INSTEEL INDUSTRIES INC quarterly report, Q2 FY2013

Insteel Industries, Inc. — Q2 FY2013 Form 10-Q

Reporting period: Three and six months ended March 30, 2013; comparable periods ended March 31, 2012. Insteel manufactures welded wire reinforcement and prestressed concrete strand for the construction industry.

Financial performance and liquidity

• Q2 shipments fell 1.5% and average selling prices declined 3.4%; sales decreased 4.8%. Management attributed lower shipments mainly to adverse weather and lower prices to competitive pressure.
• First-half shipments rose 2.0%, but average selling prices fell 3.7%, leaving sales down 1.8%. Gross profit rose substantially in both periods, chiefly because selling-price/raw-material-cost spreads widened; first-half improvement also reflected higher shipments and lower unit conversion costs.
• SG&A increased 6.9% in Q2 to $5.2 million and 6.2% for the half to $10.1 million, primarily reflecting higher compensation and incentive expense. Interest expense declined to $53,000 in Q2 and $125,000 for the half, mainly following debt reduction.
• At March 30, cash and equivalents were $7.9 million, current assets $112.6 million, current liabilities $39.4 million, and working capital $73.2 million. Total assets were $205.9 million and shareholders’ equity $153.5 million.
• No debt was outstanding at quarter-end. The $100 million revolving facility had $72.0 million of borrowing capacity available and $1.4 million of letters of credit outstanding; the company reported compliance with covenants. Cash was $10,000 at September 29, 2012.
• First-half investing cash use was $3.1 million, including $3.7 million of capital expenditures. Financing cash use was $15.0 million, including $11.5 million of net debt repayments and $5.5 million of dividends. Dividends included a $4.5 million special dividend ($0.25 per share) and $1.0 million of regular dividends.

Changes, outlook, and risks

• Compared with the prior-year first half, earnings improved sharply and operating cash flow more than doubled, while sales were modestly lower. Prior-year results included an $425,000 gain from early debt extinguishment and $802,000 of restructuring charges; no restructuring charges were recorded in the current first half.
• Management said construction-market conditions appeared to be improving but activity was likely to remain depressed pending a more substantial economic recovery. Visibility remained limited; the filing provides no earnings or sales forecast.
• Management expects fiscal 2013 capital expenditures not to exceed $12 million and anticipates further Ivy acquisition synergies. It plans to continue cost control, align production with demand, improve productivity, and evaluate acquisitions.
• Key risks include weak or cyclical construction demand, weather, competitive pricing, steel wire rod cost and availability, reduced plant utilization, and the ability to pass raw-material cost increases through to customers. A 10% increase in wire rod prices, assuming no corresponding selling-price change, was estimated to reduce first-half pretax earnings by $11.0 million.
• Management said cash, operating cash generation, and facility availability should meet expected needs absent significant unexpected demands. Further market deterioration could reduce cash generation and prompt cuts to spending, share repurchases, or dividends. Future dividends remain discretionary.
• Ordinary-course legal matters, including commercial, environmental, and employment matters, were not expected to have a material adverse financial effect. The 2011 federal tax return was under IRS examination. The filing reported no material change in risk factors, no significant subsequent event, and effective disclosure controls.

Important facts for investors to verify

1. Whether improved gross margins and wider price-to-wire-rod spreads persist amid competitive selling prices and uncertain raw-material costs.
2. Whether construction demand, shipments, and operating utilization improve, and whether adverse weather or seasonality affects results.
3. Whether the company delivers anticipated Ivy synergies and keeps fiscal 2013 capital spending within the stated $12 million ceiling.
4. Whether cash generation, $72 million of reported revolver availability, covenant compliance, and discretionary dividend plans remain intact as conditions change.
5. How the IRS examination and tax attributes, including state and federal net operating loss carryforwards, develop.