LCI Industries / Drew Industries Incorporated — Q3 2016 Form 10-Q
Business context and reporting period. The filing is for the quarter ended September 30, 2016. The registrant was Drew Industries Incorporated, operating through Lippert Components (LCI). It supplies components to recreational vehicle (RV) and adjacent-industry original equipment manufacturers (OEMs), and to related aftermarket channels. The company reported under new OEM and Aftermarket segments in 2016; prior-period segment figures were presented on the new basis.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Net sales | $412.4 million | $345.3 million | $1,276.0 million | $1,068.8 million |
| Gross profit | $105.6 million | $74.1 million | $330.9 million | $232.6 million |
| Operating profit | $45.1 million | $27.2 million | $160.3 million | $92.6 million |
| Net income | $29.8 million | $17.3 million | $103.4 million | $58.2 million |
| Diluted EPS | $1.19 | $0.70 | $4.15 | $2.36 |
| Gross margin | 25.6% | 21.5% | 25.9% | 21.8% |
| Operating margin | 10.9% | 7.9% | 12.6% | 8.7% |
Year over year, Q3 sales rose 19%, net income 73%, and diluted EPS 70%. For the first nine months, sales rose 19%, net income 78%, and diluted EPS 76%. Management attributed stronger profitability to higher volume and fixed-cost absorption, lower costs for some materials, acquisitions, cost controls and favorable product mix; increased fixed costs, staffing and variable compensation partly offset these benefits.
- Q3 segments: OEM sales increased 19% to $375.9 million and operating profit was $39.0 million. Aftermarket sales increased 21% to $36.5 million and operating profit was $6.1 million.
- Nine-month segments: OEM sales rose 19% to $1,175.5 million; Aftermarket sales rose 31% to $100.5 million. Segment operating profit was $144.1 million and $16.2 million, respectively.
- OEM growth reflected higher RV shipments, market-share gains and acquisitions. Aftermarket growth reflected expanded sales teams and infrastructure. Acquisitions added $13 million of Q3 sales and $28 million of nine-month adjacent-industry sales, as cited in management’s discussion.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $164.1 million, compared with $44.8 million in 2015. The increase reflected higher earnings, inventory reduction and higher payables and accrued liabilities; management noted that the liability increase was primarily timing-related. Receivables were a larger use of cash.
- Investing cash outflow was $55.9 million, including $21.9 million of capital expenditures and $34.2 million for acquisitions. Financing cash outflow was $25.4 million, including $22.1 million of dividends.
- Cash was $95.1 million at September 30, 2016, versus $12.3 million at December 31, 2015. Long-term indebtedness was $49.9 million; the company had no line-of-credit borrowings at quarter-end. The debt comprised $50 million of fixed-rate notes at 3.35%.
- Credit-line availability was $197.5 million; additional shelf-loan availability was $100 million, subject to Prudential approval. The filing reported $297.5 million of combined remaining availability, excluding a possible further $125 million credit-line increase. The company said it was compliant with covenants and expected adequate funding for the next 12 months.
Outlook, changes and risks
- Management cited strong RV-industry conditions through the first nine months of 2016, including an 8% increase in retail sales of travel trailers and fifth-wheel RVs. RVIA projected 8% growth in 2016 and 1% growth in 2017 for wholesale shipments of those RVs. These are industry forecasts, not company revenue or earnings guidance; the filing gives no company-wide numerical sales or EPS forecast.
- For 2016, management estimated an effective tax rate of approximately 35%–36%, depreciation and amortization of $42–$47 million, stock compensation of $15–$17 million, and capital expenditures of $28–$32 million. Additional capital spending could be needed depending on growth and acquisitions.
- The company completed three acquisitions in 2016—Highwater Marine Furniture, Flair Interiors and Project 2000—and said they were accretive to earnings and integration was proceeding to plan. In October 2016, it agreed to acquire Atwood’s seating and chassis components business for $12.5 million in cash; closing was subsequent to the reporting date.
- Raw-material prices, particularly steel and aluminum, remained volatile and had begun rising from market lows. The company said historical price increases had partially offset cost increases, but future pass-through and timing were not assured. Other cited risks include industry seasonality and cyclicality, dealer inventories, consumer demand and credit, competition, labor availability, acquisition integration, and environmental and product-related obligations.
- The six-year Furrion distribution agreement’s first-year minimum purchase obligation was not achieved, primarily because anticipated new products were delayed. The parties were discussing revised purchase obligations and working to improve product availability. Furrion may have termination or exclusivity rights if future thresholds are missed under the agreement’s terms.
- Recorded contingent-consideration liability was $11.5 million, with estimated remaining payments of $14.0 million. Warranty liabilities and potential product recalls, environmental remediation and ordinary-course litigation are also disclosed. Management did not expect unprovided litigation exposure to be material to financial position or annual results.
Important facts for investors to verify
- How much of reported growth and margin expansion is sustainable absent acquisition contributions, lower material costs and favorable fixed-cost absorption.
- Whether operating cash flow remains strong when the timing-related increase in payables and accrued liabilities reverses; monitor receivables and inventory turns.
- Whether RV demand, dealer inventories and shipments support management’s outlook, and whether growth in aftermarket and adjacent industries continues.
- Progress on Furrion’s revised purchase commitments and product availability, plus integration and performance of recent acquisitions and the Atwood transaction.
- Exposure to commodity-cost increases, contingent acquisition payments, warranty/recall matters, and renewal of the undrawn shelf-loan facility, which expires February 24, 2017.