FLXS

Business Context and Reporting Period

Company: Flexsteel Industries, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Quarter and six months ended December 31, 2010 (Fiscal Year 2011)
Business Overview: Flexsteel is a major manufacturer, importer, and marketer of residential and commercial upholstered and wooden furniture. The company operates through its primary brand and a wholly-owned subsidiary, DMI Furniture, Inc., which focuses on office furniture.

Key Financial Metrics

Amounts in thousands, except per share data.

Cash Flow (Six Months Ended Dec 31, 2010):
- Net cash provided by operating activities: $242
- Net cash used in investing activities: $(732)
- Net cash used in financing activities: $(628)
- Net decrease in cash: $(1,118)

Material Changes vs. Prior Comparable Period

• Revenue: Net sales for the quarter decreased 1% to $82.8 million compared to $83.5 million in the prior year. However, for the six-month period, sales increased 7% to $170.1 million, driven by an 8% increase in residential sales.
• Profitability: Net income for the quarter declined 28% to $2.1 million from $3.0 million in the prior year. For the six-month period, net income increased slightly to $4.5 million from $4.3 million.
• Margins: Gross margin percentage decreased to 22.7% for the quarter and 22.6% for the six months, down from 24.0% and 22.9% respectively in the prior year. This was primarily due to inventory write-downs associated with a facility closure.
• Operating Expenses: Selling, general, and administrative (SG&A) expenses increased slightly as a percentage of sales for the quarter (18.7% vs 18.3%) but improved for the six-month period (17.9% vs 18.4%) due to better absorption of fixed costs.
• Facility Closing: The company recorded $1.0 million in pre-tax facility closing costs during the six-month period, including $0.6 million in employee separation costs and $0.4 million in other costs. A $0.6 million inventory write-down was also recorded in the quarter.

Guidance, Outlook, and Risks

• Outlook: Management notes a strong backlog at the start of the fiscal year contributed to sales growth. However, the residential incoming order rate slowed in the first quarter, improving slightly in the second. Commercial sales remain at low levels with no significant improvement anticipated for the second half of fiscal 2011.
• Pricing Pressures: The company is observing pricing pressures on raw materials and finished products. The impact on gross margins remains undetermined.
• Liquidity: The balance sheet is strong with working capital exceeding $95 million and no bank borrowings. Management believes current cash and credit arrangements are adequate for operating and capital requirements.
• Risks: Key risks include the cyclical nature of the furniture industry, raw material costs (steel, fuel), foreign currency fluctuations, import tariffs, and general economic conditions. The company has no material foreign currency exposure as it does not have sales or expenses denominated in foreign currencies.
• Dividends: Dividends declared were $0.075 per share for the quarter and $0.15 per share for the six months.

Investor Verification Checklist

• Facility Closure Impact: Verify the completion status of the manufacturing facility closure and the remaining $0.3 million liability included in current liabilities.
• Inventory Levels: Review the $5.3 million increase in inventory over the six-month period and its impact on working capital and cash flow.
• Commercial Segment Performance: Monitor the commercial furniture segment, which saw an 8% decline in quarterly sales and remains at low levels.
• Raw Material Costs: Track the impact of inflationary pressures on steel and fuel costs on future gross margins.
• Credit Covenants: Confirm continued compliance with the credit agreement covenants, specifically the interest coverage ratio (3.0 to 1.0) and working capital requirement ($60 million).