EBF

Business Context and Reporting Period

Company: ENNIS, INC.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: August 31, 2010
Business Overview: Ennis, Inc. operates in two primary segments: the Print Segment (manufacturing business forms and printed products) and the Apparel Segment (manufacturing activewear, primarily t-shirts, under the Alstyle brand). The company distributes products primarily through independent dealers in North America.

Key Financial Metrics

All figures in thousands, except per share data.

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 3.8% for the quarter and 5.7% for the six-month period compared to the prior year. This growth was driven by the Apparel Segment, which saw sales rise 15.6% (quarter) and 19.4% (six months), offsetting a decline in the Print Segment (down 6.5% and 6.0%, respectively).
• Profitability Expansion: Net earnings increased 27.1% for the quarter and 55.6% for the six-month period. Operating income rose 22.0% (quarter) and 47.4% (six months).
• Margin Improvement: Gross profit margins improved significantly, rising from 26.0% to 27.8% for the quarter and from 24.9% to 28.9% for the six-month period. This was attributed to operational efficiencies and favorable product mix in the Apparel segment, despite rising raw material costs.
• Capital Expenditures: Investing cash outflows surged 301% year-over-year to $23.2 million for the six months ended August 31, 2010, primarily due to construction of a new manufacturing facility in Agua Prieta, Mexico.

Guidance, Outlook, and Risks

• Apparel Segment Outlook: Management expects the new Agua Prieta facility to begin operations in the coming quarters. While the facility is projected to generate $10.0 million to $15.0 million in annualized cost savings once fully operational, the ramp-up phase is expected to incur $6.0 million to $8.0 million in start-up costs, negatively impacting fiscal 2011 results.
• Raw Material Risks: Cotton prices remain at high levels due to supply shortages. While the company has locked in a significant portion of its cotton requirements for the year, there is uncertainty regarding the ability to pass these costs to customers. Paper prices for the Print segment have also increased.
• Economic Environment: The company faces ongoing challenges from a volatile economic climate, including high unemployment and price competition, particularly in the Print segment where digital technology continues to erode demand for traditional forms.
• Liquidity: The company maintains a $150.0 million revolving credit facility with approximately $107.5 million available as of August 31, 2010. Management believes cash flows and credit availability are sufficient to fund operations and the new facility construction.

Investor Verification Checklist

• Apparel Facility Ramp-Up: Monitor the timeline and cost efficiency of the new Agua Prieta, Mexico facility to ensure start-up costs remain within the projected $6.0M-$8.0M range.
• Commodity Price Pass-Through: Verify the company's ability to pass increased cotton and paper costs to customers without losing market share in a competitive environment.
• Print Segment Decline: Assess the rate of decline in the Print Segment due to digital substitution and whether new product lines (e.g., secure documents, custom labels) are successfully offsetting volume losses.
• Inventory Levels: Review inventory build-up in the Apparel segment ($8.8 million increase in cash usage) to ensure it aligns with sales growth and does not lead to future write-downs.
• Debt Covenants: Confirm continued compliance with the credit facility covenants, specifically the total funded debt to EBITDA ratio, especially as capital expenditures remain high.