Healthy Prospects

Overall organic sales were up approximately 0.2% (volume +0.2%/price flat) during 1FQ16, while mergers and acquisitions contributed positively (+9.9%), noting that FX was unfavorable (–6.9%). Meanwhile, on an adjusted basis overall profitability declined modestly by 70 basis points year over year to 12.9% (EBIT margins).

RPM's board of directors approved the separation of the company's RPM2, reconsolidated Specialty Products Holding Corp. (SPHC) and other specialty businesses, to create the specialty products group operating segment. The businesses in this segment are characterized by having leadership positions in niche markets that traditionally do not compete with RPM's normal peer group. The specialty businesses include fluorescent pigments, fire/water damage restoration equipment, specialty original equipment manufacturer (OEM) coatings, and edible coatings for food/pharmaceutical uses.

As of 1FQ16, the industrial segment represented 53% of consolidated RPM sales, with consumer (32% of sales) and specialty (15% of sales) rounding out the remainder. While SPHC sales are U.S. centered, the remainder of the specialty segment are split approximately 50/50 between U.S. and foreign sales, leaving the segment exposed to FX fluctuations.

Meanwhile, year-over-year organic sales improvement in the segment stemmed from slight volume gains (+0.6%) and flat pricing, while acquisition activity (+141.7%) vastly outweighed FX headwinds (–11.6%). In terms of profitability, the segment's EBIT margins declined 610 basis points year over year (to 15.3%) due mostly to the lower margin nature of the SPHC businesses and FX dynamics.

Finally, as for the outlook, management revised its FY16 EPS forecast, which is now expected at approximately $2.50 (from $2.55), with management noting that the lowered guidance reflects incremental FX headwinds and an expected recovery in the consumer segment (post-detrimental 1FQ16 weather). Also, management expects SPHC to contribute $0.15 in EPS.

Moreover, the company expects consumer sales to increase 5% to 7% and industrial sales growth is now expected in the low-single-digit range, while specialty segment sales are expected to grow in the low- to mid-single digit range excluding acquisition activity.

RPM expects to benefit from the re-consolidation of the full $400-plus million SPHC contribution to sales in addition to the U.S. commercial construction recovery, which are offsetting FX difficulties in Europe, Brazil and South Africa. European demand is expected to remain positive during FY16, with the global sales strength highlighting the stable overall sales base driven by two different end-market cycles.

RPM noted that management expects to experience a tailwind from lower raw material costs, although FX headwinds (both translational and transactional) will eat into raw material benefits.

RPM International reported diluted 1FQ16 EPS (ended Aug. 31) of $0.74—below consensus of $0.82 and versus $0.73 earned during the 1FQ15 period.

Vincent Andrews

Morgan Stanley & Company

www.morganstanley.com

RPM International management lowered fiscal year '16 guidance to $2.50 versus the previous expectation of $2.55. The reduction includes a lower sales outlook in the newly reorganized Industrial segment of low single digits (versus 8-10% previously), while specialty segment sales are expected to grow [in the] low-to-mid-single-digit [range] in local currencies excluding acquisitions.

Including the newly separated specialty segment, sales increased 9.4% year over year, which compares to our estimate of 8.5%. The segment operating margin of 13.3% compares to [our estimates of] 14.3% and 13.6% in the prior year.

The company highlighted continued momentum in U.S. commercial construction, offset by weaker sales into the energy sector. European and Brazilian sales declined 12.9% and 21.0% respectively, but were up 3.3% and 16% in constant currency dollars.

RPM introduced a third reportable business segment, which combines the former RPM2 industrial operating segment and the former SPHC operating segment into a single operation called the Specialty Products Group. Both of these businesses were formerly incorporated into the company's Industrial segment.