Sturm, Ruger & Company, Inc. — Q2 2016 Form 10-Q
Reporting period: Three and six months ended July 2, 2016; comparisons are to the periods ended June 27, 2015. Dollar amounts below are in millions unless noted. The company designs, manufactures and sells firearms, primarily in the U.S.; firearms generated about 99% of sales.
Financial performance
| Metric | Q2 2016 | Q2 2015 | First half 2016 | First half 2015 |
|---|---|---|---|---|
| Net sales | $167.9 | $140.9 | $341.1 | $277.8 |
| Gross profit | $56.7 | $48.5 | $115.8 | $89.9 |
| Gross margin | 33.8% | 34.4% | 34.0% | 32.4% |
| Operating income | $36.5 | $26.7 | $72.7 | $50.5 |
| Net income | $23.5 | $17.6 | $46.8 | $33.1 |
| Diluted EPS | $1.22 | $0.91 | $2.44 | $1.71 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $66.1 | $80.9 |
Q2 sales increased 19.2%, net income 33.9%, and diluted EPS 34.1% year over year. First-half sales rose 22.8%, net income 41.5%, and diluted EPS 42.7%. Firearms sales were $166.3 million for Q2 and $337.8 million for the first half; shipments rose 13.8% and 18.0%, respectively. Management reported first-half EBITDA of $89.8 million, up 29.4% (a non-GAAP measure).
Liquidity, cash flow and capital
- At July 2, cash was $103.1 million, versus $69.2 million at year-end 2015. Working capital was $140.7 million after the LIFO reserve; the current ratio was 2.8 to 1.
- First-half operating cash flow was $66.1 million, down from $80.9 million, which management attributed primarily to prior-year inventory reductions and other working-capital movements. Capital expenditures were $11.3 million, compared with $16.3 million.
- The company had no debt and its $40 million revolving credit facility was unused; the facility expires June 15, 2017. Total assets were $343.7 million and stockholders’ equity was $254.8 million at July 2.
- Cash dividends paid in the first half were $15.7 million. The board subsequently authorized a $0.49-per-share dividend, payable August 26, 2016. No shares were repurchased in the first half; $73.2 million remained authorized for repurchases.
Material changes and operating trends
- Estimated company-product sell-through from distributors to retailers rose 18% in the first half; adjusted NICS checks rose 15%. Management linked demand to broader industry strength, new products and increased production.
- Four major products introduced within the prior two years generated $102.8 million, or 30% of first-half firearm sales. First-half backlog was $257.6 million, versus $123.8 million a year earlier.
- Q2 gross margin declined to 33.8% from 34.4%, primarily reflecting an unfavorable product mix shift. First-half margin improved to 34.0% from 32.4%, reflecting higher volume and a favorable mix toward high-margin accessories.
- Q2 selling and administrative expenses decreased 7.4%, mainly due to lower summer promotional spending. First-half expenses rose 9.4%, reflecting the “2 Million Gun Challenge to Benefit the NRA” and greater winter promotion participation.
Outlook, risks and contingencies
- No earnings or sales guidance was provided. Management expected approximately $30 million of 2016 capital expenditures, funded from operations and current cash, primarily for new-product tooling and manufacturing upgrades.
- Management cautioned that interim results may not indicate full-year performance. Demand, seasonal distributor ordering, raw-material availability and pricing, regulation, and pending litigation could affect results. The company noted limited marketplace supply of certain raw materials, though it believed current inventory and orders were sufficient to avoid interruption.
- Three lawsuits were disclosed: a product-liability case, patent litigation concerning features of the SR-556 and SR-762 rifles, and the long-running City of Gary municipal case. Management considered the allegations unfounded and said a material adverse effect on financial position was not probable, while litigation could materially affect results in a particular period. Claimed amounts exceeded product-liability accruals and applicable insurance coverage; a reasonably possible loss range was not estimable.
- Company self-insures significant portions of product liability, workers’ compensation, medical and other coverage. The filing reported no material change in risk factors from the 2015 annual report.
Investor verification priorities
- Check whether demand and backlog converted into shipments without excessive distributor or company inventory accumulation; sell-through estimates rely on distributor data and exclude retailer inventory.
- Track product mix, gross margin and inventory-related LIFO and overhead adjustments, especially after the Q2 margin decline.
- Reconcile operating cash flow with working-capital changes, capital spending and dividends; assess the sustainability of the declared dividend against future cash generation.
- Monitor the City of Gary and patent litigation, insurance coverage and self-insured exposures, as outcomes and timing are uncertain.