Ferguson (FERG) 10-Q2024 Q2 Quarterly report

Unless otherwise specified or the context otherwise requires, the terms “Company,” “Ferguson,” “we,” “us,” and “our” and other similar terms refer to Ferguson plc and its consolidated subsidiaries. Except as otherwise specified or the context otherwise requires, references to years indicate our fiscal year ended July 31 of the respective year. For example, references to “fiscal 2024” or similar references refer to the fiscal year ended July 31, 2024.

Certain information included in this quarterly report on Form 10-Q (“Quarterly Report”) is forward-looking, including within the meaning of the Private Securities Litigation Reform Act of 1995, and involves risks, assumptions and uncertainties that could cause actual results to differ materially from those expressed or implied by forward-looking statements. Forward-looking statements cover all matters which are not historical facts and include, without limitation, statements or guidance regarding or relating to our future financial position, results of operations and growth, projected interest in and ownership of our ordinary shares by investors including as a result of inclusion in North American market indices, domiciling our ultimate parent company in the United States, plans and objectives for the future including our capabilities and priorities, risks associated with changes in global and regional economic, market and political conditions, ability to manage supply chain challenges, ability to manage the impact of product price fluctuations, our financial condition and liquidity, legal or regulatory changes, and other statements concerning the success of our business and strategies.

Forward-looking statements can be identified by the use of forward-looking terminology, including terms such as “believes,” “estimates,” “anticipates,” “expects,” “forecasts,” “intends,” “continues,” “plans,” “projects,” “goal,” “target,” “aim,” “may,” “will,” “would,” “could” or “should” or, in each case, their negative or other variations or comparable terminology and other similar references to future periods. Forward-looking statements speak only as of the date on which they are made. They are not assurances of future performance and are based only on our current beliefs, expectations and assumptions regarding the future of our business, future plans and strategies, projections, anticipated events and trends, the economy and other future conditions. Therefore, you should not place undue reliance on any of these forward-looking statements. Although we believe that the forward-looking statements contained in this Quarterly Report are based on reasonable assumptions, you should be aware that many factors could cause actual results to differ materially from those in such forward-looking statements, including but not limited to:

Additionally, forward-looking statements regarding past trends or activities should not be taken as a representation that such trends or activities will continue in the future. Other than in accordance with our legal or regulatory obligations, we undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.

Ferguson plc (the “Company”) (NYSE: FERG; LSE: FERG) is a public company limited by shares incorporated in Jersey under the Companies (Jersey) Law 1991 (as amended). The Company is a value-added distributor in North America providing expertise, solutions and products from infrastructure, plumbing and appliances to HVAC, fire, fabrication and more. We exist to make our customers’ complex projects simple, successful and sustainable. Ferguson is headquartered in the United Kingdom (“U.K.”), with its operations and associates solely focused on North America and managed from Newport News, Virginia. The Company’s registered office is 13 Castle Street, St Helier, Jersey, JE1 1ES, Channel Islands.

The accompanying unaudited condensed consolidated financial statements and notes to the condensed consolidated financial statements are presented in accordance with the rules and regulations of the SEC and accounting principles generally accepted in the United States of America (“U.S. GAAP”), but do not include all disclosures normally required in annual consolidated financial statements. In the opinion of management, the unaudited condensed consolidated financial statements contain all normal recurring adjustments necessary to present fairly the financial position, results of operations and cash flows for the interim periods presented. The July 31, 2023 condensed consolidated balance sheet was derived from the audited financial statements.

For the six months ended January 31, 2023 and to conform to current period presentation, the Company has disaggregated the total change in income taxes within the cash flows from operating activities to reflect the changes in deferred income taxes separately from the changes in income taxes payable.

These unaudited interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Annual Report. The financial results for the interim periods may not be indicative of the financial results for the entire fiscal year.

The preparation of the Company's interim condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions affecting certain reported amounts. Actual results may differ from those estimates.

Cash and cash equivalents include cash on hand, deposits with banks with original maturities of three months or less and overdrafts to the extent there is a legal right of offset and practice of net settlement with cash balances.

Restricted cash primarily consists of deferred consideration for business combinations, subject to various settlement agreements, and is recorded in prepaid and other current assets in the Company’s condensed consolidated balance sheets.

The following table provides a reconciliation of cash, cash equivalents and restricted cash reported within the condensed consolidated balance sheets compared with amounts shown in the condensed consolidated statements of cash flows.

In October 2023, the Company began a supplier financing program with a third party wherein certain shipping and logistics providers in the United States can opt to receive early payment at a nominal discount. The Company’s standard payment terms under this program is 45 days. All outstanding payables related to the supplier finance program are classified within accounts payable within our unaudited consolidated balance sheets and were $32 million as of January 31, 2024.

In November 2023, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2023-07, “Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures.” This ASU expands public entities’ required segment disclosures, including disclosure of significant segment expenses that are regularly provided to the chief operating decision maker and included within each reported measure of segment profit or loss, an amount and description of its composition for other segment items and interim disclosures of a reportable segment’s profit or loss and assets. This ASU is effective for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. Early adoption is permitted. The Company is currently evaluating the impact of adopting this ASU on its disclosures.

In December 2023, the FASB issued ASU No. 2023-09, “Income Taxes (Topic 740): Improvements to Income Tax Disclosures. This ASU provides qualitative and quantitative updates to the rate reconciliation and income taxes paid disclosures, among others, in order to enhance the transparency of income tax disclosures, including consistent categories and greater disaggregation of information in the rate reconciliation and disaggregation by jurisdiction of income taxes paid. The amendments in this ASU are effective for fiscal years beginning after December 15, 2024. Early adoption is permitted. The amendments should be applied prospectively; however, retrospective application is also permitted. The Company is currently evaluating the ASU to determine the impact on its disclosures.

Recent accounting pronouncements pending adoption that are not discussed above are either not applicable, or will not have, or are not expected to have, a material impact on our consolidated financial condition, results of operations, cash flows or related disclosures.

The Company reports its financial results of operations on a geographical basis in the following two reportable segments: United States and Canada. Each segment generally derives its revenues in the same manner. The Company uses adjusted operating profit as its measure of segment profit. Adjusted operating profit is defined as profit before tax, excluding central and other costs, restructuring costs, impairments and other charges, amortization of acquired intangible assets, net interest expense, as well as other items typically recorded in net other (expense) income such as (loss)/gain on disposal of businesses, pension plan changes/closure costs and amounts recorded in connection with the Company’s interests in investees. Certain income and expenses are not allocated to the Company’s segments and, thus, the information that management uses to make operating decisions and assess performance does not reflect such amounts.

The Company determined that disaggregating net sales by end market at the segment level achieves the disclosure objective to depict how the nature, amount, timing, and uncertainty of revenue and cash flows may be impacted by economic factors. The disaggregated net sales by end market are as follows:

No sales to an individual customer accounted for more than 10% of net sales during any of the periods presented.

The Company is a value-added distributor in North America of products from infrastructure, plumbing and appliances to HVAC, fire, fabrication and more. We offer a broad line of products, and items are regularly added to and removed from the Company's inventory. Accordingly, it would be impractical to provide sales information by product category due to the way the business is managed, and the dynamic nature of the inventory offered.

Ferguson manages its affairs so that it is centrally managed and controlled in the U.K. and therefore has its tax residency in the U.K. The provision for income taxes consists of provisions for the U.K. plus non-U.K. tax rate differentials with respect to other locations in which Ferguson’s operations are based. Accordingly, the consolidated income tax rate is a composite rate reflecting earnings in various locations and the applicable rates.

The Company’s tax provision for each period presented was calculated using an estimated annual tax rate, adjusted for discrete items occurring during the applicable period to arrive at an effective tax rate. The effective income tax rates for the relevant periods were as follows:

During the three and six months ended January 31, 2024, there have been no material changes to the Company’s unrecognized tax benefits when compared to those items disclosed in the Annual Report.

The Company maintains a Receivables Securitization Facility (the “Receivables Facility”) that consists of funding for up to $1.1 billion, including a swingline for up to $100 million in same day funding. As of January 31, 2024, $75 million in borrowings were outstanding under the Receivables Facility. There was no significant change in interest rates from those disclosed in the Annual Report.

The Company’s Credit Agreement, dated October 7, 2022 (the “Term Loan Agreement”), provides for term loans (“Term Loan”) in an aggregate principal amount of $500 million. There was no significant change in interest rates from those disclosed in the Annual Report.

The Company was in compliance with all debt covenants that were in effect as of January 31, 2024.

The Company has not changed its valuation techniques for measuring fair value of any financial assets or liabilities during the periods presented. The carrying amounts of cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities and other debt instruments, such as the receivables securitization facility and term loans, approximated their fair values as of January 31, 2024 and July 31, 2023.

The Company’s derivatives (interest rate swaps which are considered fair value hedges) and investments in equity instruments are carried at fair value on the condensed consolidated balance sheets (Level 2 and Level 3 fair value inputs, respectively) and are not material. The notional amount of the Company’s outstanding fair value hedges was $300 million and $355 million as of January 31, 2024 and July 31, 2023, respectively. The notional value of fair value hedges decreased in connection with the repayment of $55 million related to the 3.30% private placement notes that matured in November 2023.

The Company is, from time to time, involved in various legal proceedings considered to be normal course of business in relation to, among other things, the products that we supply, contractual and commercial disputes and disputes with employees. Provision is made if, on the basis of current information and professional advice, liabilities are considered probable. In the case of unfavorable outcomes, the Company may benefit from applicable insurance protection. The Company does not expect any of its pending legal proceedings to have a material adverse effect on its results of operations, financial position or cash flows.

The change in accumulated other comprehensive loss was as follows:

The Company maintains pension plans in the U.K. and Canada. The components of net periodic pension cost, which are included in Other expense, net in the condensed consolidated statements of earnings, were as follows:

The impact of exchange rate fluctuations is included on the amortization line above.

The following table presents a summary of the Company’s share activity:

Two Employee Benefit Trusts had been previously established in connection with the Company’s discretionary share award plans and long-term incentive plans. As of January 31, 2024, each of these trusts has been terminated with all shares disbursed or sold. The proceeds from shares sold upon termination of the Employee Benefit Trusts were $4 million and included in other financing activities in the statement of cash flow.

Share repurchases are being made under an authorization that allows up to $3.0 billion in share repurchases. As of January 31, 2024, the Company has completed $2.7 billion of the total announced authorized program. The Company is currently purchasing shares under a revocable purchase arrangement with repurchases recorded directly to treasury shares as incurred.

Following adoption by the board of directors of the Company (the “Board”), the Ferguson plc 2023 Omnibus Equity Incentive Plan (the “New Plan”) was approved by the shareholders of the Company at the annual general meeting on November 28, 2023, and became effective as of September 21, 2023, the date of the Board’s adoption of the New Plan. The New Plan provides for the issuance of up to 6,750,000 of the Company’s ordinary shares, subject to the share recycling and adjustment provisions as provided under the New Plan. All new share-based compensation awards granted subsequent to November 28, 2023 will be granted under the New Plan. No new awards will be granted under the Ferguson Group Ordinary Share Plan 2019, Ferguson Group Performance Ordinary Share Plan 2019 or the Ferguson Group Long Term Incentive Plan 2019 (the “Prior Plans”).

The Company grants share-based compensation awards that can be broadly characterized by the underlying vesting conditions as follows:

For LTI-ED awards granted prior to fiscal 2023, the number of ordinary shares to be issued upon vesting will vary based on Company measures of inflation-indexed earnings per share (“EPS”), cash flow and total shareholder return (“TSR”) compared to a peer company set. Based on the performance conditions of these awards granted prior to fiscal 2023, these awards are treated as liability-settled awards. As such, the fair value of these awards are initially determined at the date of grant and are remeasured at each balance sheet date until the liability is settled. Dividend equivalents accrue during the vesting period. As of January 31, 2024 and July 31, 2023, the total liability recorded in connection with these grants was $6 million and $13 million, respectively.

In fiscal 2024 and 2023, the Company granted LTI-ED awards in which the ordinary shares to be issued upon vesting vary based on fixed measures of Company defined EPS and return on capital employed (“ROCE”), as well as TSR compared to a peer company set. Dividend equivalents accrue during the vesting period. Based on the performance conditions of these awards, such grants are treated as equity-settled awards (“LTI-ED, equity-settled”) with the fair value determined on the date of grant. Specifically, the fair value of such awards that vest based on achievement of the EPS and ROCE measures are equal to the closing share price on the date of grant. The fair value of the awards that vest based on TSR were determined using a Monte-Carlo simulation, which estimate the fair value based on the Company's share price activity relative to the peer comparative set over the expected term of the award, risk-free interest rate, expected dividends, and the expected volatility of the shares of the Company and that of the peer company set.

The following table summarizes the share-based compensation awards activity for the six months ended January 31, 2024:

The following table relates to time vested, performance vested and LTI-ED award activity:

The following table relates to all share-based compensation awards:

The Company acquired three businesses during the six months ended January 31, 2024. Each of the acquired businesses is engaged in the distribution of plumbing and heating related products and was acquired to support growth. In each of the Company’s acquisitions, the Company has substantially purchased the acquiree's business and therefore all transactions have been accounted for as a business combination pursuant to FASB Accounting Standards Codification (ASC) 805.

The fair values of the net assets acquired are considered preliminary and are based on management’s best estimates. Further adjustments may be necessary in connection with acquisitions completed in a prior period when additional information becomes available about events that existed at the date of acquisition. Amendments to fair value estimates may be made to these figures during the measurement period following the date of acquisition. There were no material adjustments in the current fiscal year that related to the closing of the measurement period of acquisitions made in the prior fiscal year. As of the date of this Quarterly Report, the Company has made all known material adjustments related to acquisitions in fiscal 2024.

The goodwill on these acquisitions is attributable to the anticipated profitability of the new markets and product ranges to which the Company has gained access and additional profitability, operating efficiencies and other synergies available in connection with existing markets. All goodwill acquired during the six months ended January 31, 2024 is in the United States segment with $15 million of goodwill expected to be deductible for tax purposes.

The businesses acquired during the year-to-date period of fiscal 2024 contributed $4 million to net sales and $4 million in losses to the Company’s income before income tax, including acquired intangible asset amortization, transaction and integration costs for the period between the applicable date of acquisition and January 31, 2024. Acquisition costs during the six months ended January 31, 2024 were not material. Acquisition costs are expensed as incurred and included in SG&A in the Company’s consolidated statements of earnings.

The impact on income before income tax, including additional amortization, transaction costs and integration costs would not be material in the three and six months ended January 31, 2024 and 2023.

These unaudited pro forma results do not necessarily represent financial results that would have been achieved had the acquisition actually occurred at the beginning of the prior fiscal year.

For the three and six months ended January 31, 2024, the Company purchased $2 million and $8 million, respectively, compared with $6 million and $13 million in the same periods of fiscal 2023, respectively, of delivery, installation and related administrative services from a company that is, or is an indirect wholly-owned subsidiary of a company that is, controlled or significantly influenced by a Ferguson Non-Employee Director. The services were purchased on an arm’s-length basis. In December 2023, this related party relationship ended. As such, we do not expect any future services provided by this company to constitute a related party transaction. No material amounts are due to any related party entities.

The following discussion contains trend information and forward-looking statements. Actual results could differ materially from those discussed in these forward-looking statements, as well as from our historical performance, due to various factors, including, but not limited to, those referred to or discussed in “Risk Factors” and “Cautionary Note Regarding Forward-Looking Statements” and elsewhere in this Quarterly Report.

Ferguson is a value-added distributor in North America providing expertise, solutions and products from infrastructure, plumbing and appliances to HVAC, fire, fabrication and more. Ferguson is headquartered in the U.K., with its operations and associates solely focused on North America and managed from Newport News, Virginia.

The following table presents highlights of the Company’s performance for the periods below:

For the second quarter of fiscal 2024, net sales decreased by 2.2% compared to the second quarter of fiscal 2023, primarily due to price deflation (approximately 2%) and lower sales volume, partially offset by incremental revenue from acquisitions.

For the second quarter of fiscal 2024, operating profit decreased by 13.1% (adjusted operating profit declined 10.7%), compared with the second quarter of fiscal 2023. This decrease was primarily due to higher operating costs in certain categories, as well as lower gross profit in connection with lower sales.

For the second quarter of fiscal 2024, diluted earnings per share was $1.58 (adjusted diluted earnings per share: $1.74), decreasing 12.2% compared to the prior fiscal year period (8.9% on an adjusted basis) due to lower net income, partially offset by the impact of share repurchases.

Net cash provided by operating activities decreased to $863 million in the year-to-date period of fiscal 2024 compared with $1,171 million in the same period in fiscal 2023, primarily reflecting changes in inventory period-over-period and lower net income.

Net sales were $6.7 billion in the second quarter of fiscal 2024, a decrease of $0.2 billion, or 2.2%, compared with the same period in fiscal 2023. The decrease in net sales was primarily driven by price deflation of approximately 2%, mainly within certain commodity categories, as well as lower sales volume. These decreases were partially offset by incremental sales from acquisitions of 1.5%. The Company’s decrease in net sales was primarily driven by its United States segment, mainly due to declines in residential sales.

Net sales were $14.4 billion in the year-to-date period of fiscal 2024, a decrease of $0.4 billion, or 2.5%, compared with the same period in fiscal 2023. The factors impacting the year-to-date comparison were largely the same as those noted above for the quarter.

For further discussion on the Company’s net sales, see the “Segment results” section below.

Gross profit in the second quarter of fiscal 2024 decreased $33 million, or 1.6%, compared with the same period in fiscal 2023, primarily reflecting decreased net sales. Gross profit as a percentage of sales was 30.4% and 30.2% in the second quarters of fiscal 2024 and fiscal 2023, respectively. The increase of 0.2% primarily reflecting favorable product mix, partially offset by deflation in certain commodity categories.

Gross profit in the year-to-date period of fiscal 2024, decreased $123 million, or 2.7%, compared with the same period in fiscal 2023, primarily reflecting lower sales. Gross profit as a percentage of sales was 30.3% and 30.4% in the year-to-date periods of fiscal 2024 and fiscal 2023, respectively. The decrease of 0.1% primarily reflected deflation in certain commodity categories.

SG&A expenses in the second quarter of fiscal 2024 increased $37 million, or 2.6%, compared with the same period in fiscal 2023. SG&A as a percentage of sales was 22.0% and 21.0% in the second quarters of fiscal 2024 and fiscal 2023, respectively. The increase in SG&A as a percent of sales primarily reflects lower sales and the impact of wage and infrastructure cost inflation.

SG&A expenses in the year-to-date period of fiscal 2024, increased $40 million, or 1.4%, compared with the same period in fiscal 2023. SG&A as a percentage of sales was 20.7% and 19.9% in the year-to-date period of fiscal 2024 and fiscal 2023, respectively. The increase in SG&A as a percent of sales primarily reflects lower sales and the impact of wage and infrastructure cost inflation that were offset, in part, by improved productivity and lower headcount.

Net interest expense was $44 million and $89 million in the second quarter and year-to-date periods of fiscal 2024, respectively, and was approximately flat compared with the respective periods of fiscal 2023.

Income tax expense was $111 million for the second quarter of fiscal 2024, a decrease of $10 million, or 8.3%, compared to the same period in fiscal 2023 in connection with lower income before income taxes. In the year-to-date period of fiscal 2024, income tax expense was $283 million, a decrease of $35 million, or 11.0%, compared to the same period in fiscal 2023. The Company’s effective tax rates attributable to continuing operations were 25.6% and 24.4% for the second quarters of fiscal 2024 and 2023, respectively. The Company’s effective tax rates were 25.2% and 24.7% for the year-to-date periods of fiscal 2024 and 2023, respectively. For each of the year-over-year comparisons, the increase in the effective tax rate was primarily due to an increase in the tax rates in certain jurisdictions in which we operate.

Net income for the second quarter and year-to-date periods of fiscal 2024 was $322 million and $841 million, respectively. These represented decreases in net income of $52 million, or 13.9%, and $128 million, or 13.2%, compared to the respective periods in fiscal 2023 due to the various elements described in the sections above.

On a year-to-date basis, net sales for the United States segment were $13.7 billion in fiscal 2024, a decrease of $0.3 billion, or 2.4%, compared to the same period in fiscal 2023. Sales in residential markets decreased 5.2%, while sales in non-residential markets increased 0.6%. The factors impacting the year-to-date comparison were largely the same as those noted above for the quarter.

On a year-to-date basis, adjusted operating profit for the United States segment was $1,291 million in fiscal 2024, a decrease of $133 million, or 9.3%, compared to the same period in fiscal 2023. The factors impacting the year-to-date comparison were largely the same as those noted above for the quarter.

Adjusted operating profit for the Canada segment in the second quarter and year-to-date periods of fiscal 2024 decreased compared to the same periods in fiscal 2023 due to lower sales.

The Company reports its financial results in accordance with U.S. GAAP. However, the Company believes certain non-GAAP financial measures provide users of the Company’s financial information with additional meaningful information to assist in understanding financial results and assessing the Company’s performance from period to period. These non-GAAP measures include adjusted operating profit, adjusted net income and adjusted earnings per share (“adjusted EPS”) - diluted. Management believes these measures are important indicators of operations because they exclude items that may not be indicative of our core operating results and provide a better baseline for analyzing trends in our underlying businesses, and they are consistent with how business performance is planned, reported and assessed internally by management and the Board. Such non-GAAP adjustments include amortization of acquired intangible assets, discrete tax items, and any other items that are non-recurring. Non-recurring items may include various restructuring charges, gains or losses on the disposals of businesses which by their nature do not reflect primary operations, as well as certain other items deemed non-recurring in nature and/or that are not a result of the Company’s primary operations. Because non-GAAP financial measures are not standardized, it may not be possible to compare these financial measures with other companies’ non-GAAP financial measures having the same or similar names. These non-GAAP financial measures should not be considered in isolation or as a substitute for results reported under U.S. GAAP. These non-GAAP financial measures reflect an additional way of viewing aspects of operations that, when viewed with U.S. GAAP results, provide a more complete understanding of the business. The Company strongly encourages investors and shareholders to review the Company’s financial statements and publicly filed reports in their entirety and not to rely on any single financial measure.

The following table reconciles net income (U.S. GAAP) to adjusted operating profit (non-GAAP):

The following table reconciles net income (U.S. GAAP) to adjusted net income and adjusted EPS - diluted (non-GAAP):

The Company believes its current cash position coupled with cash flow anticipated to be generated from operations and access to capital should be sufficient to meet its operating cash requirements for the next 12 months and would also enable the Company to invest and fund acquisitions, capital expenditures, dividend payments, share repurchases, required debt payments and other contractual obligations through the next several fiscal years. The Company also anticipates that it will have the ability to obtain alternative sources of financing, if necessary.

The Company’s material cash requirements include contractual and other obligations arising in the normal course of business. These obligations primarily include debt service and related interest payments, operating lease obligations and other purchase obligations. The nature and composition of such existing cash requirements have not materially changed from those disclosed in the Annual Report other than items updated in this Quarterly Report.

As of January 31, 2024 and July 31, 2023, the Company had cash and cash equivalents of $639 million and $601 million, respectively. In addition to cash, the Company had $2.4 billion of available liquidity from undrawn debt facilities as of January 31, 2024.

As of January 31, 2024, the Company’s total debt was $3.7 billion. The Company anticipates that it will be able to meet its debt obligations as they become due.

Net cash provided by operating activities was $863 million for the year-to-date period of fiscal 2024 compared to $1,171 million in the same period in fiscal 2023. The $308 million decrease was primarily driven by changes in inventory period over period. In fiscal year 2024, inventory levels have stabilized in line with customer demand compared to fiscal year 2023 where inventory was decreasing to normalized levels following periods of supply chain disruption. The decreases in cash flow were partially offset by a year-over-year decrease in cash taxes, as well as improved cash collections of receivables.

Net cash used in investing activities was $231 million for the year-to-date period of fiscal 2024 compared to $425 million in the same period in fiscal 2023.

Capital expenditures totaled $192 million and $242 million for the year-to-date period of fiscal 2024 and fiscal 2023, respectively. These investments were primarily for strategic projects to support future growth, such as new market distribution centers, our branch network and new technology. In addition, the Company invested $67 million and $179 million in new acquisitions for the year-to-date period of fiscal 2024 and fiscal 2023, respectively.