Omega Flex, Inc. — Form 10-Q Summary
Business context and reporting period
Omega Flex manufactures and sells flexible metal hose, corrugated tubing, proprietary fittings and accessories for residential, commercial, industrial, healthcare and other applications. Products are manufactured in Exton, Pennsylvania and Banbury, United Kingdom, and sold primarily through distributors, wholesalers and OEMs in North America and Europe. The filing covers the unaudited three and six months ended June 30, 2018, compared with the corresponding 2017 periods.
Financial performance and position
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net sales | $26.847 million | $23.805 million | $52.244 million | $49.412 million |
| Gross profit | $16.214 million | $14.142 million | $31.247 million | $29.478 million |
| Gross margin | 60.4% | 59.4% | 59.8% | 59.7% |
| Operating profit | $6.358 million | $4.435 million | $11.858 million | $10.639 million |
| Operating margin | 23.7% | 18.6% | 22.7% | 21.5% |
| Net income attributable to Omega Flex | $4.776 million | $3.034 million | $8.939 million | $7.172 million |
| Basic and diluted EPS | $0.47 | $0.30 | $0.89 | $0.71 |
For the six months ended June 30, 2018, operating cash flow was $6.087 million versus $4.355 million in the prior-year period. Capital expenditures were $0.708 million versus $2.862 million, while dividends paid were $4.931 million versus $8.578 million. Cash and cash equivalents were $38.504 million at June 30, 2018, compared with $37.938 million at December 31, 2017.
Total assets were $75.603 million and total liabilities were $15.585 million at June 30, 2018. Shareholders’ equity was $60.018 million. The company had no borrowings under its unsecured $15.0 million revolving credit facility, which matures December 1, 2022, and was in compliance with its debt covenants. Management stated that existing cash and cash equivalents should be sufficient for anticipated needs for at least the next twelve months.
Material changes versus the prior comparable periods
- Second-quarter sales increased 12.8%, primarily from unit growth and, to a lesser extent, higher selling prices. First-half sales increased 5.7%.
- Second-quarter operating profit increased 43.4%; first-half operating profit increased 11.5%. Margin expansion reflected lower general and administrative costs, including lower legal and product-liability defense costs.
- Engineering expense increased 28.8% in the second quarter and 28.1% for the first half, primarily due to experimental materials and development of the MediTrac medical tubing product.
- First-half income tax expense declined 13.3% to $2.948 million, primarily reflecting the lower U.S. corporate tax rate under the Tax Cuts and Jobs Act, partially offset by higher pre-tax income and GILTI-related effects.
- Other long-term assets declined by $1.747 million from year-end, primarily because a $1.6 million litigation-related cash bond was returned in May 2018.
- The company adopted ASC Topic 606 using the modified retrospective method effective January 1, 2018. Management reported no material impact on the financial statements.
Guidance, outlook, risks and unusual items
The filing does not provide numerical financial guidance or a formal full-year outlook. Management expects existing liquidity to satisfy anticipated cash needs for at least twelve months, while noting that future capital requirements may depend on revenue growth, expansion, acquisitions and capacity investments.
- Pending product-liability litigation, including claims related to potential lightning damage to flexible gas piping, remains a material contingency. Management cannot estimate ultimate liability. Insurance generally covers claims subject to deductibles or retentions of approximately $25,000 to $1.0 million per claim; aggregate potential exposure within applicable retentions was estimated at approximately $3.8 million. Recorded liabilities were $160,000 at June 30, 2018.
- A putative class-action case re-filed in Missouri is being defended after removal to federal court. The company states that it believes the claims lack merit.
- One customer represented more than 10% of net sales and accounts receivable in the reported periods. Sales are also concentrated in the United States.
- Foreign-currency fluctuations, particularly involving the British pound, affect other income or expense and accumulated comprehensive income. The company does not use currency hedges.
- The company plans to adopt ASC Topic 842, Leases, on January 1, 2019. It expects additional right-of-use assets and lease liabilities, but had not quantified the impact at filing.
- The phantom stock liability was $2.036 million at June 30, 2018, and compensation expense was $0.444 million for the first six months. Future expense may fluctuate with the company’s stock price.
Important facts for investors to verify
- Whether sales growth and operating-margin expansion continue beyond the second quarter, particularly given increased engineering spending.
- The ultimate outcome and cash cost of product-liability and class-action litigation, including insurance coverage and retention exposure.
- The sustainability of quarterly dividends relative to operating cash flow and potential capital requirements.
- The effect of customer concentration, construction and industrial-market conditions, and foreign-exchange movements on revenue and earnings.
- The quantified balance-sheet impact of adopting lease accounting under ASC Topic 842 in 2019.
- Changes in phantom stock compensation expense and related cash obligations as the share price changes.