Culp, Inc. Form 10-Q Summary
Business context and reporting period
Culp, Inc. manufactures and sells mattress fabrics and upholstery fabrics. The report covers the 13-week quarter ended July 28, 2013, compared with the quarter ended July 29, 2012. The financial statements are unaudited. The company had 12,241,405 common shares outstanding at July 28, 2013.
Key financial metrics
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Net sales | $70.1 million | $69.2 million | Up 1.4% |
| Gross profit | $13.1 million | $13.1 million | Down 0.4% |
| Gross margin | 18.6% | 19.0% | Down 40 bps |
| Income from operations | $6.0 million | $5.5 million | Up 9.0% |
| Operating margin | 8.5% | 7.9% | Up 60 bps |
| Income before taxes | $5.5 million | $5.4 million | Up 3.0% |
| Net income | $3.2 million | $3.5 million | Down 8.3% |
| Diluted earnings per share | $0.26 | $0.28 | Down $0.02 |
| Effective tax rate | 41.6% | 34.4% | Up 7.2 percentage points |
| Operating cash flow | $2.7 million | $(2.0) million | Improved by $4.6 million |
Mattress fabrics sales were $38.2 million, up 0.5%, while operating income declined 4.1% to $5.0 million and operating margin declined to 13.1% from 13.8%. Upholstery fabrics sales increased 2.4% to $32.0 million; operating income rose 11.9% to $2.4 million and operating margin improved to 7.6% from 6.9%.
At July 28, 2013, cash and cash equivalents were $21.4 million and short-term investments were $6.2 million, for total liquidity of $27.6 million. Total debt, including current maturities and the Poland line of credit, was $7.2 million. The company reported total assets of $151.1 million, total liabilities of $52.5 million, and shareholders’ equity of $98.6 million.
Debt consisted primarily of $6.6 million of unsecured senior term notes bearing fixed interest at 8.01%, plus $560,000 outstanding under the Poland credit facility. The company had no borrowings under its U.S. or China revolving credit facilities, was in compliance with its financial covenants, and had a $195,000 outstanding letter of credit. In August 2013, it paid the required $2.2 million annual principal installment, reducing total debt to approximately $5.0 million.
Material changes versus the prior comparable period
- Sales increased modestly, supported by product innovation and favorable customer response.
- Gross profit was essentially flat and gross margin narrowed, primarily reflecting segment mix and mattress-fabrics pressure.
- Operating income improved because SG&A declined 7.1% to $7.1 million, primarily due to lower corporate incentive compensation accruals.
- Net income and diluted EPS declined despite higher operating income because the effective tax rate increased and other expense rose.
- Other expense increased to $391,000 from $44,000, including a $206,000 charge related to a tentative environmental litigation settlement and foreign-exchange effects.
- Operating cash flow turned positive, largely reflecting improved accounts-payable cash flows and lower inventory-related use of cash.
- Accounts receivable rose 22% year over year to $24.5 million, with days sales outstanding increasing from 24 to 29 days. Inventory declined 5% to $41.8 million, and inventory turns improved from 5.2 to 5.6.
- The company increased its quarterly dividend 33%, from $0.03 to $0.04 per share, beginning in the quarter. It paid $489,000 in dividends compared with $381,000 in the prior-year quarter.
Outlook, commentary, risks, and unusual items
- Management expects a normal seasonal slowdown in mattress-fabrics demand in the second quarter of fiscal 2014 and expects industry demand to be less favorable than in the prior-year second quarter. Management cautioned that gross profit and operating income may not reach prior-year levels.
- The CLASS cut-and-sew mattress-cover venture remained in a transition period, with training and development substantially completed and management focused on improving operating efficiency and adjusting capacity to demand.
- The May 8, 2013 Bodet & Horst transaction involved $2.6 million of cash consideration and added equipment, a non-compete agreement, and customer relationships. It also removed a restriction that had prevented sales to a leading mattress manufacturer. The acquired assets were valued at $2.64 million.
- Management expects approximately $6.0 million of fiscal 2014 cash capital expenditures and approximately $5.6 million of depreciation, subject to changes in business needs.
- The effective tax rate included a $273,000 discrete tax effect associated primarily with changes to North Carolina loss carryforward assumptions. Gross unrecognized tax benefits totaled $13.3 million, and management expects these benefits to increase by approximately $838,000 during fiscal 2014.
- The environmental litigation settlement remained tentative and subject to final agreement, governmental review, and court approval. Culp recorded a $206,000 liability and expense.
- Key risks include housing and furniture-market demand, consumer confidence, interest rates, inflation and raw-material costs, foreign-exchange movements, international economic conditions, customer payment timing, and the ability to maintain natural currency hedges.
- The company stated that there were no material changes to the risk factors disclosed in its fiscal 2013 Form 10-K. Disclosure controls and procedures were evaluated as effective, with no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether the tentative environmental settlement receives final governmental and court approval and whether any additional costs arise.
- Second-quarter mattress-fabrics demand, seasonal production efficiency, and segment gross margins.
- Progress and profitability of CLASS and the commercial benefits from the expanded Bodet & Horst agreement.
- Accounts-receivable collections, days sales outstanding, inventory levels, and operating cash conversion.
- The effect of the elevated tax rate, unrecognized tax benefits, and deferred-tax balances on future earnings and cash taxes.
- Execution of the planned $6.0 million fiscal 2014 capital-expenditure program and the remaining $2.2 million annual debt payments due in August 2014 and August 2015.
- Continuation of the $0.04 quarterly dividend, noting that future payments remain subject to board approval and business conditions.