Art’s-Way Manufacturing Co., Inc. — Form 10-Q Summary
Reporting period: Quarterly and year-to-date periods ended August 31, 2013. Financial statements are unaudited. Art’s-Way manufactures agricultural equipment, pressurized vessels, and modular buildings through three reportable segments. The company acquired Agro Trend on June 25, 2013 and acquired Ohio Metal Working Products after the reporting date, on September 30, 2013.
Financial Performance and Position
| Metric | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Net sales | $9.350 million | $11.534 million | $27.016 million | $29.531 million |
| Gross profit | $1.728 million | $3.424 million | $6.662 million | $8.058 million |
| Gross margin | 18.5% | 29.7% | 24.7% | 27.3% |
| Operating income | $54,000 | $1.607 million | $1.566 million | $3.463 million |
| Income before taxes | $49,000 | $1.495 million | $2.020 million | $3.189 million |
| Net income | $26,000 | $979,000 | $1.360 million | $2.109 million |
| Basic and diluted EPS | $0.01 | $0.24 | $0.34 | $0.52 |
Cash flow: Nine-month cash provided by operations was $696,000, compared with $2.208 million in the prior-year period. Investing activities used $161,000, including $685,000 of capital expenditures and $311,000 for the Agro Trend acquisition, partially offset by $836,000 of property-sale proceeds. Financing activities used $649,000, primarily because of $908,000 of term-debt repayments. Cash declined by $113,000 to $1.434 million.
Balance sheet and liquidity: Total assets were $30.384 million at August 31, 2013, compared with $31.229 million at November 30, 2012. Current assets were $19.299 million, including $13.695 million of inventory and $2.464 million of receivables. Total liabilities were $11.892 million, and stockholders’ equity was $18.492 million. Total term debt was $7.787 million, including $1.229 million current and $6.557 million long-term. The company had no balance outstanding on its $8.0 million revolving credit line at August 31, 2013.
Material Changes Versus Prior Comparable Period
- Third-quarter sales decreased 18.9%; nine-month sales decreased 8.5%.
- Third-quarter gross margin fell to 18.5% from 29.7%, primarily reflecting higher consumables spending, inventory write-downs, labor inefficiency, and lower modular-building volume relative to fixed overhead.
- Third-quarter net income fell 97.3% to $26,000. Nine-month net income declined 35.5% to $1.360 million.
- Agricultural-products sales increased 12.7% year-to-date, supported by Universal Harvester and self-propelled beet-harvester sales, but the segment’s year-to-date gross margin declined to 24.3% from 28.8% because of labor inefficiency.
- Pressurized-vessel sales increased 10.5% year-to-date, and gross margin improved to 10.0% from 5.9%.
- Modular-building sales decreased 66.6% year-to-date because major 2012 fabrication and installation contracts were substantially completed. Year-to-date gross margin improved to 37.3% from 27.6%, but third-quarter margin fell to 10.1% from 37.4% because of lower volume and steady overhead.
- Selling and engineering expenses increased, while third-quarter administrative expense decreased because of lower bonus accruals. Year-to-date administrative expense increased modestly, partly because of the UHC acquisition and $130,000 of debt-refinancing prepayment penalties.
- The company recorded approximately $630,000 of net gains during the nine months from sales of excess land and the Salem, South Dakota facility.
- Order backlog declined to $2.970 million from $4.718 million at August 31, 2012, mainly because of completion of a major modular-building contract. Agricultural-products backlog increased to $2.199 million, while modular-building backlog declined to $571,000.
Debt, Covenants, Outlook, and Risks
- In May 2013, the company refinanced approximately $6.319 million of West Bank term loans with four U.S. Bank loans bearing fixed interest at 2.98%. Aggregate monthly principal and interest payments on these loans are $93,850, with final principal payments due May 1, 2018.
- The company was not in compliance with its required fixed-charge coverage ratio of at least 1.15 to 1.00 as of August 31, 2013. Management attributed the result mainly to the timing of tax payments. U.S. Bank waived the third-quarter noncompliance, and management stated that no event of default occurred. The next measurement date is November 30, 2013.
- Management stated that existing financing arrangements should provide sufficient cash for operations for the next twelve months, but expects to rely on financing activities to supplement operating cash flow and capital needs.
- After quarter-end, the company acquired Ohio Metal Working Products for approximately $3.172 million, financed through the U.S. Bank revolving line. The acquisition was not included in the August 31 financial statements and is expected to create a new reporting segment.
- Key risks include reduced demand, general economic conditions, material costs, labor and production inefficiencies, integration of acquisitions, order cancellations, dependence on financing, covenant compliance, and the ability to renew or obtain credit on reasonable terms.
- The filing reports no material pending legal proceedings, no off-balance-sheet arrangements, and effective disclosure controls. No formal quantitative earnings guidance is provided.
Investor Verification Items
- Verify the company’s ability to maintain the U.S. Bank fixed-charge coverage covenant at the November 30, 2013 measurement date and the status of the revolving line’s May 1, 2014 maturity.
- Assess whether agricultural-products growth and the Agro Trend acquisition can offset the continuing decline in modular-building activity.
- Monitor gross margins for evidence that labor inefficiency, inventory write-downs, and consumables costs have been addressed.
- Evaluate cash generation after the Ohio Metal Working Products acquisition and related borrowing.
- Review backlog quality, cancellation exposure, and customer concentration, particularly in modular buildings and pressurized vessels.
- Reconcile reported earnings with the approximately $630,000 property-disposal gain and the $130,000 refinancing penalty to distinguish recurring operating performance from unusual items.