NN, Inc. 2020 Second-Quarter 10-Q Summary
Business context and reporting period
NN, Inc. designs and manufactures precision components and assemblies for medical, aerospace and defense, electrical, automotive, and general industrial markets. This unaudited Form 10-Q covers the three and six months ended June 30, 2020; amounts below are in millions of dollars except per-share data.
Key financial metrics
| Metric | Q2 2020 | Q2 2019 | First half 2020 | First half 2019 |
|---|---|---|---|---|
| Net sales | $150.4 | $221.7 | $350.2 | $434.9 |
| Operating income (loss) | $(8.2) | $7.5 | $(253.5) | $7.2 |
| Net income (loss) | $(21.7) | $(7.3) | $(269.9) | $(26.8) |
| Net loss per share | $(0.59) | $(0.17) | $(6.55) | $(0.64) |
| Operating cash flow | Not separately presented in the supplied filing text | $15.9 | $4.4 |
Q2 gross profit, calculated as sales less cost of sales, was $35.0 million, or approximately 23.3% of sales, versus $57.6 million, or 26.0%, a year earlier. First-half gross profit was $82.5 million, or approximately 23.6% of sales, versus $108.6 million, or 25.0%. Q2 operating margin was approximately negative 5.5%, versus positive 3.4% in Q2 2019.
At June 30, cash and cash equivalents were $82.7 million, current assets $342.3 million, and current liabilities $137.9 million. Total principal debt was $851.4 million, including $62.5 million drawn on the revolver; long-term debt net of current maturities and issuance costs was $817.0 million. Only $0.7 million of revolver capacity remained available after borrowings and letters of credit. First-half capital expenditures were $15.6 million; cash used in investing was $12.5 million and cash provided by financing was $53.4 million. Cash increased $51.0 million from year-end, substantially reflecting net borrowing. Q2 interest expense was $18.7 million; first-half interest expense was $35.8 million.
Material changes versus comparable periods
- Q2 sales fell 32% year over year; management attributed most of the decline to lower organic volume from COVID-19, with foreign exchange also reducing sales. First-half sales declined 19.5%.
- All three segments reported lower Q2 sales: Life Sciences $72.4 million (down $18.9 million), Mobile Solutions $41.0 million (down $38.4 million), and Power Solutions $37.5 million (down $13.9 million). Mobile Solutions recorded a Q2 operating loss of $4.6 million.
- First-half results included a $239.7 million goodwill impairment charge: $146.8 million in Life Sciences and $92.9 million in Power Solutions. The charge followed a decline in market capitalization and reflected COVID-related forecast deterioration. No goodwill impairment was recorded in Q2.
- Q2 interest expense increased $4.7 million year over year, partly due to higher credit-facility rates, interest-rate swap settlements, and debt-issuance-cost amortization.
- First-half operating cash flow improved from $4.4 million to $15.9 million, which management attributed to cost reductions, stronger receivable collections, and lower spending associated with reduced production. Lower capital spending reduced investing cash outflows.
- The filing revised 2019 comparative figures for previously identified misstatements, principally involving inventory accounting at a foreign subsidiary and tax accounting related to a joint-venture impairment. The filing states the revisions were not material to the previously issued periods.
Outlook, risks, contingencies, and unusual items
- NN withdrew its 2020 financial guidance on April 6, 2020, citing uncertainty about the pandemic. Management expected full-year 2020 results to be adversely affected and said the extent and duration of the effects could not be assessed.
- The company disclosed substantial doubt about its ability to continue as a going concern for the twelve months after the filing. Management anticipated it might not satisfy the financial leverage covenant over the next twelve months. A July 2020 amendment waived that covenant for Q2 and Q3 2020, subject to minimum-liquidity and other requirements; failure to meet them could make facility debt immediately due. The company said it was compliant with its credit-facility requirements at June 30.
- Management cited ongoing cost reductions, lower capital spending, wage and benefit actions, rent and payroll-tax deferrals, and close monitoring of inventory and collections. The strategic review begun in November 2019 continued to consider operational and financing options, including a sale of part or all of the company.
- Preferred stock carries cumulative dividends at 10.625% annually, accrued whether or not declared, and had a $98.7 million carrying value at June 30. It may convert into a variable number of common shares under specified terms; the filing estimated 25.3 million shares on an as-converted basis for dilution analysis. Common dividends had been eliminated.
- Disclosure controls were deemed ineffective at June 30 because multiple material weaknesses in internal control over financial reporting remained unremediated, including weaknesses in the control environment, Paragon Medical revenue and IT controls, and inventory controls at a foreign subsidiary. Management nevertheless concluded the financial statements were fairly presented in all material respects.
- A securities-offering class action seeks unspecified damages; the company said it could not assess whether the outcome would materially affect it. In a Brazilian tax-credit dispute, an unfavorable decision in one case resulted in a recorded liability and an equal receivable from former shareholders; potential exposure for remaining cases was estimated below $5 million and management cited indemnification. Other notable first-half items included corporate-headquarters lease termination and asset-impairment charges; Q2 other operating income included a gain on a building sale.
Important facts for investors to verify
- Whether the company maintains minimum liquidity under the amended credit agreement and can meet leverage tests when the covenant waiver expires; the filing reports only $0.7 million of available revolver capacity.
- Whether sales and cash generation recover as customer facilities and elective medical procedures resume, and whether further cost actions offset continuing demand weakness.
- Whether additional goodwill or intangible-asset impairment is required if forecasts or market conditions deteriorate.
- Progress in remediating material weaknesses and the effect of the disclosed prior-period accounting revisions on subsequent filings.
- Potential dilution and cumulative dividend obligations associated with the preferred stock, as well as the outcomes of the securities litigation and Brazilian tax matters.