Hurco Companies, Inc. — Q3 FY2014 Form 10-Q
Reporting period: Three and nine months ended July 31, 2014. Hurco designs and manufactures computerized machine tools, controls, components and software, and provides parts, service and training to the global metal-cutting market. It reports one segment. Amounts below are in U.S. dollars; financial statement figures are in millions unless noted.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Sales and service fees | $55.4 | $45.2 | $160.1 | $138.9 |
| Gross profit | $18.0 | $11.7 | $48.6 | $39.9 |
| Gross margin | 32.5% | 25.9% | 30.3% | 28.7% |
| Operating income | $6.1 | $1.7 | $14.9 | $10.3 |
| Net income | $4.4 | $0.9 | $10.3 | $6.3 |
| Diluted EPS | $0.66 | $0.13 | $1.56 | $0.96 |
| Operating cash flow | $6.1 | $4.6 | $12.1 | $13.4 |
Q3 revenue rose 23% year over year, including a favorable $1.7 million currency-translation effect; nine-month revenue increased 15%, including a $4.0 million favorable currency effect. Growth reflected higher shipments, particularly in Europe and Asia Pacific, and favorable mix toward higher-performance machines. Europe represented 66% of Q3 revenue and 63% of nine-month revenue.
Gross-margin improvement was attributed to higher volume, a greater contribution from higher-performance machines, and production efficiencies. SG&A increased to $11.9 million in Q3 and $33.7 million year to date, primarily due to LCM acquisition-related costs and higher incentive compensation. Other expense was lower year over year, principally reflecting foreign-exchange gains and losses, net of forward contracts. Effective tax rates were 28% for Q3 and 29% year to date, versus 24% and 33%, respectively, in the comparable periods.
Balance sheet, cash flow and liquidity
- Cash and cash equivalents were $51.3 million at July 31, 2014, up from $42.8 million at October 31, 2013. Approximately 48% was held in U.S. dollars; the remainder was held by foreign operations in local currencies.
- Current assets were $201.8 million and current liabilities $62.1 million. Working capital excluding cash was $88.3 million, compared with $86.5 million at October 31, 2013.
- Short-term debt was $3.2 million, all under the China credit facility; there were no borrowings under the other facilities. Approximately $18.8 million of credit facilities remained available, and Hurco reported compliance with covenants.
- Nine-month operating cash flow was $12.1 million, down from $13.4 million. Capital expenditures and software development costs totaled $2.1 million. Cash increased $8.5 million during the nine months, after investing outflows of $2.1 million, financing outflows of $1.3 million and a $0.2 million adverse exchange-rate effect.
- Shareholders’ equity was $161.3 million. Dividends paid were $0.07 per share in Q3 and $0.19 per share for the nine months.
Material changes and operating trends
- Q3 orders were $56.4 million, up 22%; nine-month orders were $167.2 million, up 14%. Q3 order growth was strongest in Europe and Asia Pacific, while North American orders declined 3%. For the nine months, North American orders declined 5%.
- North American sales declined 7% in Q3 and 4% year to date. Management said softness before the International Manufacturing Technology Show, held in September of even-numbered years, was not unusual.
- The July 2013 acquisition of the Italian machine-tool component business LCM affects comparability. Q3 European sales included $2.6 million of LCM products versus $0.5 million in the prior-year quarter; nine-month sales included $6.4 million versus one month of $0.5 million in the prior-year period.
- Inventory was $99.3 million, up from $95.3 million at October 31, 2013. The warranty reserve rose to $1.8 million from $1.7 million at July 31, 2013; Hurco cited higher sales and a greater number of higher-performance machines with higher cost per claim.
Outlook, risks and contingencies
The filing provides no quantified earnings or revenue guidance. Management said cash and available borrowing capacity were adequate to fund operations and support product innovation and targeted expansion in developing markets. Hurco continued to review potential acquisitions, including intellectual property assets.
Key risks include the cyclical machine-tool market, uncertain economic conditions—particularly in Europe—foreign-currency movements, reliance on limited manufacturing sources, international operations, competition, raw-material costs, product development and technology obsolescence, and acquisition execution and integration. Hurco uses foreign-currency forwards to manage currency exposure; outstanding contracts had approximately $129.2 million of U.S.-dollar-equivalent notional value. Such hedges do not eliminate currency risk.
At July 31, 2014, Hurco had 19 customer-financing payment guarantees totaling approximately $1.7 million. Management did not expect ordinary-course litigation to have a material adverse effect. Unrecognized tax benefits were $1.3 million. The company reported effective disclosure controls and no material changes to internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether order growth and the strong European contribution persist, given regional concentration and North American softness.
- How much reported growth and profitability reflect currency translation, product mix, higher production efficiency and the LCM acquisition.
- Whether inventory growth, receivables and warranty claims convert into cash and remain well controlled.
- The effect of foreign-exchange movements and hedging on future margins, reported results and accumulated other comprehensive loss.
- Available credit capacity, covenant compliance, and the potential exposure from customer guarantees and tax positions.