We believe our financial condition continues to be of high quality, as evidenced by our ability to generate substantial cash from operations and ready access to capital markets at competitive rates.
Operating cash flow provides the primary source of funds to finance operating needs and capital expenditures. Excess operating cash is used first to fund shareholder dividends. Other discretionary uses include share repurchases and tack-on acquisitions to complement our portfolio of brands and geographies. As necessary, we may supplement operating cash flow with debt to fund these activities. The overall cash position of the Company reflects our strong business results and a global cash management strategy that takes into account liquidity management, economic factors and tax considerations.
Operating cash flow was $16.1 billion in 2010, an 8% increase versus the prior year. Operating cash flow resulted primarily from net earnings adjusted for non-cash items (depreciation and amortization, stock-based compensation, deferred income taxes and gain on the sale of businesses) and a reduction in working capital. The increase in operating cash flow was primarily due to the current year reduction in working capital balances, partially offset by a decline in earnings versus 2009. Working capital reductions contributed $2.5 billion to operating cash flow in 2010 mainly due to an increase in accounts payable, accrued and other liabilities. Accounts payable, accrued and other liabilities increased primarily due to increased expenditures to support business growth, primarily related to the increased marketing investments. Accounts receivable days were down year over year due mainly to the global pharmaceuticals divestiture and improved collection efforts. Inventory contributed to operating cash flow despite growth in the business due to a reduction in days on hand due primarily to inventory management improvement efforts. Cash flow from discontinued operations contributed $285 million to operating cash flow.
In 2009, operating cash flow was $14.9 billion, a decrease of 1% versus the prior year total of $15.0 billion. Operating cash flow resulted primarily from net earnings adjusted for non-cash items. The decrease in operating cash flow versus 2008 was primarily due to a decline in net earnings from continuing operations. A net decrease in working capital also added to cash flow as lower accounts receivable and inventory balances were partially offset by a decline in accounts payable. The decrease in working capital was primarily due to the impact of lower net sales and our ability to adequately adjust production to better meet unit volume requirements. Accounts receivable days declined primarily due to improved collection efforts. Inventory and accounts payable days declined due in part to the optimization of our manufacturing process and inventory levels and a moderation of commodity costs late in the year. Other operating assets and liabilities reduced cash flow primarily due to changes in postretirement benefit plans. Cash flow from discontinued operations contributed $662 million to operating cash flow.
Free Cash Flow. We view free cash flow as an important measure because it is one factor impacting the amount of cash available for dividends and discretionary investment. It is defined as operating cash flow less capital expenditures and is one of the measures used to evaluate senior management and determine their at-risk compensation. Free cash flow was $13.0 billion in 2010, an increase of 11% versus the prior year. Free cash flow increased due to higher operating cash flow and lower capital spending. Free cash flow productivity, defined as the ratio of free cash flow to net earnings, was 102% in 2010. This includes a negative 23% impact resulting from the global pharmaceuticals divestiture, which increased net earnings and lowered operating cash flow due to tax payments on the divestiture gain.
In 2009, free cash flow was $11.7 billion, compared to $12.0 billion in 2008. Free cash flow decreased as a result of higher capital spending and lower operating cash flow. Free cash flow productivity was 87% in 2009. This was below our 90% target primarily due to the gain on the Folgers coffee transaction which lowered productivity by approximately 15% because the gain is included in net earnings but had no material impact on operating cash flow.
Free Cash Flow Productivity
|Free Cash Flow Productivity
(% of net earnings)
Net investing activities consumed $597 million of cash in 2010 and $2.4 billion in 2009 mainly due to capital spending and acquisitions, partially offset by proceeds from asset sales, including $3.0 billion in cash received from the sale of our global pharmaceuticals business in 2010. Discontinued operations consumed $1 million of cash from investing activities in 2010 and contributed $69 million in 2009.
Capital Spending. We view capital spending efficiency as a critical component of our overall cash management strategy. We manage capital spending to support our business growth plans and have cost controls to deliver our cash generation targets. Our target for capital spending is 4% of net sales. Capital expenditures, primarily to support capacity expansion, innovation and cost savings, were $3.1 billion in 2010 and $3.2 billion in 2009. The decline in capital spending resulted primarily from cost control efforts and capacity expansion of our Family Care business in 2009, partially offset by the construction of new manufacturing facilities in 2010. Capital spending as a percentage of net sales improved 30 basis points to 3.9% in 2010 behind the scale leverage of net sales growth and a reduction in capital spending. Capital spending as a percentage of net sales in 2009 increased 40 basis points versus the prior year to 4.2% primarily due to capacity expansion of our Family Care business in North America as well as increased spending to support innovation in Beauty. Capital spending for our discontinued coffee and pharmaceuticals businesses was $1 million in 2010 and $11 million in 2009.
(% of net sales)
Acquisitions. Acquisitions used $425 million of cash in 2010 primarily for the acquisition of Natura, a holistic and naturals pet products company. In 2009, acquisitions used $368 million of cash mainly for the acquisition of Nioxin, a leader in the scalp care professional hair care market.
Proceeds from Asset Sales. Proceeds from asset sales contributed $3.1 billion to cash in 2010 mainly due to the sale of our global pharmaceuticals business. In 2009, proceeds from asset sales were $1.1 billion from the sale of our coffee business, Thermacare and a number of other minor brands. Of these proceeds, $350 million related to debt issued in connection with the Folgers coffee transaction. The underlying debt obligation was transferred to The J.M. Smucker Company pursuant to the transaction. No cash was received from Smucker in the exchange transaction. Proceeds from asset sales within discontinued operations were $81 million in 2009.
Dividend Payments. Our first discretionary use of cash is dividend payments. Dividends per common share increased 10% to $1.80 per share in 2010. Total dividend payments to both common and preferred shareholders were $5.5 billion in 2010 and $5.0 billion in 2009. The increase in dividend payments resulted from increases in our quarterly dividends per share, partially offset by a reduction in the number of shares outstanding. In April 2010, the Board of Directors declared an increase in our quarterly dividend from $0.44 to $0.4818 per share on Common Stock and Series A and B ESOP Convertible Class A Preferred Stock. This represents a 9.5% increase compared to the prior quarterly dividend and is the 54th consecutive year that our dividend has increased. We have paid a dividend in every year since our incorporation in 1890.
(per common share)
Long-Term and Short-Term Debt. We maintain debt levels we consider appropriate after evaluating a number of factors, including cash flow expectations, cash requirements for ongoing operations, investment and financing plans (including acquisitions and share repurchase activities) and the overall cost of capital. Total debt was $29.8 billion in 2010, $37.0 billion in 2009 and $36.7 billion in 2008. Our total debt decreased in 2010 mainly due to repayments funded by operating cash flow and cash provided by the global pharmaceuticals divestiture.
Treasury Purchases. In 2007, we began to acquire outstanding shares under a publicly announced three-year share repurchase plan, which expired on June 30, 2010. We acquired $22.3 billion of shares under this repurchase plan. Total share repurchases were $6.0 billion in 2010 and $6.4 billion in 2009, nearly all of which were made under the publicly announced plan. We currently expect share repurchases of $6 – 8 billion in 2011.
In November 2008, we completed the divestiture of our Folgers coffee subsidiary. In connection with this divestiture, 38.7 million shares of P&G common stock were tendered by shareholders and exchanged for all shares of Folgers common stock, resulting in an increase of treasury stock of $2.5 billion.
Our current liabilities exceeded current assets by $5.5 billion. We utilize short- and long-term debt to fund discretionary items such as acquisitions and share repurchases. We anticipate being able to support our short-term liquidity and operating needs largely through cash generated from operations. We have strong short- and long-term debt ratings which have enabled and should continue to enable us to refinance our debt as it becomes due at favorable rates in commercial paper and bond markets. In addition, we have agreements with a diverse group of financial institutions that, if needed, should provide sufficient credit funding to meet short-term financing requirements.
On June 30, 2010, our short-term credit ratings were P-1 (Moody’s) and A-1+ (Standard & Poor’s), while our long-term credit ratings are Aa3 (Moody’s) and AA- (Standard & Poor’s), both with a stable outlook.
We maintain three bank credit facilities: a $6 billion 5-year facility and a $3 billion 5-year facility which expire in August 2012 and a $2 billion 364-day facility which expires in August 2011. The credit facilities are in place to support our ongoing commercial paper program. These facilities can be extended for certain periods of time as specified in, and in accordance with, the terms of each credit agreement. We anticipate that these facilities will remain largely undrawn for the foreseeable future. These credit facilities do not have cross-default or ratings triggers, nor do they have material adverse events clauses, except at the time of signing. In addition to these credit facilities, we have an automatically effective registration statement on Form S-3 filed with the SEC that is available for registered offerings of short- or long-term debt securities.
Guarantees and Other Off-Balance Sheet Arrangements
We do not have guarantees or other off-balance sheet financing arrangements, including variable interest entities, which we believe could have a material impact on financial condition or liquidity.
The following table provides information on the amount and payable date of our contractual commitments as of June 30, 2010.
|($ millions)||Total||Less Than 1 Year||1 – 3 Years||3 – 5 Years||After 5 Years|
(1) As of June 30, 2010, the Company’s Consolidated Balance Sheet reflects a liability for uncertain tax positions of $2.5 billion, including $711 million of interest and penalties. Due to the high degree of uncertainty regarding the timing of future cash outflows of liabilities for uncertain tax positions beyond one year, a reasonable estimate of the period of cash settlement beyond twelve months from the balance sheet date of June 30, 2010, cannot be made.
(2) Operating lease obligations are shown net of guaranteed sublease income.
(3) Represents future pension payments to comply with local funding requirements. The projected payments beyond fiscal year 2013 are not currently determinable.
(4) Primarily reflects future contractual payments under various take-or-pay arrangements entered into as part of the normal course of business. Commitments made under take-or-pay obligations represent future purchases in line with expected usage to obtain favorable pricing. Approximately 45% relates to service contracts for information technology, human resources management and facilities management activities that have been outsourced. While the amounts listed represent contractual obligations, we do not believe it is likely that the full contractual amount would be paid if the underlying contracts were canceled prior to maturity. In such cases, we generally are able to negotiate new contracts or cancellation penalties, resulting in a reduced payment. The amounts do not include obligations related to other contractual purchase obligations that are not take-or-pay arrangements. Such contractual purchase obligations are primarily purchase orders at fair value that are part of normal operations and are reflected in historical operating cash flow trends. We do not believe such purchase obligations will adversely affect our liquidity position.
|Total debt||$29,283||$ 8,429||$5,215||$4,611||$11,028|
|Uncertain tax positions(1)||127||127||—||—||—|
|Interest payments relating to long-term debt||10,292||922||1,745||1,413||6,212|
|Minimum pension funding(3)||1,298||441||857||—||—|
|Total Contractual Commitments||45,609||11,141||9,441||6,814||18,213|