La-Z-Boy Incorporated — Fiscal 2018 Second-Quarter Form 10-Q
Reporting period: Quarter and six months ended October 28, 2017, compared with the periods ended October 29, 2016. The interim financial statements are unaudited. La-Z-Boy manufactures, imports, distributes and retails upholstered and casegoods furniture through Upholstery, Casegoods and Retail segments.
Financial Performance and Liquidity
| Metric | Q2 FY2018 | Q2 FY2017 | Six months FY2018 | Six months FY2017 |
|---|---|---|---|---|
| Sales | $393.2 million | $376.6 million | $750.3 million | $717.4 million |
| Operating income | $34.3 million | $33.9 million | $50.6 million | $56.3 million |
| Operating margin | 8.7% | 9.0% | 6.7% | 7.9% |
| Net income attributable to La-Z-Boy | $22.9 million | $20.8 million | $34.5 million | $34.6 million |
| Diluted EPS | $0.47 | $0.42 | $0.71 | $0.70 |
| Operating cash flow | Not separately provided | Not separately provided | $51.2 million | $54.1 million |
Q2 sales increased 4.4%, while six-month sales increased 4.6%. Q2 net income attributable to La-Z-Boy rose 9.9%, primarily aided by lower taxes; six-month net income was broadly flat. Effective tax rates were 30.8% and 32.5% for Q2 and the first six months, respectively, versus 36.1% and 35.9% in the comparable periods, including a $1.3 million benefit from prior-year research and development tax credits.
At October 28, 2017, cash and equivalents were $122.3 million, restricted cash was $2.4 million, and investments totaled $60.4 million. The company had no borrowings under its revolving credit facility and $142.1 million of excess availability under the $150.0 million commitment. Current and long-term debt totaled approximately $0.6 million.
Six-month cash flow included $37.1 million used in investing activities and $41.1 million used in financing activities. Capital expenditures were $16.4 million, acquisitions required $15.9 million, share repurchases were $30.7 million, and dividends paid were $10.6 million. Cash, cash equivalents and restricted cash declined by $26.2 million to $124.7 million.
Material Changes Versus the Prior Comparable Period
- Upholstery sales increased 3.0% in Q2 and 2.8% for six months, but operating income declined 12.5% and 17.5%, respectively. The segment was pressured by higher steel, polyurethane foam and wood costs, lower production volume and reduced fixed-cost absorption.
- Casegoods sales increased 8.4% in Q2 and 5.2% for six months; operating income increased 16.0% and 21.0%, supported by better in-stock availability, product styling, retailer floor expansion and lower SG&A leverage.
- Retail sales increased 8.7% in Q2 and 11.9% for six months, partly from acquired and newly opened stores. Comparable-store sales declined 1.3% in Q2 and 1.4% for six months, primarily because of lower traffic.
- Consolidated operating margin declined 0.3 percentage points in Q2 and 1.2 percentage points for six months. Gross margin declined 0.3 percentage points in both periods, mainly due to raw-material inflation and the absence of favorable legal settlements recorded in fiscal 2017.
- Share repurchases increased to $30.7 million from $19.8 million in the prior-year six-month period. Approximately 1.1 million shares were repurchased, with 7.6 million shares remaining under the authorization at October 28, 2017.
Outlook, Commentary, Risks and Unusual Items
- Management implemented an Upholstery price increase during Q2 and expects it to offset raw-material inflation beginning with products delivered late in Q3 and into Q4 of fiscal 2018.
- Fiscal 2018 capital expenditures are expected to be $45 million to $50 million, including approximately $14 million for the Innovation Center and approximately $4 million for the England corporate office and manufacturing expansion.
- Management stated that available cash, investments, operating cash flow and the credit facility are adequate for liquidity needs, growth initiatives, dividends and capital expenditures. The company expects to continue regular quarterly dividends and opportunistic share repurchases, subject to board decisions and cash generation.
- A $1.7 million insurance gain related to a fire at the England subsidiary’s corporate office reduced Q2 SG&A expense. A $2.2 million gain on conversion of an investment was recorded during the first six months.
- The company continues to appeal a civil judgment concerning royalties on certain powered motion furniture units. Amounts currently due have been fully reserved, but future sales remain subject to royalty charges and settlement discussions have not produced an agreement.
- The company expects no material change in its $0.9 million net liability for uncertain tax positions over the next 12 months. Proposed U.S. tax reform could require a write-off of part of deferred tax assets if enacted.
- Management identified consumer confidence, recessionary conditions, real estate and credit markets, commodity prices, import logistics, labor and supply disruptions, currency and tax changes, product defects and warranty costs, litigation, store expansion, e-commerce execution, technology failures and potential goodwill or intangible impairments as material risks.
- The company is implementing an ERP system, with sales order management implementation expected to finish by the end of fiscal 2018. Management concluded that disclosure controls were effective as of the period end.
Investor Verification Priorities
- Verify whether the Upholstery price increase offsets raw-material inflation and restores segment margins in the second half of fiscal 2018.
- Monitor comparable-store sales, traffic and conversion trends in the Retail segment, including the effect of acquired and newly opened stores.
- Reconcile cash usage from acquisitions, capital expenditures, dividends and share repurchases with operating cash flow and credit-facility availability.
- Track the royalty litigation appeal, potential future royalty charges and any settlement developments.
- Assess the impact of ERP implementation, e-commerce investments, Innovation Center spending and future operating-lease accounting on costs, controls and the balance sheet.