Alpha Pro Tech, Ltd. — Q3 2018 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018. The company develops and sells building weatherization products, disposable protective apparel, and infection-control products, primarily in the United States. Financial statements are unaudited.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $12.104 million | $12.049 million | $35.655 million | $34.082 million |
| Gross profit / margin | $4.585 million / 37.9% | $4.712 million / 39.1% | $13.759 million / 38.6% | $13.493 million / 39.6% |
| Operating income | $1.769 million | $1.115 million | $3.305 million | $2.798 million |
| Net income | $1.539 million | $1.103 million | $3.007 million | $2.457 million |
| Diluted EPS | $0.11 | $0.07 | $0.21 | $0.16 |
- Q3 sales rose 0.5%; nine-month sales rose 4.6%. Nine-month sales growth came from Building Supply (+4.8%) and Disposable Protective Apparel (+5.8%); Infection Control increased 0.6%.
- Q3 operating income increased 58.7%, principally on lower SG&A, including recovery efforts related to former litigation counsel, and lower employee compensation. The recovery amount is not specified. Nine-month operating income increased 18.1%.
- Q3 net income increased 39.5%; nine-month net income increased 22.4%. Lower effective tax rates contributed: 18.9% for Q3 and 17.8% for nine months, versus 31.3% and 30.3% in 2017. The company cites the reduction in the U.S. federal corporate tax rate under the Tax Cuts and Jobs Act.
- Q3 SG&A was $2.676 million, down 22.4%; nine-month SG&A was $10.024 million, down 2.4%. Gross margin fell year over year in both periods; management cited higher rebates, freight costs, and Building Supply product mix.
Cash flow, balance sheet, and capital allocation
- Cash was $6.823 million at September 30, 2018, down $1.940 million from year-end 2017. Nine-month operating cash flow was $1.073 million, versus $2.674 million in 2017; investing used $0.409 million and financing used $2.604 million.
- Operating cash flow reflected higher receivables and prepaid expenses and lower accounts payable/accrued liabilities, partly offset by reduced inventory. Receivables, including related-party receivables, totaled $6.258 million; days sales outstanding was 45, versus 41 at year-end.
- Working capital was $24.503 million and the current ratio was 15:1. Current assets were $26.221 million and current liabilities were $1.718 million.
- No borrowings were outstanding on the $3.5 million Wells Fargo credit facility; the company said it did not anticipate using it in the near term. Management believes cash and available credit will cover foreseeable working capital and planned capital expenditures. The filing reports no long-term debt on the balance sheet.
- The company repurchased 793,000 shares for $2.828 million in the first nine months; $1.451 million remained available under the repurchase program at September 30. Shares outstanding declined to 13,629,583 from 14,290,749 at December 31, 2017.
- Equity-method investment in Harmony Plastics was $4.286 million; nine-month equity income was $393,000. Purchases of inventory from Harmony totaled $12.036 million in the nine months, up from $11.097 million in 2017.
Outlook, risks, and notable items
- Management expects 2018 gross margin to be lower than 2017 but remain in the “high thirty percent range.” It expected Disposable Protective Apparel full-year growth to be in line with or above its 5.8% nine-month rate, and anticipated continued growth in housewrap sales. These are management expectations, not quantified company-wide guidance.
- Management attributed Q3 softness in Building Supply partly to lower housing starts in September, which it believed were related in large part to Hurricane Florence. It also noted reduced synthetic roof underlayment sales. Infection Control mask sales declined while shield sales increased.
- The 2017 comparison includes a $385,000 gain on sale of property, not repeated in 2018. In 2018, marketable-security fair-value changes are recorded in earnings; the nine-month period included a $43,000 unrealized loss.
- A competitor litigation matter was settled and dismissed after the company paid the settlement; the company recovered a significant portion from former litigation counsel during Q3. Management does not expect ordinary-course pending or threatened litigation to materially affect financial condition or results.
- Revenue-recognition adoption (ASC 606) had no material impact. Adoption of the financial-instruments standard reclassified $458,000 of accumulated losses to retained earnings and moved subsequent unrealized investment gains and losses into earnings. Lease-standard adoption was still under evaluation; management had not determined its impact.
- Management reported disclosure controls effective at September 30, 2018 and no material change in internal control over financial reporting during the quarter. The filing states that nine-month results are not necessarily indicative of full-year results.
Most important facts for investors to verify
- Whether gross-margin pressure from rebates, freight, and product mix persists, and whether management’s “high thirty percent” full-year margin expectation is achieved.
- Whether operating cash flow improves, given lower year-to-date cash generation and increased receivables and prepaids; monitor the 45-day DSO figure.
- The durability of earnings growth after separating the counsel recovery, the lower tax rate, and the nonrecurring 2017 property-sale gain.
- Execution of share repurchases and the effect of buybacks on cash and share count.
- Harmony’s contribution, related-party purchasing exposure, and the performance of marketable equity investments.
- The eventual balance-sheet and financial-statement effects of adopting the lease standard.