Culp, Inc. Form 10-Q Summary
Business Context and Reporting Period
Culp, Inc. operates through two segments: mattress fabrics, which manufactures, sources, and sells fabrics and mattress covers to bedding manufacturers, and upholstery fabrics, which serves primarily residential furniture manufacturers. The filing covers the unaudited three and six months ended October 30, 2016, compared with the periods ended November 1, 2015. Both six-month periods comprised 26 weeks.
Key Financial Metrics
| Metric | Three Months Ended October 30, 2016 | Three Months Ended November 1, 2015 | Six Months Ended October 30, 2016 | Six Months Ended November 1, 2015 |
|---|---|---|---|---|
| Net sales | $75.3 million | $77.0 million | $156.0 million | $157.1 million |
| Gross profit | $16.9 million | $15.7 million | $35.3 million | $31.9 million |
| Gross margin | 22.4% | 20.4% | 22.6% | 20.3% |
| Income from operations | $7.3 million | $6.3 million | $16.0 million | $13.8 million |
| Operating margin | 9.7% | 8.2% | 10.2% | 8.8% |
| Net income | $4.5 million | $3.8 million | $9.8 million | $8.5 million |
| Diluted EPS | $0.36 | $0.30 | $0.78 | $0.68 |
| Operating cash flow | Not provided for the quarter | Not provided for the quarter | $16.6 million | $11.2 million |
- Second-quarter sales declined 2.1%, while gross profit increased 7.4% and net income increased 18.7%.
- For the first six months, sales declined 0.7%, while gross profit rose 10.6%, operating income rose 16.1%, and net income rose 15.6%.
- SG&A increased 1.8% in the quarter and 6.5% year to date, primarily reflecting higher incentive compensation, mattress-fabrics design and sales expenses, and inventory warehousing costs.
- The effective income tax rate was 37.7% for the six months ended October 30, 2016, compared with 37.5% in the prior-year period.
Liquidity, Debt, and Capital Allocation
- Cash, short-term investments, and held-to-maturity investments totaled $47.4 million at October 30, 2016, compared with $42.1 million at May 1, 2016.
- Cash and cash equivalents were $13.9 million and short-term investments were $2.4 million. The company also held $31.0 million of investment-grade U.S. corporate bonds classified as held-to-maturity.
- Net cash used in investing activities was $36.3 million, primarily due to the $31.1 million purchase of held-to-maturity investments and $6.3 million of capital expenditures.
- No borrowings were outstanding under the U.S. or China revolving credit facilities at October 30, 2016. Available borrowing capacity was reported at $35.9 million.
- The U.S. revolving facility provides a $30 million commitment and expires August 15, 2018. The company had $250,000 of workers-compensation letters of credit and an additional $5.0 million letter of credit supporting construction of a new building.
- The company remained in compliance with its financial covenants.
- Six-month dividends totaled $4.3 million, including a $2.5 million special dividend. On December 1, 2016, the quarterly dividend was increased 14%, from $0.07 to $0.08 per share.
- A $5.0 million share-repurchase authorization remained available; no shares were repurchased during the six months.
Material Changes Versus the Prior Comparable Period
- Profitability improved despite slightly lower sales, driven by capital investments in mattress fabrics, lower raw-material costs, improved production efficiency, and favorable currency-related operating costs in China.
- Mattress-fabrics sales increased 3.0% for the six months, with operating income increasing 17.8% and operating margin expanding to 16.5% from 14.4%.
- Upholstery-fabrics sales decreased 6.1% for the six months, but operating income increased 6.5% and operating margin improved to 9.1% from 8.1%, aided by lower raw-material costs and favorable Chinese currency effects.
- Operating cash flow increased $5.4 million year over year to $16.6 million, reflecting higher earnings and improved accounts-receivable and inventory management.
- Accounts receivable declined 18% year over year to $19.0 million, while inventory was broadly stable at $46.0 million. Property, plant, and equipment increased 20% year over year to $45.5 million due to capital investments.
- The company shifted substantial cash from China to the Cayman Islands to reduce foreign-exchange exposure. Since April 2016, $39.2 million of earnings and profits had been distributed from Chinese subsidiaries to the Cayman Islands holding company.
Guidance, Outlook, Risks, and Unusual Items
- Management expected both sales and profitability to decline year over year in the third quarter of fiscal 2017, primarily because the Chinese New Year disruption would occur in January rather than February.
- Fiscal 2017 capital expenditures were projected at approximately $12.0 million, and depreciation expense at approximately $7.0 million. These were management estimates and could change with business needs.
- A new North Carolina building, estimated at $11.2 million, was expected to be completed in December 2016. Remaining purchase commitments were $6.1 million, and total open purchase commitments for building and equipment were $9.8 million.
- The company planned a mattress-fabrics facility consolidation in North Carolina beginning in February 2017, an expansion in Canada expected to begin operating in the fourth quarter of fiscal 2017, and a Haiti mattress-cover joint venture expected to begin production in the first half of the next fiscal year.
- Key risks include softer home-furnishings demand, housing and consumer trends, interest rates, foreign-exchange movements, international operating conditions, raw-material and petrochemical price increases, and limited ability to pass cost increases to customers.
- The company reported $15.1 million of gross unrecognized income tax benefits, primarily related to potential double taxation under foreign tax treaties. The IRS was examining the fiscal 2014 U.S. federal return, and Revenue Quebec had begun examining fiscal 2013–2015 provincial returns.
- Management stated that ordinary-course litigation was not reasonably expected to have a material adverse effect. No material changes to previously disclosed risk factors or legal proceedings were reported.
- The filing states that disclosure controls and procedures were effective and that no material change occurred in internal control over financial reporting during the quarter.
Most Important Facts for Investors to Verify
- Whether the expected third-quarter sales and profitability decline from the Chinese New Year timing was temporary or reflected broader upholstery-fabrics demand weakness.
- Completion, final cost, and operating benefits of the North Carolina building and related mattress-fabrics expansion projects.
- Execution and capital requirements for the planned North Carolina consolidation, Canada expansion, and Haiti joint venture.
- Liquidity after the corporate-bond investment, capital expenditures, dividends, construction commitments, and potential share repurchases.
- Resolution and cash-tax implications of the $15.1 million of unrecognized tax benefits and ongoing tax examinations.
- Sustainability of margin gains from lower raw-material costs, production efficiencies, and favorable currency effects.