Fortune Brands(US:FBIN)2020-02-26 21:32markdown Part I [Business](index=3&type=section&id=Item%201.%20Business) Fortune Brands Home & Security is a leading home and security products company operating in three segments, focusing on brand leverage and innovation 2019 Net Sales by Business Segment | Segment | 2019 Net Sales (in millions) | Percentage of Total 2019 Net Sales | Key Brands | | :--- | :--- | :--- | :--- | | Cabinets | $2,388.5 | 41.4% | Diamond, Aristokraft, Omega, Decora, Mantra | | Plumbing | $2,027.2 | 35.2% | Moen, Riobel, ROHL, Victoria + Albert | | Doors & Security | $1,348.9 | 23.4% | Therma-Tru, Master Lock, Fiberon, SentrySafe | - The company's strategy emphasizes building on **market-leading brands**, developing **innovative products** like the Flo by Moen Smart Water Shut Off and Mantra value-priced cabinets, expanding in international markets (**16%** of 2019 net sales), leveraging **global supply chains**, and deploying cash to **high-return opportunities**[10](index=10&type=chunk)[11](index=11&type=chunk)[13](index=13&type=chunk) - A **substantial majority** of the U.S. home products market and about two-thirds of the company's U.S. home products sales in 2019 were from **repair-and-remodel activity**, providing a balance to new home construction[22](index=22&type=chunk) - Sales to the company's top ten customers represented **less than half** of total sales in 2019 Sales to all U.S. home centers were approximately **29%** of net sales[23](index=23&type=chunk)[26](index=26&type=chunk) [Risk Factors](index=7&type=section&id=Item%201A.%20Risk%20Factors) The company faces risks from housing market reliance, competition, commodity prices, international trade, and asset impairment - The business is **highly reliant** on North American home improvement, repair/remodel, and new construction activity, which are sensitive to economic factors like employment, consumer confidence, and interest rates[41](index=41&type=chunk)[42](index=42&type=chunk) - The company faces risks from **global commodity and energy price volatility** for materials like brass, zinc, steel, and wood **Import tariffs** could also increase raw material and component prices[46](index=46&type=chunk)[48](index=48&type=chunk)[49](index=49&type=chunk) - International operations (U.S., Canada, China, Europe, Mexico) expose the company to risks from political/economic changes, trade regulations, tariffs, and currency fluctuations[50](index=50&type=chunk)[51](index=51&type=chunk) - Future events, such as **lower-than-forecasted revenues** or a **decline in the housing market**, could lead to **impairment charges** on goodwill and other intangible assets **Impairment charges** of **$41.5 million** and **$62.6 million** were recorded in 2019 and 2018, respectively[68](index=68&type=chunk) [Unresolved Staff Comments](index=13&type=section&id=Item%201B.%20Unresolved%20Staff%20Comments) The company reports no unresolved staff comments - None[79](index=79&type=chunk) [Properties](index=13&type=section&id=Item%202.%20Properties) As of year-end 2019, the company operates 50 manufacturing facilities and 51 distribution centers globally, suitable for current needs Property Overview as of Dec 31, 2019 | Segment | Manufacturing Facilities (Owned/Leased) | Distribution Centers (Owned/Leased) | | :--- | :--- | :--- | | Cabinets | 21 / 3 | 3 / 15 | | Plumbing | 7 / 6 | 7 / 15 | | Doors & Security | 11 / 2 | 1 / 10 | | **Totals** | **39 / 11** | **11 / 40** | [Legal Proceedings](index=14&type=section&id=Item%203.%20Legal%20Proceedings) The company is involved in routine litigation, with management believing the likelihood of material loss is remote - The Company is a defendant in ordinary routine litigation matters incidental to its businesses and believes the likelihood of **material loss is remote**[83](index=83&type=chunk) [Information about our Executive Officers](index=14&type=section&id=Information%20about%20our%20Executive%20Officers) This section lists the company's executive officers, highlighting key leadership changes including the new CEO and Executive Chairman - **Effective January 2020**, Nicholas I Fink became **Chief Executive Officer**, succeeding Christopher J Klein, who transitioned to **Executive Chairman of the Board**[87](index=87&type=chunk)[88](index=88&type=chunk) Part II [Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities](index=15&type=section&id=Item%205.%20Market%20for%20Registrant's%20Common%20Equity%2C%20Related%20Stockholder%20Matters%20and%20Issuer%20Purchases%20of%20Equity%20Securities) The company's common stock trades on the NYSE, with a dividend increase in 2019 and remaining share repurchase authorization - The quarterly cash dividend was increased by **9%** to **$0.24 per share** in December 2019[101](index=101&type=chunk) - No shares of common stock were repurchased during the three months ended December 31, 2019 The remaining authorization under the program was approximately **$313.7 million**[103](index=103&type=chunk) [Selected Financial Data](index=17&type=section&id=Item%206.%20Selected%20Financial%20Data) This section summarizes key consolidated financial data, reporting 2019 net sales of $5.76 billion and operating income of $698.5 million Selected Financial Data (2019 vs. 2018) | (In millions, except per share amounts) | 2019 | 2018 | | :--- | :--- | :--- | | Net sales | $5,764.6 | $5,485.1 | | Operating income | $698.5 | $595.2 | | Income from continuing operations, net of tax | $431.3 | $390.0 | | Diluted earnings per share – continuing operations | $3.06 | $2.66 | | Total assets (at year end) | $6,291.3 | $5,964.6 | | Total third party debt (at year end) | $2,184.3 | $2,334.0 | [Management's Discussion and Analysis of Financial Condition and Results of Operations](index=18&type=section&id=Item%207.%20Management's%20Discussion%20and%20Analysis%20of%20Financial%20Condition%20and%20Results%20of%20Operations) Management discusses 2019 financial performance, highlighting increased net sales and operating income, liquidity, capital resources, and critical accounting policies [Results of Operations](index=19&type=section&id=Results%20of%20Operations) In 2019, total net sales increased 5.1% and operating income grew 17.4%, reflecting varied segment performance and productivity gains Net Sales & Operating Income by Segment (2019 vs. 2018) | (In millions) | Net Sales 2019 | Net Sales 2018 | % Change | Operating Income 2019 | Operating Income 2018 | % Change | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | Cabinets | $2,388.5 | $2,418.6 | (1.2)% | $178.3 | $143.5 | 24.3% | | Plumbing | $2,027.2 | $1,883.3 | 7.6% | $427.6 | $375.3 | 13.9% | | Doors & Security | $1,348.9 | $1,183.2 | 14.0% | $172.3 | $155.6 | 10.7% | | **Total** | **$5,764.6** | **$5,485.1** | **5.1%** | **$698.5** | **$595.2** | **17.4%** | - 2019 results included asset **impairment charges** of **$41.5 million** in the Cabinets segment and an unfavorable foreign exchange impact of approximately **$29 million** on net sales[132](index=132&type=chunk) - The Doors & Security segment's sales increase was primarily due to the full-year benefit from the 2018 Fiberon acquisition, which contributed **$139 million**[152](index=152&type=chunk) [Liquidity and Capital Resources](index=22&type=section&id=Liquidity%20and%20Capital%20Resources) The company maintains strong liquidity through cash, operating cash flow, and an undrawn credit facility, with debt reduction and capital allocation Cash Flow Summary (2019 vs. 2018) | (In millions) | 2019 | 2018 | | :--- | :--- | :--- | | Net cash provided by operating activities | $637.2 | $604.0 | | Net cash used in investing activities | $(127.6) | $(634.3) | | Net cash used in financing activities | $(389.7) | $(6.8) | - In September 2019, the company issued **$700 million** of **3.25%** senior notes due in 2029 and used the proceeds to repay its **$350 million** term loan and pay down its revolving credit facility[121](index=121&type=chunk)[158](index=158&type=chunk) - In 2019, the company repurchased **2.0 million** shares for **$100.0 million** and paid **$123.0 million** in dividends[168](index=168&type=chunk)[169](index=169&type=chunk) Contractual Obligations as of Dec 31, 2019 | (In millions) | Total | Less than 1 year | 1-3 years | 4-5 years | After 5 years | | :--- | :--- | :--- | :--- | :--- | :--- | | Short-term and long-term debt | $2,200.0 | $400.0 | $— | $600.0 | $1,200.0 | | Interest payments on long-term debt | $439.5 | $72.8 | $133.5 | $109.5 | $123.7 | | Operating leases | $202.2 | $39.1 | $60.2 | $41.5 | $61.4 | | Purchase obligations | $408.5 | $373.9 | $24.5 | $10.0 | $0.1 | [Critical Accounting Policies and Estimates](index=26&type=section&id=Critical%20Accounting%20Policies%20and%20Estimates) Management identifies critical accounting policies for goodwill, intangibles, and defined benefit plans, noting 2019 impairment charges and future risks - Goodwill and indefinite-lived intangible assets are tested for **impairment** annually A quantitative test is performed if qualitative factors suggest impairment is more likely than not[193](index=193&type=chunk)[194](index=194&type=chunk) - In 2019, the company recognized **impairment charges** totaling **$41.5 million** on two indefinite-lived tradenames in the Cabinets segment This was driven by a consumer shift from custom/semi-custom to value-priced cabinetry, leading to lower sales forecasts[198](index=198&type=chunk)[199](index=199&type=chunk) - As of December 31, 2019, the estimated fair values of three tradenames in the Cabinets segment exceeded their carrying values by less than **10%**, increasing the **risk of future impairments**[199](index=199&type=chunk)[200](index=200&type=chunk)[317](index=317&type=chunk) - Defined benefit plan accounting is subject to **volatility from actuarial gains and losses**, primarily due to changes in discount rates and asset returns The company recognized pre-tax actuarial losses of **$34.7 million** in 2019[204](index=204&type=chunk) [Quantitative and Qualitative Disclosures about Market Risk](index=32&type=section&id=Item%207A.%20Quantitative%20and%20Qualitative%20Disclosures%20about%20Market%20Risk) The company manages market risks from interest rates, foreign currency, and commodity prices through hedging, with a VAR of $0.6 million for currency - The company uses forward foreign exchange contracts to hedge currency fluctuations, principally for the Canadian dollar, British pound, Mexican peso, and Chinese yuan[222](index=222&type=chunk)[184](index=184&type=chunk) - A Value-at-Risk (VAR) analysis estimated the maximum potential one-day loss from adverse changes in foreign exchange rates for its contracts to be **$0.6 million** at December 31, 2019, at a **95%** confidence level[224](index=224&type=chunk) [Financial Statements and Supplementary Data](index=33&type=section&id=Item%208.%20Financial%20Statements%20and%20Supplementary%20Data) This section presents audited consolidated financial statements and the auditor's unqualified opinion, noting tradename impairment as a critical audit matter Consolidated Statement of Income Highlights (2019 vs. 2018) | (In millions) | 2019 | 2018 | | :--- | :--- | :--- | | NET SALES | $5,764.6 | $5,485.1 | | OPERATING INCOME | $698.5 | $595.2 | | NET INCOME ATTRIBUTABLE TO FORTUNE BRANDS | $431.9 | $389.6 | Consolidated Balance Sheet Highlights (As of Dec 31) | (In millions) | 2019 | 2018 | | :--- | :--- | :--- | | TOTAL CURRENT ASSETS | $1,898.2 | $1,686.1 | | TOTAL ASSETS | $6,291.3 | $5,964.6 | | TOTAL CURRENT LIABILITIES | $1,409.3 | $1,492.1 | | TOTAL LIABILITIES | $3,863.5 | $3,784.6 | | TOTAL EQUITY | $2,427.8 | $2,180.0 | - The Report of Independent Registered Public Accounting Firm issued an **unqualified opinion** and identified the **impairment assessment** for certain tradenames in the Cabinets segment as a **Critical Audit Matter** due to **significant management judgment** involved[439](index=439&type=chunk)[448](index=448&type=chunk)[449](index=449&type=chunk) [Changes in and Disagreements With Accountants on Accounting and Financial Disclosure](index=74&type=section&id=Item%209.%20Changes%20in%20and%20Disagreements%20With%20Accountants%20on%20Accounting%20and%20Financial%20Disclosure) The company reports no disagreements with its accountants on accounting principles or financial disclosure - None[454](index=454&type=chunk) [Controls and Procedures](index=74&type=section&id=Item%209A.%20Controls%20and%20Procedures) Management concluded that the company's disclosure controls and internal control over financial reporting were effective as of December 31, 2019 - Based on their evaluation, the **Chief Executive Officer** and **Chief Financial Officer** concluded that the Company's disclosure controls and procedures were **effective** as of December 31, 2019[457](index=457&type=chunk) - Management concluded that the company's internal control over financial reporting was **effective** as of December 31, 2019[459](index=459&type=chunk) [Other Information](index=74&type=section&id=Item%209B.%20Other%20Information) The company reports no other information for this item - None[463](index=463&type=chunk) Part III [Directors, Executive Officers and Corporate Governance](index=75&type=section&id=Item%2010.%20Directors%2C%20Executive%20Officers%20and%20Corporate%20Governance) Information on directors, executive officers, and corporate governance is incorporated by reference from the company's 2020 Proxy Statement - Required information for this item is incorporated by reference from the registrant's 2020 Proxy Statement[465](index=465&type=chunk) [Executive Compensation](index=75&type=section&id=Item%2011.%20Executive%20Compensation) Information on director and executive compensation is incorporated by reference from the company's 2020 Proxy Statement - Required information for this item is incorporated by reference from the registrant's 2020 Proxy Statement[467](index=467&type=chunk) [Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters](index=75&type=section&id=Item%2012.%20Security%20Ownership%20of%20Certain%20Beneficial%20Owners%20and%20Management%20and%20Related%20Stockholder%20Matters) Information on security ownership and equity compensation plans is incorporated by reference from the company's 2020 Proxy Statement - Required information for this item is incorporated by reference from the registrant's 2020 Proxy Statement[468](index=468&type=chunk) [Certain Relationships and Related Transactions, and Director Independence](index=75&type=section&id=Item%2013.%20Certain%20Relationships%20and%20Related%20Transactions%2C%20and%20Director%20Independence) Information on certain relationships, related party transactions, and director independence is incorporated by reference from the 2020 Proxy Statement - Required information for this item is incorporated by reference from the registrant's 2020 Proxy Statement[469](index=469&type=chunk) [Principal Accountant Fees and Services](index=75&type=section&id=Item%2014.%20Principal%20Accountant%20Fees%20and%20Services) Information on principal accountant fees and services is incorporated by reference from the company's 2020 Proxy Statement - Required information for this item is incorporated by reference from the registrant's 2020 Proxy Statement[470](index=470&type=chunk) Part IV [Exhibits and Financial Statement Schedules](index=76&type=section&id=Item%2015.%20Exhibits%20and%20Financial%20Statement%20Schedules) This section lists all financial statements, schedules, and exhibits filed with the annual report, including various material contracts and certifications - This section lists all financial statements, schedules, and exhibits filed with the annual report, including the Consolidated Financial Statements, Report of Independent Registered Public Accounting Firm, and various material contracts and certifications[472](index=472&type=chunk) [Form 10-K Summary](index=78&type=section&id=Item%2016.%20Form%2010-K%20Summary) The company reports no Form 10-K summary - None[476](index=476&type=chunk)