Hurco Companies, Inc. — Q2 FY2019 Form 10-Q
Reporting period: Fiscal quarter and six months ended April 30, 2019. Hurco designs, manufactures, and sells CNC machine tools and related software, parts, and services. Figures below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Financial performance
| Metric | Q2 FY2019 | Q2 FY2018 | Six months FY2019 | Six months FY2018 |
|---|---|---|---|---|
| Sales and service fees | $70.7 | $70.4 | $144.9 | $138.9 |
| Gross profit / margin | $21.6 / 31% | $19.3 / 27% | $43.8 / 30% | $39.4 / 28% |
| Operating income | $7.5 | $6.0 | $15.8 | $13.1 |
| Net income | $5.3 | $3.8 | $11.9 | $6.7 |
| Diluted EPS | $0.76 | $0.55 | $1.73 | $0.98 |
| Operating cash flow | $2.4 | ($1.0) | ($1.6) | $13.5 |
- Q2 sales were nearly flat, while six-month sales rose 4%. Foreign currency translation reduced sales by $3.0 million in Q2 and $5.7 million for the six-month period.
- Higher gross margins and operating income reflected a mix shift toward larger, higher-priced vertical milling machines and contribution from a U.S. distributor acquired in Q4 FY2018. SG&A rose to $14.1 million in Q2 and $28.0 million year to date, including acquisition-related costs and higher compensation and marketing expense.
- Six-month effective tax rate was 29%, versus 48% a year earlier, primarily because the prior-year period included $2.9 million of one-time Tax Reform Act charges. Q2 rates were 32% and 31%, respectively.
- Six-month operating cash flow was negative despite higher earnings, with cash uses including a $10.6 million increase in inventories and reductions in accounts payable and accrued expenses. Cash declined $7.0 million from October 31, 2018.
Liquidity, debt, and balance sheet
- At April 30, 2019, cash and cash equivalents were $70.2 million, working capital was $205.1 million, and total shareholders’ equity was $234.0 million. Cash was $77.2 million and working capital $194.6 million at October 31, 2018.
- There were no borrowings under the company’s credit facilities and $51.4 million of available borrowing capacity. The main unsecured revolving facility provides up to $40.0 million and matures December 31, 2020. Hurco reported covenant compliance.
- Capital expenditures and software development costs totaled $2.3 million in the first six months and were funded with cash on hand. Dividends paid were $0.23 per share year to date, compared with $0.21.
- Inventory increased to $148.7 million from $137.6 million; finished goods rose to $89.0 million from $76.5 million. Approximately 53% of cash was denominated in U.S. dollars, with the remainder held in foreign currencies.
Material changes and management commentary
- Q2 orders fell 16% year over year to $67.2 million; six-month orders fell 14% to $135.2 million. The declines were concentrated in Europe and Asia Pacific, reflecting lower demand for Hurco and Takumi machines, including in China. Americas orders increased 9% for the six-month period.
- Q2 sales by region were up 10% in the Americas, essentially flat in Europe, and down 17% in Asia Pacific. For the six months, Americas sales rose 24%, while Europe declined 4% and Asia Pacific declined 8%.
- Management said cash and available borrowing capacity were adequate for operations over the next twelve months and supported its strategic plan for product innovation and targeted expansion in developing markets. The company continued reviewing potential acquisitions and asset purchases. No quantified earnings or revenue guidance was provided.
- Hurco adopted ASC 606 on November 1, 2018 using the modified retrospective method; management said adoption did not affect retained earnings or the financial statements. Adoption of the new lease standard was being assessed for fiscal 2020.
Risks, contingencies, and unusual items
- Risks include the cyclical machine-tool market, uncertain economic conditions, international operations, foreign-exchange exposure, dependence on a limited number of manufacturing and supply sources, tariffs and other government actions, raw-material costs, competition, and product-development and technology risks.
- Foreign exchange is a significant exposure: 63% of six-month revenue came from customers outside the Americas. Hurco used forward contracts with a reported U.S.-dollar equivalent notional value of $127.5 million at April 30, 2019.
- Twenty-four third-party customer-financing guarantees totaled approximately $0.6 million; accrued guarantee liabilities were described as insignificant. The warranty reserve was $2.3 million, versus $2.3 million a year earlier; management attributed the year-over-year increase primarily to higher unit sales.
- The company reported ordinary-course legal claims and did not expect them to have a material adverse effect. It stated there were no material changes to previously disclosed risk factors, and no material changes in internal control over financial reporting.
Important facts for investors to verify
- Whether the sharp order declines in Europe and Asia Pacific continue, and how they translate into future shipments and revenue.
- Whether improved gross margins persist as sales mix and distributor-related contributions change.
- Inventory levels and operating cash conversion, given the first-half cash outflow from operations.
- Foreign-exchange effects on reported results and the extent to which forward contracts offset exposures.
- Liquidity and covenant headroom, including the availability and terms of the credit facilities as they approach maturity.