Virco Mfg. Corporation — Q2 FY2019 Form 10-Q
Reporting period: Three and six months ended July 31, 2018; fiscal year ends January 31. Virco manufactures and distributes school and office furniture. Results are highly seasonal: management says about half of annual sales typically ship from June through August, requiring substantial inventory and receivables financing.
Financial performance
| Metric | Three months ended July 31, 2018 | Six months ended July 31, 2018 |
|---|---|---|
| Net sales | $74.8 million; up 3% year over year | $97.4 million; up $1.5 million year over year |
| Gross profit / margin | $27.1 million / 36.3%, versus 36.7% | $34.8 million / 35.8%, versus 36.6% |
| Operating income | $8.4 million, essentially flat | $3.8 million, down from $5.1 million |
| Interest expense, net | $0.8 million, versus $0.5 million | $1.3 million, versus $0.8 million |
| Net income | $5.5 million, versus $5.0 million | $1.9 million, versus $2.8 million |
| Diluted EPS | $0.35, versus $0.33 | $0.12, versus $0.18 |
| Operating cash flow | Cash used of $31.2 million in the six months, versus $24.8 million used a year earlier |
At July 31, cash was $1.1 million. Current assets were $108.0 million and current liabilities $73.9 million. Total debt was $51.0 million, including $43.9 million drawn on the revolving facility and $7.1 million of other debt. The revolving facility’s stated interest rate was 6.25%; approximately $15.6 million remained available to borrow. The company declared a quarterly dividend of $0.015 per share.
Changes and management commentary
- Quarterly sales growth reflected higher prices, partly offset by slightly lower volume. Six-month sales also increased primarily on pricing, despite lower volume.
- Quarterly orders rose about 7.6% year over year; six-month order rates rose about 9.5%. Backlog at July 31 was $60.1 million, versus $47.3 million a year earlier. Management said some deliveries shifted into August, moving revenue from Q2 to Q3.
- Margins were pressured by higher steel, oil-related plastic and other material costs, which price increases did not fully offset, and by a greater share of lower-margin resale products in full-service projects. Management said these factors may continue to affect margins.
- Higher interest expense reflected the Conway, Arkansas facility mortgage, increased seasonal inventory borrowing, and higher rates. Six-month SG&A also increased, including variable service costs and a pension settlement charge.
Liquidity, outlook and risks
Seasonal growth in receivables and inventory drove the operating cash outflow: receivables rose $32.7 million from January 31 and inventory rose $18.2 million. Financing activities provided $33.5 million, primarily from debt proceeds, partly offset by repayments and dividends. Capital expenditures were $1.7 million, down from $3.9 million; management said spending on factory automation and technology is expected to increase.
The PNC revolving facility was extended to March 19, 2023, and its maximum availability increased to $60 million, subject to borrowing-base limits and seasonal adjustments. The company reported compliance with its July quarter covenant: EBITDA of $7.124 million versus a $6.402 million minimum. A minimum fixed-charge coverage ratio of 1.10 begins with the four-quarter period ending October 31, 2018. Management expects operating cash flow and unused facility capacity to cover the next 12 months’ needs and expects to meet a required 30-day borrowing reduction below $8 million during Q4 2019.
Key risks include materials and labor availability and costs, demand and funding at educational institutions, pricing and competition, and variable-rate borrowing. A 100-basis-point increase in PNC’s base rate would have added approximately $114,000 to quarterly interest expense and $175,000 to six-month expense. The company expects adoption of the new lease standard to materially increase reported assets and liabilities. It reported ordinary-course legal matters not expected to be material and an ongoing IRS examination of its fiscal 2016 federal return.
Unusual items and other disclosures
- A $319,000 pension settlement loss was recorded in SG&A. Pension remeasurement generated an actuarial loss recorded in other comprehensive income; six-month comprehensive income was $0.6 million versus $3.1 million a year earlier.
- Income tax expense was lower than the prior year, primarily due to the reduced federal tax rate. The company continued to refine provisional Tax Act accounting; it reported no material adjustment through July 31.
- Revenue recognition standard adoption had no material financial impact. Disclosure controls were reported effective, with no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether the elevated backlog converted to shipments and revenue after July 31, especially deliveries shifted into August.
- Whether price increases and sourcing or production actions offset continued commodity and resale-mix pressure on gross margins.
- Seasonal collections, inventory conversion, borrowing-base availability and compliance with the new fixed-charge coverage covenant.
- The pace and funding of planned automation and technology capital spending, and the effect of lease-standard adoption on balance-sheet measures.
- Any changes to the provisional tax accounting, pension obligations, or outcome of the IRS examination.