Educational Development Corporation — Q1 FY2017 Form 10-Q
Business context and period: The quarter ended May 31, 2016; the company’s fiscal year ends February 28/29. Educational Development sells children’s books through EDC Publishing, which serves retail accounts, and Usborne Books & More (UBAM), which sells through independent consultants. Results are subject to product-sales seasonality and are not necessarily indicative of the full year.
Financial performance
| Metric | Three months ended May 31, 2016 | Prior-year quarter | Change |
|---|---|---|---|
| Net revenue | $22.784 million | $9.638 million | +136.4% |
| Gross margin | $16.110 million; 70.7% of revenue | $6.064 million; 62.9% | Margin +7.8 percentage points |
| Operating expenses | $15.261 million | $5.522 million | +176.3% |
| Earnings before income taxes | $1.005 million | $0.532 million | +88.9% |
| Net earnings | $0.620 million | $0.325 million | +91.1% |
| Basic and diluted EPS | $0.15 | $0.08 | — |
Net margin declined to 2.7% from 3.4%, despite higher earnings; operating expenses rose to 67.0% of revenue from 57.3%. Interest expense increased to $216,500 from $15,800. Other income was $371,800 versus $5,800; the filing does not clearly explain the full year-over-year increase.
Cash flow and liquidity: Operating activities used $1.107 million, compared with $82,800 provided in the prior-year quarter. Capital expenditures used $1.263 million, primarily for warehouse systems, equipment, and software. Financing activities provided $2.117 million, chiefly reflecting net line-of-credit borrowings. Cash decreased $253,300 to $930,400. At May 31, current assets were $29.732 million and current liabilities were $26.816 million, a current ratio of approximately 1.11.
Debt: At May 31, the revolving credit balance was $5.919 million, with only $81,300 available under the $6.0 million facility. Term debt totaled $18.153 million, including current maturities. Total reported borrowings were approximately $24.072 million. Long-term debt is secured by company facilities and land.
Material changes and management commentary
- UBAM drove the growth: its net revenue was $20.650 million versus $7.018 million. Gross sales increased across internet, fundraising, home-party, and school/library channels; active consultants rose to 23,000 from 8,000.
- EDC Publishing net revenue decreased to $2.134 million from $2.620 million. Management cited lower sales to major and smaller retail accounts, partly due to shipment timing and capacity constraints while UBAM volumes increased. Management expected the timing impact not to materially affect full-year Publishing sales after facility improvements.
- Inventory rose to $22.662 million from $17.480 million, contributing to operating cash use. The company reported $13.0 million of inventory purchases in the quarter, including approximately $9.9 million from one England-based publisher.
- Approximately $5.236 million of customer payments for orders shipped in June were included in deferred revenue at May 31. This is an important subsequent shipment and working-capital item.
- After quarter-end, the bank increased the revolving facility to $7.0 million and extended it through June 15, 2017. A June 28 amendment also added a $4.0 million term loan, due June 28, 2021. The filing gives no formal earnings or revenue guidance.
Risks, contingencies, and other items
- The company was in violation of a loan covenant at May 31 and received a bank waiver through August 31, 2016. The credit agreement includes financial-ratio requirements and restrictions on debt, capital expenditures, compensation, and other activities.
- Liquidity is exposed to inventory investment, supplier payments, dividends, and capital spending; the company said it would work closely with its bank to meet liquidity needs.
- Quarterly dividends were $0.09 per share; the declared dividend was paid June 17, 2016. No shares were repurchased in the quarter; 303,152 shares remained available under the repurchase plan.
- The filing reports no legal proceedings and states that disclosure controls were effective. It identifies no market-risk disclosure as applicable.
Important facts for investors to verify
- Whether the covenant waiver was extended or the covenant violation cured by August 31, 2016, and the company’s compliance under subsequent bank amendments.
- Whether UBAM’s consultant growth and elevated sales continued, and whether the business can manage associated commissions, fulfillment costs, and working-capital needs.
- Whether the $5.236 million of deferred-revenue orders shipped as expected and converted to recognized revenue and cash collection.
- Whether inventory levels, supplier concentration, and limited quarter-end revolver availability improved after the new credit capacity and term loan.
- Whether EDC Publishing’s shipment timing and capacity constraints eased, as management expected.