Friedman Industries, Inc. — Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended December 31, 2018. Friedman manufactures and processes steel products through its Coil and Tubular segments. Unless noted, amounts are in U.S. dollars.
Financial results
| Metric | Three months ended Dec. 31, 2018 | Prior-year quarter, adjusted | Nine months ended Dec. 31, 2018 | Prior-year period, adjusted |
|---|---|---|---|---|
| Net sales | $43.33 million | $28.03 million | $144.95 million | $77.19 million |
| Gross profit | $1.93 million | $1.72 million | $12.07 million | $4.77 million |
| Gross margin | 4.5% | 6.2% | 8.3% | 6.2% |
| Pre-tax earnings | $0.88 million | $0.72 million | $8.29 million | $1.81 million |
| Net earnings | $0.66 million | $0.16 million | $6.27 million | $0.92 million |
| Diluted earnings per share | $0.09 | $0.02 | $0.89 | $0.13 |
- Quarterly revenue increased about 55%, but gross margin declined as falling steel prices and higher-cost inventory pressured segment margins. Nine-month revenue rose about 88%, reflecting higher sales volumes and average selling prices.
- For the nine-month period, Coil revenue was $94.69 million and operating profit was $5.85 million; Tubular revenue was $50.26 million and operating profit was $4.35 million. Tubular sales growth included increased manufactured line pipe and mill reject pipe shipments.
- Operating cash flow was a use of $39,767 for the nine months, versus a use of $2.59 million a year earlier. Inventory growth used $14.09 million of cash; accounts payable and accrued expenses increased $6.49 million. Capital expenditures were $647,682, dividends paid were $771,039, and cash declined $1.48 million to $2.58 million.
- At December 31, 2018, current assets were $79.88 million and current liabilities were $17.86 million; working capital was $62.02 million and the current ratio was 4.5, compared with 6.1 at March 31, 2018. Inventory rose to $59.42 million from $45.33 million.
- The company had no borrowings under its revolving credit facility at quarter-end. Total liabilities were $19.85 million and stockholders’ equity was $74.01 million. Dividends declared were $0.06 per share for the quarter and $0.15 for the nine months.
Material changes and accounting
- Effective April 1, 2018, the company changed prime coil inventory valuation from LIFO to average cost and retrospectively adjusted prior-period comparisons. The change reduced reported 2018-quarter net earnings by $1.02 million versus LIFO, to $664,773 from $1.69 million; for the nine months it increased reported net earnings by $1.90 million versus LIFO, to $6.27 million from $4.37 million.
- The company adopted the new revenue recognition standard in April 2018; it reported no financial statement impact. It was evaluating the upcoming lease accounting standard and did not expect a material impact.
- The prior-year tax comparison is affected by the Tax Act’s reduction of the federal corporate tax rate from 34% to 21%, effective January 1, 2018, and prior-period remeasurement of deferred taxes.
Outlook, risks and contingencies
- Management expected fourth-quarter Coil sales volume to slightly exceed the third quarter, while anticipating further margin pressure from falling steel prices and higher-cost inventory. It said domestic producer price increases announced around early February 2019 could help reverse compression if sustained, but would take time to flow through.
- Management expected continued Tubular margin pressure, citing steel price declines and increased foreign material as Section 232 quotas reset. It expected line pipe to remain a significant part of Tubular sales. Pipe-finishing activity was expected to remain low, and management continued to assess the facility’s long-term operating potential.
- The prior $7.5 million credit line expired in December 2018 and was replaced by a $5 million facility expiring December 12, 2019, secured by Tubular receivables and inventory. The facility bears interest at prime less 0.55% (4.95% at December 31), is subject to borrowing-base limits, and includes financial covenants. The company reported full availability, no borrowings, and no covenant violations as of the filing date.
- Management believed cash, potential operating cash flow and borrowing capacity were adequate for expected cash requirements over the next 24 months. This is an outlook statement, not a guarantee.
- Key risks include volatile steel prices and demand, reliance on a limited number of suppliers in both segments, and dependence on U.S. Steel Tubular Products (USS) as a mill reject pipe supplier and a significant pipe-finishing customer. USS planned to restart its idled No. 1 Lone Star pipe mill early in its third quarter of 2019; Friedman expected reduced supply and size range while it remained idle.
- The company held mill reject pipe inventory in excess of its prior fiscal-year sales volume. Its current classification relied on management’s estimates that future-year sales would approximate or represent a substantial portion of the inventory on hand; actual sales could differ.
Important facts for investors to verify
- Assess underlying quarterly profitability using both average-cost reported results and the disclosed LIFO comparison; the accounting change materially affected earnings.
- Track steel prices, inventory costs and gross margins, particularly whether announced price increases offset continuing price declines.
- Monitor inventory levels, working-capital demands and operating cash flow conversion.
- Verify Tubular line pipe demand, mill reject pipe sell-through, pipe-finishing utilization and USS supply/customer developments.
- Review availability and covenant compliance under the $5 million credit facility as it approaches its December 2019 expiration.