Culp, Inc. Form 10-Q Summary
Reporting period: Quarter and nine months ended January 29, 2012. The nine-month periods comprise 39 weeks. Culp operates through mattress fabrics and upholstery fabrics segments.
Financial performance
| Metric | Q3 FY2012 | Q3 FY2011 | 9M FY2012 | 9M FY2011 |
|---|---|---|---|---|
| Net sales | $60.5 million | $51.7 million | $178.7 million | $156.4 million |
| Gross profit | $8.5 million | $8.2 million | $26.0 million | $25.6 million |
| Gross margin | 14.1% | 16.0% | 14.6% | 16.3% |
| Operating income | $3.0 million | $3.1 million | $9.0 million | $11.0 million |
| Operating margin | 5.0% | 6.0% | 5.1% | 7.0% |
| Income before taxes | $2.9 million | $2.9 million | $8.7 million | $10.4 million |
| Net income | $1.8 million | $2.4 million | $9.9 million | $10.2 million |
| Diluted EPS | $0.14 | $0.18 | $0.76 | $0.77 |
Quarterly sales increased 17%, while nine-month sales increased 14%. Quarterly net income declined 26%, and nine-month net income declined 3%, despite higher sales. Results were pressured by raw material costs, pricing pressure and higher SG&A.
Segment results
- Mattress fabrics: Q3 sales increased 24% to $34.7 million; nine-month sales increased 17% to $102.1 million. Q3 operating income rose to $3.1 million from $2.8 million, while nine-month operating income was approximately unchanged at $10.1 million. Margins declined because of higher raw material costs and customer pricing pressure.
- Upholstery fabrics: Q3 sales increased 9% to $25.7 million; nine-month sales increased 11% to $76.6 million. Q3 operating income declined to $754,000 from $1.1 million, and nine-month operating income declined 51% to $1.7 million. Higher raw material costs, foreign currency effects, U.S. velvet weakness and Culp Europe start-up expenses reduced profitability.
Cash flow, liquidity and capital structure
- Cash provided by operating activities was $2.7 million for the first nine months, down from $6.4 million in the prior-year period.
- Cash used in investing activities was $4.3 million, including $3.7 million of capital expenditures. Management expected full-year fiscal 2012 capital expenditures of approximately $5.3 million.
- Cash used in financing activities was $6.7 million, including $5.4 million for repurchases of 624,459 shares and $2.4 million of long-term debt repayments.
- Cash and cash equivalents were $15.1 million and short-term investments were $8.5 million at January 29, 2012, for total cash and investments of $23.6 million.
- Total debt, including current maturities, long-term debt and the Poland line of credit, was approximately $10.1 million. Cash and investments therefore exceeded total debt by approximately $13.5 million.
- Long-term debt had a carrying value of $9.2 million, consisting primarily of fixed-rate unsecured term notes. Required principal payments over the next four years were $2.4 million, $2.4 million, $2.2 million and $2.2 million, respectively.
- The U.S. revolving commitment was $7.6 million, with no borrowings outstanding and $50,000 of letters of credit. China had no outstanding borrowings. A Poland facility had $875,000 outstanding at a 6.89% applicable rate.
- The company was in compliance with its financial covenants. Management stated that available liquidity was sufficient for operating needs and fiscal 2012 contractual obligations.
Material changes and unusual items
- Gross and operating margins declined year over year because raw material cost increases were not fully recovered through customer price increases.
- SG&A increased 17% for the nine-month period to $17.0 million, primarily due to Culp Europe start-up costs and the absence of prior-year reductions in incentive compensation and bad debt expense.
- The nine-month tax provision included a $1.2 million tax benefit, including a $4.4 million non-cash reduction in the valuation allowance for U.S. deferred tax assets. The prior-year period included a $1.3 million non-cash tax benefit related to China.
- The company maintained a $12.1 million valuation allowance against U.S. deferred tax assets and reported $12.3 million of gross unrecognized tax benefits. Management estimated that unrecognized tax benefits could increase by approximately $1.0 million in fiscal 2012.
- A $77,000 non-recurring charge for employee termination benefits related to the Anderson, South Carolina facility was recorded in the nine-month period. No restructuring expense was recorded in the current quarter.
- The board authorized $7.0 million for share repurchases; $1.6 million remained available at January 29, 2012. The filing reports 74,214 shares repurchased during the quarter at an average price of $8.18.
Outlook and risks
- Management was encouraged by sales growth, sales and marketing initiatives, product innovation and recent stabilization in raw material prices, but did not expect pricing actions to fully restore prior operating margins.
- Management expected modest working-capital investment to support higher sales and estimated fiscal 2013 capital expenditures and depreciation at approximately $5.0 million each.
- Key risks include housing and furniture demand, consumer confidence, raw material and energy inflation, limited ability to pass through cost increases, foreign currency movements, international economic conditions and customer credit exposure.
- The company is a defendant in litigation involving alleged responsibility for environmental response costs at a Pennsylvania site of approximately $8.6 million plus unspecified future costs. Management believes liability is unlikely and cannot be estimated; no reserve was recorded. An indemnification agreement exists, although the financial capacity of the indemnitors is uncertain.
- Open purchase commitments for mattress-fabrics equipment totaled $1.4 million. Management reported no material changes to previously disclosed risk factors or legal proceedings.
Investor verification points
- Verify whether mattress-fabrics sales growth and upholstery-fabrics recovery can offset continuing raw material, pricing and foreign currency pressures.
- Assess the sustainability of operating cash flow, given higher receivables and inventories and the decline in operating cash generation.
- Review the tax benefit, U.S. deferred-tax valuation allowance and $12.3 million of unrecognized tax benefits when evaluating normalized earnings.
- Confirm debt maturities, covenant compliance and the need to fund the August 2012 principal payment of approximately $2.2 million.
- Monitor the environmental litigation, indemnification capacity and the $1.4 million equipment purchase commitments.