of 5.9%.

Office furniture sales decreased $30.7 million or 10.3% in 2017 compared to 2016. The decrease was primarily the result of declines in sales to independent resellers of $16.4 million with additional declines in the national reseller channel of $7.2 million and e-commerce channel sales declines of $7.1 million. As a percentage of total sales, office furniture represented 5.3% in 2017, a decrease from the 2016 percentage of total sales of 5.6%.

The remainder of the Company’s consolidated 2017 net sales was composed of freight and other revenues.

Gross Profit and Gross Margin Rate. Gross profit for 2017 was $706.1 million, compared to $759.9 million in 2016. Gross profit as a percentage of net sales (the gross margin rate) of 14.0% for 2017 was down 20 basis points (“bps”) from the prior-year period gross margin rate of 14.2%. This decrease was due to deleveraging of the distribution network and transportation costs (41 bps) and inventory-related valuation (29 bps), partially offset by favorable product margin (43 bps) driven by inflation and benefits from merchandising and pricing actions related to the implementation of the Company’s strategic drivers which were offset by lower supplier allowances due to decreased sales volume. Sales to larger resellers are generally lower margin than sales to smaller resellers. Sales to new customers tend to be lower margin but typically improve over time. Lower margin categories include cut-sheet paper products and technology products, while JanSan, traditional office products, furniture and industrial supplies are higher margin categories.

Operating Expenses. Operating expenses for 2017 were $946.6 million or 18.8% of sales, compared with $626.1 million or 11.7% of sales in the same period last year. Excluding the Actions in 2017 and 2016, adjusted operating expenses were $632.9 million or 12.6% of sales in 2017 compared to $642.4 million or 12.0% of sales in 2016. The increase in adjusted operating expenses as a percentage of sales in 2017 was principally driven by a reset of incentive compensation. Through the Company’s strategic actions of reengineering the inbound freight operations by opening freight consolidation centers, aligning the distribution network footprint with sales volume and targeted cost improvements through a zero-based budgeting approach, the Company has targeted annualized cost savings in excess of $50 million by 2020.

Interest and Other Expense, net. Interest and other expense, net for 2017 was $28.5 million or 0.5% of total sales, compared with $39.1 million or 0.7% of total sales in 2016. This decrease was primarily driven by the defined benefit settlement expense of $12.5 million in 2016 and reductions in outstanding debt, partially offset by higher interest rates in 2017.

Income Taxes. Income tax benefit was $(2.0) million in 2017, compared to expense of $30.8 million in 2016. The Company’s effective tax rate was 0.8% and 32.5% in 2017 and 2016, respectively. This change was primarily driven by the permanent impacts of the cumulative goodwill impairments that occurred in 2017. The Company’s effective tax rate excluding these Actions would have been 44.4% and 37.7% in 2017 and 2016, respectively. The increase reflects the change in accounting for equity compensation (ASU 2016-09) adopted in 2017 resulting in $2.0 million of additional tax expense during the year or $1.3 million effected for Tax reform. Further, income tax expense was impacted by the passage of tax reform in December 2017, including through the remeasurement of deferred tax assets and liabilities, recording of the one-time transition tax and other necessary reassessments of the Company’s historical tax positions totaling $2.6 million.

Net (Loss) Income. Net loss for 2017 was $(267.0) million compared to a net income of $63.9 million in 2016. Basic loss per share was $(7.27) in 2017, compared to diluted earnings per share of $1.73 in 2016. Excluding the Actions in 2017 and 2016, adjusted net income for 2017 and 2016 was $24.8 million and $57.0 million, respectively. Adjusted diluted earnings per share were $0.67 and $1.54 for 2017 and 2016, respectively. Adjusted diluted earnings per share in the first quarter of 2018 is expected to be lower than the

7


 

fourth quarter of 2017, reflecting impacts from the national reseller sales decline, the annual first quarter reset of employee time off expense and lower supplier allowances resulting from opportunistic inventory purchases.

Comparison of Results for the Years Ended December 31, 2016 and 2015

Net Sales. Net sales for the year ended December 31, 2016 were $5.4 billion, a workday adjusted 0.3% decrease from $5.4 billion in sales during 2015. Net sales by product category for 2016 and 2015 included the following:  

 

JanSan sales decreased $22.0 million or 1.5% in 2016 compared to 2015. Sales decreased due to a decline in sales in the independent reseller channel of $19.4 million and the national reseller channel of $13.5 million, partially offset by online growth of $12.7 million. As a percentage of total sales, JanSan represented 27.1% in 2016, a decrease from the 2015 percentage of total sales of 27.4%. This decrease was the result of reduced demand principally due to declines in customer experience and competitive actions from other wholesalers.

 

Technology product sales decreased $7.9 million or 0.6% in 2016 versus 2015. Excluding $50.1 million in sales from the Company’s subsidiary in Mexico in 2015, which was sold in 2016, net sales in this category increased 3.2% compared to the prior year, primarily driven by increases in sales in the independent reseller channel of $83.3 million, partially offset by declines in sales to national resellers of $37.8 million and declines in e-commerce sales of $3.3 million. As a percentage of total sales, technology products represented 25.1% in 2016, a decrease from the 2015 percentage of total sales of 25.3% due to the sale of the Company’s Mexican subsidiary.

 

Traditional office product sales decreased $10.8 million or 1.3% in 2016 versus 2015. This decrease in the product category was primarily driven by the buying patterns of national resellers totaling $7.7 million in the year, a decline of $1.8 million in the independent reseller channel and a decrease in e-commerce sales of $1.3 million. As a percentage of total sales, traditional office products represented 15.5% in 2016 a decrease from 15.7% in 2015.

Industrial supplies sales decreased $26.1 million or 4.4% in 2016 compared to 2015. The decline was driven by weakness in the general industrial channel and consolidation in the welding channel. Sales in the general industrial and welding channels declined by $22.9 million and $21.9 million, respectively. This was partially offset by growth in the retail channel of $17.8 million. As a percentage of total sales, industrial supplies represented 10.5% in 2016, a decrease from the 2015 percentage of total sales of 11.0%.

Cut sheet paper product sales increased $56.1 million or 16.2% in 2016 versus 2015. The increase in this category was solely driven by increased sales to independent resellers of $56.0 million. As a percentage of total sales, cut sheet paper represented 7.4% in 2016, which increased from the 2015 percentage of total sales of 6.5%.

Automotive product sales increased $36.6 million or 13.1% in 2016 versus 2015. The increase in this category was primarily due to the acquisition of Nestor in the third quarter of 2015, which contributed an additional $64.9 million in net sales in 2016 compared to $27.1 million in 2015. As a percentage of total sales, automotive products represented 5.9% in 2016, which increased from the 2015 percentage of total sales of 5.2% due to the impact of the acquisition.

Office furniture sales decreased $22.1 million or 6.9% in 2016 compared to 2015. The decreased revenue was primarily the result of declines in sales to national resellers of $14.4 million and independent resellers of $7.7 million. As a percentage of total sales, office furniture represented 5.6% in 2016, a decrease from the 2015 percentage of total sales of 6.0%.

The remainder of the Company’s consolidated 2016 net sales was composed of freight and other revenues.

Gross Profit and Gross Margin Rate. Gross profit for 2016 was $759.9 million, compared to $836.5 million in 2015. The gross margin rate of 14.2% for 2016 was down 140 bps from the prior-year period gross margin rate of 15.6%. This decrease was due to an unfavorable product margin (133 bps), primarily driven by an unfavorable change in category and channel mix (107 bps), and higher freight costs (21 bps).

Operating Expenses. Operating expenses for 2016 were $626.1 million or 11.7% of sales, compared with $802.8 million or 15.0% of sales in the same period last year. Excluding the Actions in 2016 and 2015, adjusted operating expenses were $642.4 million or 12.0% of sales in 2016 compared to $628.7 million or 11.7% of sales in 2015. The increase in adjusted operating expenses in 2016 was principally driven by the recognition of an allowance on prepaid rebates and receivables from one customer totaling $13.3 million.

Interest and Other Expense, net. Interest and other expense, net for 2016 was $39.1 million or 0.7% of total sales, compared with $23.5 million or 0.4% of total sales in 2015. This increase was primarily driven by the defined benefit settlement expense of $12.5 million and higher interest rates in 2016.

8


 

Income Taxes. Income tax expense was $30.8 million in 2016, compared with $54.5 million in 2015. The Company’s effective tax rate was 32.5% and 534.8% in 2016 and 2015, respectively. This effective tax rate decline was primarily driven by the prior year Actions, particularly the 2015 noncash impairment charges for goodwill that were nondeductible for tax purposes and the 2015 loss on the sale of the Mexican subsidiary that carried a full valuation allowance. Additional favorability in 2016 is attributed to the reduction of valuation allowances related to the gain on the sale of the City of Industry facility. The Company’s effective tax rate excluding these Actions would have been 37.7% and 39.1% in 2016 and 2015, respectively.

Net Income (Loss). Net income for 2016 was $63.9 million compared to a net loss of $(44.3) million in 2015. Diluted earnings per share were $1.73 in 2016, compared to a loss per share of $(1.18) in 2015. Excluding the Actions in 2016 and 2015, adjusted net income for 2016 and 2015 was $57.0 million and $116.4 million, respectively. Adjusted diluted earnings per share were $1.54 and $3.08 for 2016 and 2015, respectively.

 

Liquidity and Capital Resources

 

Essendant’s growth has historically been funded by a combination of cash provided by operating activities and debt financing. The Company believes that its cash flow from operations and collections of receivables, coupled with the Company’s sources of borrowings and available cash on hand, are sufficient to fund currently anticipated requirements. These requirements include payments of interest and dividends, scheduled debt repayments, capital expenditures, working capital needs, the funding of pension plans, additional share repurchases and acquisitions, if applicable. The Company believes that its sources of borrowings are sound and that the strength of its balance sheet affords the Company the financial flexibility to respond to both internal growth opportunities and those available through acquisitions.

 

The Company’s outstanding debt consisted of the following amounts (in millions):

 

As of

 

 

As of

 

 

December 31,

 

 

December 31,

 

 

2017

 

 

2016

 

2017 Credit Agreement

 

 

 

 

 

 

 

Term Loan

$

73.1

 

 

$

-

 

Revolving Credit Facility

 

181.3

 

 

 

-

 

FILO Facility

 

100.0

 

 

 

-

 

2013 Credit Agreement

 

-

 

 

 

260.4

 

2013 Note Purchase Agreement

 

150.0

 

 

 

150.0

 

Receivables Securitization Program

 

-

 

 

 

200.0

 

Debt

 

504.4

 

 

 

610.4

 

Stockholders’ equity

 

494.9

 

 

 

781.1

 

Total capitalization

$

999.3

 

 

$

1,391.5

 

 

 

 

 

 

 

 

 

Debt-to-total capitalization ratio

 

50.5

%

 

 

43.9

%

 

The increase in the debt-to-capitalization ratio at December 31, 2017, compared to December 31, 2016 is due primarily to the net loss during the year which more than offset reductions in outstanding debt.

 

As discussed further in Item 8, Note 11 – “Debt,” in February 2017, the Company entered into the 2017 Credit Agreement and terminated the Receivables Securitization Program. The maximum amount the Company is able to borrow under the 2017 Credit Agreement is determined based on the value of the Company’s accounts receivable, inventory, owned real estate and certain equipment.

 

9


 

Availability of financing as of December 31, 2017, is summarized below (in millions):

 

 

Aggregated Committed Principal

 

 

Gross Borrowing Base Availability

 

 

Total Utilization

 

 

Net Availability

 

2017 Credit Agreement

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Term Loan

$

73.1

 

 

$

73.1

 

 

$

73.1

 

 

$

-

 

Revolving Credit Facility (1)

 

1,000.0

 

 

 

837.0

 

 

 

358.4

 

 

 

478.6

 

First-in-Last-Out ("FILO") (2)

 

100.0

 

 

 

99.0

 

 

 

100.0

 

 

 

(1.0

)

Total all Funding Sources

$

1,173.1

 

 

$

1,009.1

 

 

$

531.5

 

 

$

477.6

 

 

 

1)

The 2017 Credit Agreement provides for the issuance of letters of credit up to $50.0 million, plus up to $165.0 million to be used as collateral for obligations under the 2013 Note Purchase Agreement. Letters of credit totaling approximately $177.1 million were utilized as of December 31, 2017.

 

2)

The FILO loan was remeasured effective for the year ended December 31, 2017. The under-collateralized amount of $1.0 million was then funded via the Revolving Credit Facility.

 

Disclosures About Contractual Obligations

The following table aggregates all contractual obligations that affect financial condition and liquidity as of December 31, 2017 (in millions):

 

 

 

Payment due by period

 

 

 

 

 

Contractual obligations

 

2018

 

 

2019 & 2020

 

 

2021 & 2022

 

 

Thereafter

 

 

Total

 

Debt

 

$

6

 

 

$

12

 

 

$

486

 

 

$

-

 

 

$

504

 

Fixed interest payments on long term debt (1)

 

 

8

 

 

 

16

 

 

 

7

 

 

 

-

 

 

 

31

 

Operating leases

 

 

58

 

 

 

102

 

 

 

59

 

 

 

90

 

 

 

309

 

Purchase obligations

 

 

6

 

 

 

3

 

 

 

-

 

 

 

-

 

 

 

9

 

Tax payment pursuant to the Tax Reform

 

 

-

 

 

 

1

 

 

 

-

 

 

 

2

 

 

 

3

 

Acquisition related future payments

 

 

2

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

2

 

Total contractual cash obligations

 

$

80

 

 

$

134

 

 

$

552

 

 

$

92

 

 

$

858

 

 

 

1)

The Company has entered into an interest rate swap transaction on a portion of its long-term debt. The fixed interest payments noted in the table are based on the notional amounts and fixed rate inherent in the swap transactions and related debt instruments.

  

In December 2017, the Company’s Board of Directors approved a cash contribution to the Essendant Pension Plan, which was made in 2018, totaling $10.0 million. Additional contributions, if any, for 2018 have not yet been determined.

 

At December 31, 2017, the Company had a liability for unrecognized tax benefits of $3.9 million as discussed in Item 8, Note 15 - “Income Taxes”, and an accrual for the related interest, that is excluded from the Contractual Obligations table. Due to the uncertainties related to these tax matters, the Company is unable to make a reasonably reliable estimate when cash settlement with a taxing authority may occur.

 

10


 

Cash Flows

Cash flows for the Company for the years ended December 31, 2017, 2016 and 2015 are summarized below (in thousands):

 

 

Years Ended December 31,

 

 

2017

 

 

2016

 

 

2015

 

Net cash provided by operating activities

$

185,543

 

 

$

130,942

 

 

$

162,734

 

Net cash used in investing activities

 

(38,455

)

 

 

(3,769

)

 

 

(67,929

)

Net cash used in financing activities

 

(140,001

)

 

 

(135,964

)

 

 

(84,990

)

 

Cash Flows From Operations

The 2017 increase in net cash provided by operating activities was principally the result of increased accounts payable and reductions in accounts receivable and inventory, partly offset by diminished operating results. The 2016 decline in net cash provided by operating activities compared to 2015 was principally the result of diminished operating results and decreased accounts payable, partially offset by reductions in accounts receivable and inventory. Free cash flow for 2018 is expected to be in excess of $40 million.

 

Cash Flows From Investing Activities

Gross capital spending for 2017, 2016 and 2015, was $38.6 million, $37.7 million and $28.3 million, respectively, which was used for various investments in fleet equipment, information technology systems, technology hardware, and distribution center equipment and facility projects. During 2016, the Company received $33.9 million from the disposition of the City of Industry facility. Additionally, cash used in 2015 included $40.5 million related to an acquisition.

  

Cash Flows From Financing Activities

The Company’s cash flow from financing activities is largely dependent on levels of borrowing under the Company’s credit agreements, the acquisition or issuance of treasury stock, and quarterly dividend payments. Cash outflows from financing activities in 2017 included the repayment of the asset securitization program and payment of debt issuance costs incurred in connection with the 2017 Credit Agreement, partially offset by incremental borrowings under the 2017 Credit Agreement. Cash outflows from financing activities in 2016 included the partial debt repayment of $108.1 million compared to 2015 net borrowings of $4.6 million, partly offset by 2016 share repurchase activity of $6.8 million compared to 2015 share repurchases of $68.1 million.

 

The Company paid a $0.14 per share dividend on January 12, 2018, totaling $5.2 million. In February 2018, the Board of Directors approved a dividend of $0.14 to be paid on April 13, 2018 to shareholders of record as of March 15, 2018. In the aggregate, the Company paid dividends of $20.7 million, $20.5 million and $21.2 million in 2017, 2016 and 2015, respectively.

 

Inflation/Deflation and Changing Prices

The Company maintains substantial inventories to accommodate the prompt service and delivery requirements of its customers. Accordingly, the Company purchases products on a regular basis in an effort to maintain inventory at levels that it believes are sufficient to satisfy the anticipated needs of customers, based upon historical buying practices and market conditions. Although the Company historically has been able to pass through manufacturers’ price increases to customers on a timely basis, competitive conditions will influence how much of future price increases can be passed on. Conversely, when manufacturers’ prices decline, lower sales prices could result in lower margins as the Company sells through existing inventory. As a result, changes in the prices paid by the Company for products could have a material effect on the Company’s net sales, gross margins and net income.  

New Accounting Pronouncements

For information about recently issued accounting pronouncements, see Item 8, Note 2 - “Summary of Significant Accounting Policies.”

 

11


 

Adjusted Gross Profit, Adjusted Operating Expenses, Adjusted Operating Income, Adjusted Net Income, Adjusted Diluted Earnings Per Share, Adjusted EBITDA and Free Cash Flow (the “Non-GAAP table”)

The Non-GAAP table below presents Adjusted Gross Profit, Adjusted Operating Expenses, Adjusted Operating Income, Adjusted Net Income, Adjusted Diluted Earnings per Share, Adjusted EBITDA and Free Cash Flow for the twelve months ended December 31, 2017, 2016 and 2015. These non-GAAP measures exclude certain non-recurring items and exclude other items that do not reflect the Company’s ongoing operations, and are included to provide investors with useful information about the financial performance of the business. The presented non-GAAP financial measures should not be considered in isolation or as substitutes for the comparable GAAP financial measures. The non-GAAP financial measures do not reflect all of the amounts associated with the results of operations as determined in accordance with GAAP, and these non-GAAP financial measures should only be used to evaluate the results of operations in conjunction with the corresponding GAAP financial measures.

 

In order to calculate the non-GAAP measures, management excludes the following items to the extent they occur in the reporting period, to facilitate the comparison of current and prior year results and ongoing operations, as management believes these items do not reflect the underlying cost structure of the business. These items can vary significantly in amount and frequency.

 

 

Restructuring charges. Workforce reduction and facility closure charges such as employee termination costs, facility closure and consolidation costs, and other costs directly associated with shifting business strategies or business conditions that are part of a restructuring program. 

 

Restructuring actions were taken in 2015 and had impacts during both 2016 and 2015 (refer to Item 8, Note 7 – “Severance and Restructuring Charges”).

 

 

Gain or loss on sale of assets or businesses. Sales of assets, such as buildings or equipment, and businesses can cause gains or losses. These transactions occur as the Company is repositioning its business and reviewing its cost structure.

 

The Company recognized a gain on the sale of its City of Industry facility in 2016 (refer to Item 8, Note 12 – “Leases, Contractual Obligations and Contingencies”), a loss on the sale and related impairment of intangible assets of the operations in Mexico in 2015 and an impairment of the seller notes related to the sale of the software services provider in 2015.

 

 

Severance costs for operating leadership.  Employee termination costs related to members of the Company’s operating leadership team are excluded as they are based upon individual agreements.

 

In 2016, the Company recorded a charge related to the severance of two operating leaders which were not part of a restructuring program.

 

 

Asset impairments.  Changes in strategy or macroeconomic events may cause asset impairments.

 

During 2017, the Company recorded goodwill impairments which resulted from declines in sales, earnings and market capitalization (refer to Note 6 – “Goodwill and Intangible Assets”). In 2015, the Company recorded impairment and accelerated amortization of its trademarks upon the announcement of its rebranding effort. The Company recorded impairment of goodwill and intangible assets, as well as an increase in reserves for obsolete inventory, based on a strategic review of the Industrial business unit in 2015.

 

 

Other actions.  Actions, which may be non-recurring events, that result from the changing strategies and needs of the Company and do not reflect the underlying expense of the on-going business.

 

In 2017, other actions include transformational expenses, a litigation charge (refer to Note 18 – “Legal Matters”), the one-time impact due to the December 2017 passage of tax reform and a gain reflecting receipt of payment on notes receivable impaired in 2015. In 2016, other actions included settlement charges related to a defined benefit plan settlement, litigation charges, the tax impact of dividends from a foreign subsidiary and reserves related to prior year uncertain tax positions.

 

12


 

Adjusted gross profit, adjusted operating expenses and adjusted operating income. Adjusted gross profit, adjusted operating expenses and adjusted operating income provide management and investors with an understanding of the results from the primary operations of the business by excluding the effects of items described above that do not reflect the ordinary expenses and earnings of operations. Adjusted operating expenses and adjusted operating income are used to evaluate the period-over-period operating performance as they are more comparable measures of the continuing business. These measures may be useful to an investor in evaluating the underlying operating performance of the business.

 

Adjusted net income and adjusted diluted earnings per share. Adjusted net income and adjusted diluted earnings per share provide a more comparable view of the Company’s underlying performance and trends than the comparable GAAP measures. Net income and diluted earnings per share are adjusted for the effect of items described above that do not reflect the ordinary earnings of operations.

 

Adjusted earnings before interest, taxes, depreciation and amortization (“EBITDA”). Adjusted EBITDA is helpful in evaluating the Company’s operating performance and is used by management for various purposes, including as a measure of performance and as a basis for strategic planning and forecasting. Net income is adjusted for the effect of interest and other expense, net, taxes, depreciation and amortization and stock-based compensation expense. Management believes that adjusted EBITDA is commonly used by investors to evaluate operating performance between competitors because it helps reduce variability caused by differences in capital structures, income taxes, stock-based compensation accounting policies, and depreciation and amortization policies.  

 

Free cash flow. Free cash flow is useful to management and investors as it is a measure of the Company’s liquidity. It provides a more complete understanding of factors and trends affecting cash flows than the comparable GAAP measure. Net cash provided by (used in) operating activities and net cash provided by (used in) investing activities are aggregated and adjusted to exclude acquisitions, net of cash acquired and divestitures.

13


 

 

For the Years Ended December 31,

 

 

2017

 

 

2016

 

 

2015

 

Gross profit

$

706,054

 

 

$

759,861

 

 

$

836,495

 

Industrial inventory obsolescence reserve

 

-

 

 

 

-

 

 

 

4,887

 

Adjusted gross profit

$

706,054

 

 

$

759,861

 

 

$

841,382

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating expenses

$

946,552

 

 

$

626,117

 

 

$

802,771

 

Impairment of goodwill (Note 6)

 

(285,166

)

 

 

-

 

 

 

-

 

Transformational expenses

 

(19,745

)

 

 

-

 

 

 

-

 

Litigation reserve (Note 18)

 

(9,000

)

 

 

(4,000

)

 

 

-

 

Recovery of notes receivable

 

300

 

 

 

-

 

 

 

-

 

Gain on sale of City of Industry facility (Note 12)

 

-

 

 

 

20,541

 

 

 

-

 

Severance costs for operating leadership

 

-

 

 

 

(1,245

)

 

 

-

 

Impairment of Industrial goodwill and intangible assets

 

-

 

 

 

-

 

 

 

(115,825

)

Restructuring charges (Note 7)

 

-

 

 

 

956

 

 

 

(18,575

)

Loss on disposition of business and related costs

 

-

 

 

 

-

 

 

 

(16,999

)

Impairment of assets and accelerated amortization related to rebranding

 

-

 

 

 

-

 

 

 

(11,981

)

Impairment of seller notes

 

-

 

 

 

-

 

 

 

(10,738

)

Adjusted operating expenses

$

632,941

 

 

$

642,369

 

 

$

628,653

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating (loss) income

$

(240,498

)

 

$

133,744

 

 

$

33,724

 

Gross profit and operating expense adjustments noted above

 

313,611

 

 

 

(16,252

)

 

 

179,005

 

Adjusted operating income

$

73,113

 

 

$

117,492

 

 

$

212,729

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

$

(266,981

)

 

$

63,852

 

 

$

(44,342

)

Gross profit and operating expense adjustments noted above

 

313,611

 

 

 

(16,252

)

 

 

179,005

 

Defined benefit plan settlement charge

 

-

 

 

 

12,510

 

 

 

-

 

Non-GAAP tax provision on adjustments

 

 

 

 

 

 

 

 

 

 

 

Impairment of goodwill (Note 6)

 

(13,356

)

 

 

-

 

 

 

-

 

Transformational expenses

 

(7,655

)

 

 

-

 

 

 

-

 

Litigation reserve (Note 18)

 

(3,488

)

 

 

(1,508

)

 

 

-

 

Tax reform adjustment

 

2,545

 

 

 

-

 

 

 

-

 

Recovery of notes receivable

 

118

 

 

 

-

 

 

 

-

 

Gain on sale of City of Industry facility (Note 12)

 

-

 

 

 

1,138

 

 

 

-

 

Defined benefit plan settlement charge

 

-

 

 

 

(4,705

)

 

 

-

 

Dividend from foreign entity

 

-

 

 

 

1,666

 

 

 

-

 

Severance costs for operating leadership

 

-

 

 

 

(469

)

 

 

-

 

State income tax reserve adjustment

 

-

 

 

 

417

 

 

 

-

 

Impairment of Industrial goodwill and intangible assets

 

-

 

 

 

-

 

 

 

(2,636

)

Restructuring charges (Note 7)

 

-

 

 

 

357

 

 

 

(7,059

)

Loss on disposition of business and related costs

 

-

 

 

 

-

 

 

 

49

 

Impairment of assets and accelerated amortization related to rebranding

 

-

 

 

 

-

 

 

 

(4,552

)

Impairment of seller notes

 

-

 

 

 

-

 

 

 

(4,080

)

Income tax provision on adjusted net income

 

(21,836

)

 

 

(3,104

)

 

 

(18,278

)

Adjusted net income

$

24,794

 

 

$

57,006

 

 

$

116,385