Business context and reporting period
Hurco Companies, Inc. designs, manufactures and sells CNC machine tools and related controls, software, components and services to metalworking customers worldwide. This Form 10-K covers the fiscal year ended October 31, 2015; fiscal Q4 ended on that date. The company reports one operating segment. Approximately 68% of FY2015 revenue came from outside North America.
In July 2015, Hurco acquired the Milltronics machine-tool business in the U.S. and Takumi in Taiwan, broadening its product portfolio and brands. The acquisitions contributed $10.0 million of post-acquisition sales. Their results are included from their respective acquisition dates.
Financial performance and liquidity
| Metric | FY2015 | FY2014 |
|---|---|---|
| Sales and service fees | $219.4 million | $222.3 million |
| Gross profit / margin | $69.1 million / 31% | $68.6 million / 31% |
| Operating income / margin | $23.8 million / 11% | $22.0 million / 10% |
| Net income | $16.2 million | $15.1 million |
| Diluted EPS | $2.44 | $2.30 |
| Cash from operating activities | $28.5 million | $16.3 million |
| Capital expenditures | $4.5 million | $2.6 million |
| Cash and cash equivalents at year-end | $55.2 million | $53.8 million |
| Total debt at year-end | $1.6 million | $3.3 million |
Gross profit rose modestly despite lower reported sales; operating income increased 8% and net income increased 7%. Cash provided by operations increased substantially. Investing cash outflow was $21.8 million, including $17.7 million for the Milltronics and Takumi acquisitions. Financing cash outflow was $3.3 million, including $2.0 million of dividends paid.
Year-end current assets were $218.1 million and current liabilities $65.1 million, yielding working capital of $153.0 million and a current ratio of 3.4. Inventory was $106.3 million, up from $96.0 million, primarily reflecting the acquisitions; inventory turns declined to 1.4 from 1.5. The company reported $20.4 million of available borrowing capacity and compliance with credit covenants. Its $12.5 million U.S. revolving facility matures December 7, 2016. The company said liquidity was adequate for the next twelve months.
Material changes versus the prior comparable period
- Reported sales declined 1%, but increased 8% excluding a $21.2 million adverse currency impact; acquired businesses contributed $10.0 million of sales after acquisition. Orders were $223.2 million, down 4% reported but up 5% excluding currency effects.
- North American revenue grew 13%, including Milltronics sales; European revenue declined 6% reported, reflecting 8% growth offset by a 14% adverse currency impact. Asia Pacific revenue declined 9%, with softer markets in China and India.
- Computerized machine-tool sales fell 2% to $189.7 million; service parts, fees and other revenue grew 5% to $29.7 million.
- SG&A declined to $45.3 million from $46.6 million despite $2.4 million of Milltronics and Takumi-related costs, including $0.7 million of one-time acquisition costs. Translation of foreign expenses favorably affected reported SG&A by approximately $3.2 million.
- Backlog was $41.2 million at year-end, versus $39.8 million a year earlier, including $10.6 million from Milltronics and Takumi. The company expected this backlog to be fulfilled in FY2016, while cautioning that backlog is not a reliable indicator of future performance.
Outlook, risks and unusual items
The filing provides no specific revenue or earnings guidance. Management expected FY2016 capital spending of approximately $5.5 million, funded from cash and operating cash flows. The company intended to use its liquidity to support operations, quarterly dividends, product innovation and strategic market penetration. The board retains discretion over future dividends; the U.S. credit agreement limits cash dividends to $4.0 million per calendar year, subject to its terms.
Management emphasizes the cyclical nature of machine-tool demand and limited forecasting visibility, including a typical order backlog of about 45 days. Principal risks include economic weakness, particularly in Europe; foreign-exchange volatility; international trade, regulatory and political risks; reliance on a limited number of manufacturing sites and suppliers; competition from larger companies; raw-material cost changes; product-development and inventory-obsolescence risks; and successful integration of acquisitions. The company uses currency forwards but states that hedges may not fully offset currency movements and carry counterparty risk.
Hurco recorded a $0.4 million net-of-tax out-of-period correction in FY2015, increasing net assets and net income, related primarily to prior-period manufacturing overhead errors at a foreign subsidiary. Management concluded the errors were not material to prior periods and did not require amendments. Routine legal claims were not expected to have a material adverse effect. The company disclosed 17 customer-financing guarantees totaling approximately $1.2 million, with accrued fair-value liabilities described as insignificant.
Management and the auditor reported effective internal control over financial reporting; however, the assessment and audit excluded Milltronics and Takumi, which represented $32.4 million of year-end assets. Integration of their controls was in progress. Ernst & Young issued unqualified opinions on the consolidated financial statements and on the controls included in the assessment.
Key investor verification points
- Assess underlying demand and order trends apart from currency translation, particularly in Europe and Asia, and monitor conversion of backlog into sales.
- Track integration, profitability, inventory quality and control remediation for Milltronics and Takumi; the acquired businesses’ post-acquisition results included a Milltronics net loss of $0.1 million and Takumi net income of $0.4 million.
- Review inventory growth, slower inventory turns, and cash conversion as the expanded product portfolio is integrated.
- Monitor foreign-exchange exposure and the effectiveness, timing and counterparties of hedging arrangements.
- Verify compliance with credit-facility covenants and dividend restrictions, and progress against the FY2016 capital-spending plan.
- Consider the $0.4 million prior-period correction, the excluded acquired-company controls, and the assumptions behind tax assets and inventory and impairment estimates.