Friedman Industries, Inc. — Form 10-Q Summary
Reporting period: Second fiscal quarter and six months ended September 30, 2022. The filing was signed December 2, 2022. Friedman processes and manufactures steel products through its Coil and Tubular segments.
Financial performance and position
| Metric | Three months ended September 30, 2022 | Six months ended September 30, 2022 | Comparable 2021 period |
|---|---|---|---|
| Net sales | $149.7 million | $311.5 million | $92.6 million quarter; $158.5 million six months |
| Gross profit / margin | $4.7 million / 3.1% | $23.4 million / 7.5% | $29.7 million / 32.1% quarter; $47.0 million / 29.7% six months |
| Operating earnings (loss) | $(0.6) million | $11.3 million | $24.3 million quarter; $38.3 million six months |
| Net earnings | $2.5 million | $13.7 million | $13.2 million quarter; $24.5 million six months |
| Diluted earnings per share | $0.34 | $1.88 | $1.91 quarter; $3.55 six months |
| Cash from operating activities | Not separately reported | $54.7 million | $(24.6) million six months |
Second-quarter sales increased about 62% year over year, while six-month sales nearly doubled. The increase primarily reflected Plateplus facilities and inventory acquired April 30, 2022, and higher sales volumes. Despite volume growth, profit fell sharply as steel prices declined and margins compressed. Excluding recognized hedge effects, physical-material gross margin was about 4.1% for the quarter and 8.1% for the six-month period, versus 24.9% and 26.8%, respectively, in 2021.
Other income included derivative gains not designated for hedge accounting of $3.7 million for the quarter and $6.5 million for six months. These gains materially supported reported pretax results; the 2021 comparable periods included derivative losses. The company also recorded approximately $1.2 million of Plateplus transaction expenses in the six-month period.
At September 30, cash was $6.6 million; cash and restricted cash totaled $8.9 million, including $2.2 million held as collateral for derivatives. Working capital was $89.6 million and the current ratio was 2.3. Inventory was $88.6 million, up from $67.9 million at March 31, primarily reflecting the acquisition. Total liabilities were $105.2 million and stockholders’ equity was $106.7 million.
ABL borrowings were $36.2 million at quarter-end, at a reported applicable rate of 3.04%; the borrowing base supported access to approximately $114 million. The facility has a $150 million commitment, matures May 19, 2026, and is secured by substantially all company assets. Management stated that cash, operating cash flows, and borrowing capacity should cover expected requirements for the next 12 months. Interest expense for the six-month period was $1.1 million.
Business changes and segment developments
- Plateplus acquisition: Friedman acquired assets and certain liabilities of Plateplus’ East Chicago and Granite City facilities, plus specified inventory at other locations, for total consideration of approximately $76.5 million: $71.7 million cash and $4.8 million in 516,041 Friedman shares. The acquisition expanded the company’s Midwest footprint. Acquired-facility sales were approximately $123 million and operating earnings approximately $5.7 million in the six-month period. Purchase-price fair values remain provisional; no goodwill was recorded.
- Coil: Six-month sales were $272.6 million versus $131.0 million. Segment operating profit declined to $12.4 million from $37.5 million. The acquired facilities and inventory contributed significantly to volume, but lower steel prices and compressed margins weighed on results.
- Tubular: Six-month sales were $38.9 million versus $27.5 million, and segment operating profit was $5.4 million versus $4.6 million. The company sold out of mill reject pipe during the quarter ended June 30, 2022 and is focusing on manufactured pipe to offset the loss of that product stream.
- Sinton facility: The new coil-processing facility began operations in October 2022. Project cost was estimated at $22 million, with $22.0 million in construction in process at September 30. Management expects a ramp-up during the remainder of fiscal 2023 and annual shipments of 110,000–140,000 tons in fiscal 2024.
Outlook, risks and controls
Management expected approximately 105,000 tons of sales volume in fiscal third-quarter 2023, slightly below the second quarter due mainly to holidays. It anticipated slight margin improvement and a benefit from hedging. Following domestic steel producers’ late-November price increase announcements, management said margins could improve entering the fourth quarter if increases were accepted, with further improvement possible if additional increases were announced. These are expectations, not guarantees.
Key exposures include volatile hot-rolled coil prices, forecast accuracy for purchases and sales underlying hedges, and reliance on a limited number of suppliers in both segments. Derivative positions can create market and counterparty risk; at September 30, the company had 5,160 tons of long and 41,460 tons of short positions in non-designated futures. Approximately $2.0 million of net losses in accumulated other comprehensive income were expected to be reclassified into earnings within 12 months.
Disclosure controls were reported ineffective at period-end. Previously identified material weaknesses included insufficiently designed or documented controls, inadequate precision in management reviews, incomplete or inaccurate control reports, and inadequate segregation of duties. The company added accounting personnel, hired an internal-control professional, and began integrating Plateplus’ ERP system; management said weaknesses will not be considered remediated until corrective controls operate effectively for a sufficient period. The filing also notes that the company’s annual report and this quarterly report were filed late.
Investor verification priorities
- Track whether steel-price movements, inventory economics, and hedging results improve margins, and distinguish operating performance from derivative gains or losses.
- Verify Plateplus integration, the final purchase-price allocation, acquired-facility profitability, and the Sinton ramp-up and shipment targets.
- Monitor ABL borrowings, borrowing-base availability, interest rates, and compliance with the springing fixed-charge coverage covenant.
- Confirm remediation and sustained effectiveness of internal controls, and review the timeliness of subsequent SEC filings.
- Assess the effect of the discontinued mill reject pipe stream and continued supplier concentration on Tubular and Coil operations.