Sturm, Ruger & Company, Inc. — Q2 2012 Form 10-Q
Reporting period: Three and six months ended June 30, 2012; comparisons are with the three and six months ended July 2, 2011. Unaudited interim results. The company designs, manufactures, and sells firearms, primarily in the United States; firearms represented about 99% of sales.
Financial performance
| Metric | Q2 2012 | Q2 2011 | First half 2012 | First half 2011 |
|---|---|---|---|---|
| Net sales | $119.6 million | $79.6 million | $231.9 million | $155.1 million |
| Gross profit / margin | $45.1 million / 37.7% | $28.5 million / 35.8% | $86.9 million / 37.5% | $52.5 million / 33.8% |
| Operating income | $28.3 million | $17.1 million | $52.7 million | $29.5 million |
| Net income | $18.0 million | $10.8 million | $33.5 million | $18.8 million |
| Diluted EPS | $0.91 | $0.56 | $1.71 | $0.99 |
- Sales increased 50.2% in Q2 and 49.6% in the first half. Firearms sales rose 50.6% and 49.7%, respectively; castings sales were a small share of revenue.
- Gross margin improved 1.9 percentage points in Q2 and 3.7 points in the first half. Management attributed improvement mainly to new-product volume, better overhead absorption, and lean-manufacturing productivity, partly offset by modestly higher input costs.
- Operating expenses were $16.8 million in Q2 and $34.2 million in the first half, up from $11.4 million and $22.9 million. The company cited higher promotion, equity and performance-based compensation, ERP implementation, and freight costs.
- The effective tax rate was 37% in both comparative periods.
Cash flow, liquidity, and capital
- First-half operating cash flow was $37.5 million, versus $32.4 million a year earlier. Capital expenditures were $12.3 million; investing cash outflow was $32.3 million, including purchases of short-term investments.
- At June 30, cash and cash equivalents were $76.0 million and short-term investments were $20.0 million, totaling $96.0 million. Cash declined $5.1 million from year-end, while short-term investments increased from zero.
- Working capital was $111.9 million after the LIFO reserve; the reported current ratio was 3.3 to 1. Total assets were $230.4 million and stockholders’ equity was $162.7 million.
- The company reported no debt. Its $25 million credit facility was unused, covenant-compliant, and scheduled to terminate June 15, 2013.
- Dividends paid in the first half totaled $10.3 million. The board subsequently declared a $0.377-per-share dividend, payable August 27, 2012. The variable dividend reflects a policy of paying a percentage of earnings. No shares were repurchased in the first half.
Material changes, outlook, and risks
- Demand was described as very strong. Distributor-to-retailer sell-through estimates rose 55% in Q2 and 59% in the first half; adjusted NICS checks, used as a retail-demand proxy, rose 18% and 21%. These are estimates/proxies, not direct measures of company sales.
- New products generated $87.8 million, or 38%, of first-half firearm sales. After temporarily suspending new distributor orders through May, the company resumed accepting orders May 29; Q2 orders increased 10% year over year.
- At quarter-end, backlog was $273.2 million, versus $97.4 million a year earlier. Company and distributor finished-goods inventories were described as below optimal levels. Management said restoring company finished-goods inventory could increase its FIFO value by up to $15 million.
- Production increased 49% year over year in Q2. Management expected 2012 capital spending of about $20 million, funded from operations and existing cash and investments; first-half spending was $12.3 million. It also expected approximately $3 million of 2012 defined-benefit pension contributions.
- Management cautioned that first-half results may not indicate full-year performance and gave no specific earnings or revenue guidance. It cited demand, firearm sales, litigation, regulation, financing needs, and accounting estimates as factors that could cause actual results to differ from projections.
- Product-liability and other litigation remained outstanding, including two traditional product cases, a long-pending municipal case, and securities litigation. Management said a reasonably possible loss range could not be estimated; claimed amounts exceed accruals and applicable insurance coverage. It believed a material adverse effect on financial position was unlikely, while results in a particular period could be materially affected.
- Raw-material availability and prolonged price inflation could disrupt manufacturing or harm results. The company self-insures significant risks. ERP implementation continued, with another manufacturing facility converted in Q2; management anticipated full implementation during 2012. Management reported disclosure controls were effective and no material control changes during the quarter.
Important facts for investors to verify
- Whether unusually strong demand and the large backlog convert into shipments and sales, and how distributor and retailer inventories evolve.
- Whether production capacity and inventory replenishment keep pace with demand, including the potential working-capital and cash needs of rebuilding finished goods.
- Whether gross-margin gains persist as product mix, input costs, freight, and operating expenses change.
- How the declared variable dividend, planned capital spending, and pension contributions affect cash reserves.
- Developments in product-liability and securities litigation, including any exposure beyond accruals and insurance coverage.