The Eastern Company: Q1 2013 Form 10-Q
Business context and period: The Eastern Company is a manufacturer with Industrial Hardware, Security Products and Metal Products segments. This unaudited report covers the 13 weeks ended March 30, 2013; comparisons are with the 13 weeks ended March 31, 2012 unless otherwise noted.
Key financial results
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Net sales | $34.69 million | $40.50 million | Down 14.3% |
| Gross margin | $6.27 million; 18.1% of sales | $8.18 million; 20.2% | Down $1.92 million |
| Operating profit | $1.59 million; 4.6% of sales | $3.17 million; 7.8% | Down 50.0% |
| Net income | $1.01 million | $2.05 million | Down 50.8% |
| Diluted earnings per share | $0.16 | $0.33 | Down $0.17 |
| Operating cash flow | $0.71 million | $2.05 million | Down $1.35 million |
| Capital expenditures | $1.26 million | $1.54 million | Down $0.28 million |
| Cash dividends per share | $0.10 | $0.10 | Unchanged |
The effective income tax rate was 33.3%, compared with 33.7% a year earlier. Comprehensive income was $1.17 million, versus $2.69 million.
Segments
- Industrial Hardware: Sales fell 20.8% to $15.22 million; pretax segment income was $0.60 million, versus $1.96 million.
- Security Products: Sales fell 9.4% to $10.98 million; pretax segment income was $0.25 million, versus $0.80 million.
- Metal Products: Sales fell 7.4% to $8.50 million; pretax segment income rose to $0.73 million from $0.41 million. Margin improvement reflected product mix, pricing, elimination of low-margin products and production efficiencies.
Financial position and liquidity
At March 30, 2013, cash and equivalents were $16.89 million, down from $18.48 million at year-end 2012. Working capital was $57.3 million and the current ratio was 5.6. Total debt was approximately $7.14 million, comprising $1.43 million current and $5.71 million long-term, compared with $7.50 million at year-end. The company reported a 9.9% total-debt-to-equity ratio and was in compliance with its loan covenants.
Operating cash flow was reduced by lower earnings and working-capital movements, including a $2.04 million decrease in accrued compensation. Cash flow, capital spending, debt payments and dividends produced a net decrease in cash of $1.59 million during the quarter. The company did not draw on its revolving credit facility.
Material changes, outlook and risks
- Management attributed the 14% sales decline mainly to roughly 20% lower volume in existing products across markets. Selective price increases contributed about 1% and new products about 5% toward offsetting the decline.
- Lower production utilization contributed to the consolidated gross-margin decline. Raw-material prices were higher year over year; management said it was passing on costs where possible and expected further raw-material price increases, which could pressure future margins.
- Industrial Hardware sales were affected by defective raw material received from a supplier that reduced production of lightweight composite panels. The material was replaced, and management expected to make up production and sales in Q2 2013.
- Metal Products mining sales were down 8%. Management said it was too early to determine whether weaker mining demand was temporary or related to new U.S. clean-air rules effective in 2012.
- Management expected approximately $7 million of capital expenditures for 2013; outstanding commitments were approximately $1.6 million. It said cash, operating cash flow and available revolving credit were expected to meet foreseeable working-capital needs and existing obligations, including quarterly dividends. No full-year earnings or revenue guidance was provided.
- Required 2013 contributions are $1.121 million to pension plans and $155,000 to the postretirement plan. By quarter-end, no pension contributions and $12,000 of postretirement contributions had been made; remaining contributions were expected during the year.
- Environmental matters include potential contamination at the Wheeling, Illinois plant, for which no remediation-cost estimate was available, and a disputed potential responsibility for a Cleveland, Ohio site. The company said it intended to defend against liability for the latter.
- The IRS notified the company of examinations of its 2010 and 2011 tax returns; management did not expect a material financial-statement impact. Cash held by foreign subsidiaries was $7.7 million; the company intended to reinvest foreign earnings indefinitely, and repatriation could result in U.S. income taxes.
- Forward-looking risks cited include economic and customer-demand changes, competition, product acceptance, customer loss, raw-material prices and sourcing, industry changes, litigation and legislation. The company reported effective disclosure controls and no material change in internal controls.
Important facts for investors to verify
- Whether sales volume stabilizes, including the expected Q2 recovery of composite-panel production, and whether new products and price increases offset weaker existing-product demand.
- Whether lower utilization and further raw-material inflation continue to pressure gross margins, especially in Industrial Hardware and Security Products.
- Whether mining-market weakness persists and what effect, if any, the new clean-air rules have on Metal Products demand.
- Progress on planned capital spending, required pension contributions, cash generation and continued dividend payments.
- Any developments that clarify potential remediation costs or liability for the Illinois and Ohio environmental matters.