What we liked:
- Q2 2013 EPS was in-line with consensus at $0.61
- Consumer business segment remains strong with 3.9% revenue growth: solid emerging market performance from Russia and Poland and sustained developed market performance from the UK and France
- Integration underway with acquisition of Wuhan Asia Pacific Condiments (WAPC), completed on May 31, 2013, to complement its portfolio and expand its geographic presence in China
- With the addition of WAPC, MKC increased its projected FY 2013 sales growth by 1 percentage point, and now expects to grow sales 4% to 6%, yet will take a hit on EPS (see below)
- Positive inroads in India (currently only 5% of sales vs China at ~7%)
What we didn’t like:
- Q2 Revenues missed consensus, $1.00B vs $1.01B, or 1.9% year-over-year vs 2.3% consensus
- Gross Margin fell to 39.3% vs expectations of 39.8%
- Industrial business segment remains challenged, down 1% in the quarter
- FY 2013 EPS guidance revised down to $3.13-3.19 versus prior $3.15-3.23
- EPS guided lower on $4M of WAPC transaction costs and lower Industrial demand from quick service restaurants in North America and China (both markets have seen GDP forecasts guiding lower in recent weeks) and a chicken food scare
- Flow through of a higher tax rate year-on-year and retirement benefit expenses should weigh on EPS results
- MKC is trading above its immediate term TRADE and intermediate term TREND lines from our quantitative set-up.
We are cautious on the stock over the next two quarters. MKC continues to see strong momentum in its Consumer business (mid single digit growth), whereas most CPG are running consumer sales in the 1-2% range. However, its Industrial business will continue to drag for at least the next quarter as lower demand from QSR in North America and China persists, and therefore we see headwinds in the company attaining its Q3 guidance for EPS of $0.78 (comparable to the year-ago result). Broadly, slowing global demand, particularly in the U.S. and China, should continue to weigh on a consumer that is undecided in trading up to a branded spice product. Longer term, we like the acquisition of WAPC to drive market share (despite the competitive space), and expect tailwinds from improved demand from QSR and a chicken scare in the rear view mirror.