Business context and reporting period
Universal Forest Products, Inc. (now UFP Industries) filed this unaudited Form 10-Q for the quarter ended September 24, 2011. The company designs, manufactures and distributes wood and wood-alternative products across retail, residential and commercial construction, industrial, and manufactured-housing markets. Unless noted otherwise, financial amounts below are in millions of dollars.
Financial performance and liquidity
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Net sales | $468.9 | $480.6 | $1,400.3 | $1,512.2 |
| Gross profit | $54.4 | $54.4 | $152.4 | $183.9 |
| Gross margin | 11.6% | 11.3% | 10.9% | 12.2% |
| Operating earnings | $10.1 | $6.0 | $12.8 | $32.6 |
| Net earnings attributable to controlling interest | $5.6 | $2.6 | $6.2 | $17.3 |
| Diluted EPS | $0.29 | $0.13 | $0.32 | $0.89 |
- Q3 sales declined 2.4% year over year, while gross profit was essentially flat. Lower SG&A and lower asset/exit charges helped operating earnings rise; diluted EPS more than doubled.
- Nine-month sales fell 7.4%, operating earnings fell about 61%, and attributable earnings fell about 64%. The nine-month deterioration reflected lower gross margin, weaker sales in key markets, a $2 million construction-project loss, and first-quarter weather-related inefficiencies.
- Operating cash flow was $2.1 million for the nine months, down from $11.4 million. Investing cash outflow was $20.0 million, including $21.8 million of capital expenditures; financing cash outflow was $6.8 million. Cash fell from $43.4 million at year-end 2010 to $18.6 million.
- At September 24, 2011, current assets were $400.1 million and current liabilities $122.4 million. Debt and capital lease obligations totaled approximately $52.5 million. The company had no borrowings outstanding on its $300 million revolving facility; $31.3 million of letters of credit used facility capacity. It reported compliance with lending covenants.
- Working capital increased $32.2 million from year-end, largely from seasonality and higher-than-planned inventory. The cash cycle lengthened to 51 days from 43 days a year earlier.
- The company paid $3.9 million in shareholder dividends during the nine months. The board approved a further $0.20-per-share dividend payable December 15, 2011.
Material changes versus the prior comparable period
- Q3 gross margin improved 0.3 percentage points, helped by inventory costs more in line with current lumber prices and lower material cost as a share of sales. Higher freight costs and labor/overhead reduced the benefit.
- Nine-month gross margin fell 1.3 percentage points. Management cited falling lumber prices during part of the period, competitive pricing, fixed-cost absorption on lower sales, higher freight costs, weather disruption, and the construction-project loss.
- Q3 market sales rose 11.7% in commercial construction/concrete forming, 6.3% in industrial, and 2.4% in manufactured housing; they fell 5.4% in retail building materials and 17.0% in residential construction. Industrial growth included nearly 150 new customers, though management noted slower demand among existing customers and weaker Mexican-partnership sales.
- For the nine months, gross sales declined in retail building materials (-11.7%), residential construction (-14.7%) and manufactured housing (-9.5%); commercial/concrete forming rose 12.3% and industrial rose 5.6%.
- Q3 total unit sales were flat, while estimated selling prices declined about 2%. The company attributed lower nine-month sales to approximately 2% lower unit sales and 5% lower prices. SYP lumber prices declined 1.2% in Q3 year over year and 13.4% year to date.
Outlook, commentary, risks and unusual items
- Management anticipated strong operating cash flow for the remainder of 2011 as seasonal working-capital needs eased and inventory was reduced to support current demand. It planned up to $35 million of 2011 capital spending, including $11.9 million of outstanding project commitments, funded from operating cash flow. No specific earnings guidance was provided.
- Management described conservative capital-structure plans given economic conditions. Risks highlighted include adverse lumber-market trends, competition, economic weakness, regulation and weather. Lumber-price changes can affect sales, margins and working capital; the company does not use derivatives to hedge its disclosed interest-rate risk.
- The CEO resigned June 20, 2011. A consulting and non-competition agreement led to a $2.6 million accrual for future payments, included in severance and early-retirement expense.
- Fourteen operations had operating losses and negative cash flow for the first nine months. Their $13.1 million of long-lived assets could be subject to future impairment; related future lease payments were $0.3 million.
- Environmental remediation reserves were approximately $3.2 million, versus $4.2 million a year earlier. The company reported ordinary-course legal claims that management did not expect to materially affect the financial statements; it had not accrued for potential losses on the described contingencies. Other exposures included $14.6 million of bonds for ongoing projects, $29.0 million of bonds on completed projects still under warranty, and a maximum estimated $0.5 million residual-value lease guarantee.
- The company reported no material off-balance-sheet transactions other than operating leases, no new guarantee arrangements requiring balance-sheet recognition in Q3, and no changes to internal control over financial reporting that materially affected or were reasonably likely to materially affect it. Disclosure controls were judged effective.
Important facts for investors to verify
- Whether expected fourth-quarter cash generation materialized, particularly given elevated inventories, weaker retail demand and the longer cash cycle.
- Whether gross-margin pressure from lumber-price movements, freight, competitive pricing and lower fixed-cost absorption persisted.
- Progress on reducing inventory and funding planned capital expenditures and commitments without drawing on the revolver.
- Whether the 14 loss-making operations required additional closures, impairments or exit charges.
- Updates to environmental remediation, project-bond, warranty and other contingent exposures, as well as the impact of the CEO agreement.