Lakeland Industries, Inc. — Form 10-Q Summary
Business context and reporting period
Lakeland manufactures and sells protective safety garments and accessories for industrial, governmental and public-safety customers. The filing covers the three months ended April 30, 2015, the first quarter of fiscal 2016, with comparative results for the three months ended April 30, 2014. Comparative results were restated to present Brazil as discontinued operations.
On April 29, 2015, the Board approved a plan to exit the Brazilian market. The proposed transfer of the Brazilian subsidiary was expected during the second quarter of fiscal 2016, subject to a definitive agreement and other conditions.
Key financial metrics
| Metric | Q1 FY2016 | Q1 FY2015 | Change |
|---|---|---|---|
| Net sales from continuing operations | $24.819 million | $21.758 million | Up 14% |
| Gross profit | $9.279 million | $6.505 million | Up 43% |
| Gross margin | 37.4% | 29.9% | Up 750 basis points |
| Operating expenses | $6.059 million | $5.647 million | Up 7% |
| Operating profit | $3.220 million | $0.858 million | Up $2.362 million |
| Operating margin | 13.0% | 4.0% | Up 900 basis points |
| Income from continuing operations | $2.160 million | $0.354 million | Up $1.806 million |
| Loss from discontinued operations | $(0.931) million | $(0.354) million | Loss increased |
| Net income | $1.229 million | Improved | |
| Diluted EPS | $0.17 | $(0.00) | Improved |
Sales growth was concentrated in the United States and the United Kingdom, particularly disposable and chemical products associated with the company’s response to the Ebola crisis. International sales from continuing operations increased to $11.98 million from $9.56 million.
Cash used in operating activities was $1.547 million, compared with $1.530 million of cash provided in the prior-year quarter. Cash usage primarily reflected higher inventory, accounts receivable and material prepayments. Capital expenditures were $0.307 million, compared with $0.088 million in the prior-year quarter.
Cash and cash equivalents were $8.721 million at April 30, 2015, compared with $6.709 million at January 31, 2015. Working capital was approximately $43.8 million. Inventory increased to $39.495 million from $37.092 million, and accounts receivable increased to $14.769 million from $13.277 million.
Total assets were $99.530 million and total liabilities were $34.615 million at April 30, 2015. Stockholders’ equity was $64.915 million.
Debt and liquidity
- The senior revolving credit facility had a $15 million commitment, $8.666 million outstanding and approximately $6.3 million of availability at April 30, 2015.
- The facility maturity was extended to June 28, 2017. The interest-rate margin was reduced to LIBOR plus 325 basis points, with a 4.25% floor; the stated rate at April 30, 2015 was 6.25%.
- Other continuing-operation borrowings included $3.446 million of short-term borrowings, $0.050 million of current long-term debt and $0.830 million of the long-term Canada loan.
- The accrued arbitration award balance was $3.750 million, payable in quarterly installments of $250,000 through December 31, 2018; $1.000 million was classified as current.
- Management stated that current revolver availability, anticipated operating cash flow and cash-management plans were sufficient for the next 12 months.
Material changes versus the prior comparable period
- Continuing-operations sales increased 14%, driven primarily by U.S. and U.K. Ebola-related demand. UK sales increased approximately 101%, while U.S. sales increased approximately 22%.
- Gross margin expanded because of price increases and steady costs in disposable and chemical products, improved reflective-product production in Mexico, and stronger U.K. product mix.
- Interest expense declined to $0.183 million from $0.486 million following repayment of subordinated debt and the October 2014 equity financing.
- Operating cash flow changed from positive $1.530 million to negative $1.547 million, reflecting inventory and receivables growth associated with higher expected sales volume.
- Brazilian discontinued-operations losses increased to $0.931 million from $0.354 million, primarily because cash constraints reduced sales volume.
- Revolver borrowings increased by approximately $3.0 million from January 31, 2015, in preparation for the Brazil restructuring. Cash increased by approximately $2.0 million, partly because cash was retained in China in anticipation of a dividend.
Guidance, outlook, risks and unusual items
- Management anticipated approximately $1.0 million of fiscal 2016 capital expenditures and no other material planned capital expenditures.
- The proposed Brazil exit was expected to require approximately $1.9 million of funding to the transferee and approximately $0.3 million of legal and accounting costs, for estimated pre-tax exit and disposal costs of approximately $2.2 million. Actual costs were not yet determinable.
- The company could remain exposed to Brazilian labor, VAT, litigation and other pre-closing liabilities after any transfer. Brazilian VAT claims remaining open totaled approximately $6.2 million, with the principal larger claim classified by management as probable; the filing states that the liability was recorded in discontinued operations.
- The company was current on the arbitration award payments but must continue quarterly payments through 2018.
- The company remained in compliance with its senior debt covenants at April 30, 2015. The covenants include a 1.1-to-1 fixed-charge coverage ratio, minimum rolling four-quarter EBITDA of $4.1 million excluding Brazil, and annual capital expenditures capped at $1.0 million.
- Disclosure controls and procedures were not effective as of April 30, 2015. Material weaknesses relating to Brazil and entity-level controls had not been fully remediated.
- Results benefited from Ebola-related demand and may not be indicative of full-year results. Key risks include demand volatility, inventory accumulation, foreign-currency movements, international operations, supplier concentration, covenant compliance and the company’s ability to fund Brazil-related obligations.
- The company recognized a tax benefit of approximately $9.5 million, net of a $2.9 million valuation allowance, from a claimed worthless-stock deduction related to the Brazil exit. The IRS could challenge the deduction.
Most important facts for investors to verify
- Whether the planned Brazil transfer was completed and the final exit costs, funding requirements and retained liabilities.
- Whether Ebola-related sales and margins were recurring or primarily a short-term demand event.
- Subsequent operating cash flow, inventory levels and accounts-receivable collections after the quarter-end buildup.
- Compliance with the senior credit facility’s fixed-charge coverage and EBITDA covenants as the Brazil restructuring proceeds.
- Payment capacity for the $3.75 million arbitration obligation and remaining Brazilian VAT claims.
- Remediation of the disclosed material weaknesses in internal controls.
- The IRS’s treatment of the claimed Brazil-related worthless-stock tax deduction.