The Eastern Company — Q2 2014 Form 10-Q
Business context and period. The Eastern Company reported unaudited results for the quarter and six months ended June 28, 2014. Its segments are Industrial Hardware, Security Products, and Metal Products. Comparisons are with the periods ended June 29, 2013 unless noted.
Financial performance
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net sales | $34.8 million | $39.2 million | $70.6 million | $73.9 million |
| Gross margin | $7.8 million; 22.3% | $8.5 million; 21.7% | $15.3 million; 21.6% | $14.8 million; 20.0% |
| Operating profit | $2.8 million; 8.0% | $3.3 million; 8.4% | $5.1 million; 7.2% | $4.9 million; 6.6% |
| Net income | $1.7 million | $2.2 million | $3.2 million | $3.2 million |
| Diluted EPS | $0.27 | $0.35 | $0.51 | $0.51 |
| Operating cash flow | Not presented separately | Not presented separately | $3.1 million | $4.5 million |
Q2 sales fell about 11% and net income about 22%; first-half sales fell about 4.5%, while net income was nearly flat. First-half gross margin improved, which management attributed mainly to product mix and cost reductions associated with lower volume. Q2 gross margin dollars declined despite the higher percentage margin. Cash dividends were $0.11 per share in Q2 and $0.22 for the first half.
Financial position and liquidity
- At June 28, 2014, cash was $19.4 million, working capital was $59.2 million, and the current ratio was 5.5.
- Debt totaled approximately $5.4 million, including $1.8 million current and $3.6 million long-term; cash exceeded reported debt by approximately $14.0 million. Term-loan rates are fixed at 4.98% and 3.90%. The $10 million revolving facility was extended to July 1, 2016; the filing does not clearly state its unused availability.
- Operating cash flow of $3.1 million, capital expenditures of $1.6 million, debt payments of $0.7 million, and dividends paid of $1.4 million resulted in a $0.6 million decrease in cash during the half-year.
- Management expects 2014 capital expenditures of approximately $3.5 million, with about $410,000 of commitments outstanding at quarter-end. It said cash, operating cash flow, and revolving-credit resources should cover foreseeable working-capital needs and existing obligations.
- The company reported compliance with loan covenants. The amended agreement requires a fixed-charge coverage ratio of at least 1.1 to 1 and minimum tangible net worth of $55 million.
Material changes and segment performance
- Industrial Hardware: Sales decreased 8% in both Q2 and the first half. Lower demand for composite panels used in fracking, and lower distributor and military sales, were partly offset by gains in truck, off-highway, bus, and other markets and new products. First-half operating profit increased.
- Security Products: Sales fell 4% in Q2, primarily from lower computer-market volume, but rose 4% for the first half, supported by commercial laundry sales, selective price increases, and new products. First-half operating profit increased.
- Metal Products: Sales fell 26% in Q2 and 10% in the first half, mainly because of weaker mining demand. Contract-casting sales grew, including in solar and vehicle markets, but did not offset mining declines. Segment operating profit fell in the first half.
- Interest expense declined as debt decreased. The effective tax rate increased to 38% for Q2 and 36% for the first half, versus 33% in each 2013 period; management linked the increase partly to taxes on repatriation of about $2.8 million from foreign subsidiaries.
Outlook, risks, and unusual items
- No specific sales or earnings guidance was provided. Management cautioned that future revenue and margin trends cannot be reliably predicted.
- Management said raw-material prices were generally rising and could pressure margins if not offset by price increases and productivity improvements. The company reported no current indication of supply availability problems.
- Disclosed business risks include changing customer demand, competition, new-product performance, customer losses, foreign sourcing, economic and industry conditions, litigation, and legislation. A fracking customer’s exit from that business contributed to lower Industrial Hardware sales; weaker U.S. and Canadian mining demand weighed on Metal Products.
- On July 23, 2014, the board approved a one-time extra dividend of $0.04 per share, in addition to the regular $0.11 quarterly dividend for Q3.
- The company is participating in a voluntary Illinois remediation program concerning potential ground contamination at its Wheeling plant. The filing says no remediation-cost estimate was available.
- The company expects to adopt the new revenue-recognition standard in its applicable future reporting period but had not determined its impact. It did not expect the new discontinued-operations guidance to affect its statements absent future dispositions.
Important facts for investors to verify
- Whether lower sales, particularly in mining and fracking-related markets, persist and how they affect segment margins.
- Whether price actions and productivity improvements offset further raw-material cost increases.
- Accounts receivable rose to $18.3 million from $16.3 million at year-end; management attributed this to slower collections and did not expect higher bad debts.
- The eventual scope and cost, if any, of the Illinois environmental remediation.
- The amount of revolving-credit availability and the company’s ability to maintain covenant compliance while funding capital spending, pension contributions, and dividends.