Sturm, Ruger & Company, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017, compared with the periods ended October 1, 2016. Unaudited interim results. The company designs, manufactures and sells firearms, primarily to domestic wholesale distributors; firearms represent approximately 99% of sales.
Key financial results
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net sales | $104.8 million | $161.4 million | $404.0 million | $502.5 million |
| Gross profit / margin | $30.2 million / 28.8% | $50.3 million / 31.1% | $120.9 million / 29.9% | $166.1 million / 33.0% |
| Operating income | $13.3 million | $30.1 million | $62.5 million | $102.8 million |
| Net income | $9.4 million | $19.9 million | $41.8 million | $66.6 million |
| Diluted EPS | $0.53 | $1.03 | $2.32 | $3.48 |
| EBITDA (non-GAAP) | $20.8 million | $39.1 million | $89.4 million | $128.9 million |
Q3 sales declined 35.1% and nine-month sales declined 19.6%. Firearms sales were $103.7 million in Q3 and $400.5 million year to date; castings contributed $1.2 million and $3.5 million, respectively. Firearms unit shipments fell 35.2% in Q3 and 16.1% for the nine months. Lower volume also reduced operating leverage: management attributed gross-margin contraction primarily to fixed-cost deleveraging as sales declined.
Cash flow and balance sheet: Nine-month operating cash flow was $59.0 million, down from $85.4 million; capital expenditures were $13.2 million, versus $23.0 million. Cash was $45.4 million at September 30, down from $87.1 million at year-end 2016. Working capital was $98.9 million after the $44.7 million LIFO reserve; the current ratio was 2.8 to 1. The company had no debt and its $40 million revolver was unused; the facility expires June 15, 2018. Total assets were $277.5 million and stockholders’ equity was $222.5 million.
The company repurchased 1.32 million shares for $64.9 million during the nine months, averaging $49.10 per share; $88.6 million remained authorized. Dividends paid were $20.2 million. The board subsequently declared a $0.21-per-share dividend, payable November 30, 2017.
Operating trends and material changes
- Management cited weaker consumer demand after unusually strong 2016 demand around the election, retailer inventory reductions, competitor discounting and rebates, and increased industry capacity. Adjusted NICS checks declined 16% in Q3 and 10% year to date.
- At quarter-end, distributor backlog was $56.6 million, down from $219.1 million a year earlier. Estimated company and distributor inventory totaled 529,200 units; the filing notes these measures exclude retailer inventory.
- New products, including Mark IV pistols, LCP II pistols and the Precision Rifle, accounted for $118.8 million, or 30%, of firearm sales in the first nine months.
- Selling and administrative expenses declined 16.3% in Q3 and 7.7% year to date, mainly because 2016 promotional campaigns did not recur, partly offset by increased 2017 firearm promotion.
- The effective tax rate declined to 30.3% for Q3 and 34.0% year to date, from 34.8% and 35.7%, respectively, primarily reflecting accounting changes for share-based compensation.
Outlook, risks and unusual items
- No sales or earnings guidance is provided. Management said interim results may not indicate full-year results. It expected approximately $30 million of 2017 capital expenditures for new-product tooling and manufacturing upgrades, funded from operating cash and existing cash; actual spending could vary.
- Inventory quantities had fallen during the nine months. If reductions persist through year-end, a LIFO liquidation could materially affect results of operations, though management did not expect a material financial-position impact.
- A June 2017 recall of Mark IV pistols manufactured before June 1, 2017 followed discovery of a potential unintended-discharge issue if the safety was not used correctly. The company recorded a $2.5 million expense, estimated as the recall’s total cost.
- Four lawsuits were pending at September 30: two product-liability cases, one patent case and one municipal case. Management viewed the claims as unfounded and did not consider a material adverse effect on financial position probable, but litigation could materially affect results or cash flows in a particular period. A hearing in the City of Gary case was scheduled for December 12, 2017.
- Other stated risks include demand and pricing pressure, raw-material availability and cost, potential manufacturing interruption, firearms-control and environmental legislation, and litigation outcomes. The company self-insures significant portions of certain liability and other risks.
Important facts for investors to verify
- Whether consumer demand, retailer inventories, distributor backlog and production levels stabilize or continue to weaken.
- The year-end inventory position and any resulting LIFO liquidation impact on reported earnings.
- Whether the Mark IV recall remains within the estimated $2.5 million cost and its effect on product demand or liability exposure.
- Progress and potential financial exposure in the pending product, patent and municipal litigation.
- Cash use for repurchases, dividends and planned capital expenditures, and renewal or replacement of the revolver before its June 2018 expiration.