Business context and reporting period
Sturm, Ruger & Company, Inc. designs, manufactures and sells firearms, primarily in the United States through independent wholesale distributors. Firearms represented 99.6% of sales; investment castings represented 0.4%. The unaudited quarter ended March 29, 2014 is compared with the three months ended March 30, 2013. Management cautions that interim results may not indicate full-year results.
Key financial metrics
Amounts are in millions of dollars except per-share data.
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Net sales | $169.9 | $155.9 | +9.0% |
| Gross profit / margin | $61.1 / 36.0% | $61.3 / 39.3% | Margin down 3.3 percentage points |
| Operating income | $38.0 | $37.1 | +2.3% |
| Net income | $24.3 | $23.7 | +2.5% |
| Diluted EPS | $1.22 | $1.20 | +1.7% |
| Operating cash flow | $15.7 | $30.4 | Down $14.7 |
| Capital expenditures | $9.6 | $7.7 | Up $1.9 |
- Firearms sales rose 10.2% to $169.2 million; shipments increased 11.8%. Castings sales fell 70.7% to $0.7 million after the company prioritized internal needs and ended many outside customer relationships.
- Cost of products sold rose 15.0%, faster than sales. Management attributed lower gross margin principally to reduced sales of higher-margin accessories and increased depreciation; LIFO expense also rose.
- EBITDA, a company-presented non-GAAP measure, was $47.3 million versus $41.9 million.
- At March 29, cash was $49.8 million, working capital was $74.6 million after the LIFO reserve, and the current ratio was 1.9:1. Total assets were $289.4 million and stockholders’ equity was $192.8 million. The company had no debt; its unused $40 million revolving facility was scheduled to expire June 15, 2014.
- Cash declined $5.3 million during the quarter. Operating cash flow was lower mainly because the 2013 annual bonus was paid in Q1 2014; inventory and other working-capital movements also affected cash flow. Financing included $10.5 million of dividends paid.
Material changes versus the prior comparable period
- Demand indicators were mixed: estimated distributor-to-retailer sell-through increased 10%, while adjusted NICS background checks declined 22%.
- New products generated $41.3 million, or 24%, of firearm sales. Production increased 18.8% to 598,300 units; shipments increased 11.8% to 561,400 units.
- Orders received fell 61.4% to $119.8 million, reflecting the unusually high Q1 2013 comparison. Backlog declined to 1.354 million units, valued at $396.5 million, from 2.090 million units and $602.3 million a year earlier.
- Company finished-goods inventory increased by 36,900 units in Q1 but remained below management’s desired level. Distributor inventory declined by 4,000 units and also remained below the stated optimal level.
- Selling, general and administrative expenses declined by $1.0 million, mainly due to lower promotional spending. The effective tax rate was unchanged at 36.5%.
Outlook, commentary, risks and unusual items
- Management expected approximately $35 million of 2014 capital expenditures, funded from operations and cash, for new-product tooling and manufacturing upgrades. It said finished-goods replenishment could take more than a year and could increase FIFO inventory value by as much as $25 million.
- A change in estimated machinery and equipment useful life from 10 to 7 years increased Q1 2014 depreciation by $2.1 million; management estimated an approximately $8 million increase for 2014 on machinery and equipment held at December 31, 2013.
- The company was preparing to fund and terminate its frozen defined-benefit pension plans, potentially in late 2014 or early 2015. Management warned settlement could materially affect the results for the period and may materially affect financial position; if termination did not occur in 2014, estimated plan costs were not expected to be significant.
- On May 2, 2014, the board authorized a dividend of $0.49 per share, payable May 30 to shareholders of record May 16, 2014. Future dividends depend on cash needs and other factors.
- Product-liability claims included approximately five lawsuits across product, municipal and commercial matters. Management said an adverse litigation outcome was not probable and unlikely to materially affect financial position, but could materially affect a particular period’s results. Claimed damages exceeded accruals and applicable insurance coverage; management said a reasonably possible loss range could not be estimated.
- Other risks cited include raw-material availability and price fluctuations, self-insurance and deductibles, market demand, possible legislation, litigation outcomes and pension funding. Management reported no material change in the risk factors from its 2013 Form 10-K.
Important facts for investors to verify
- Whether strong sales and distributor sell-through can persist despite sharply lower orders and backlog, and how the company will balance production with inventory replenishment.
- How much of the gross-margin decline reflects lasting product mix and higher depreciation versus temporary inventory accounting or operating factors.
- The timing, cash cost and income-statement impact of the planned pension-plan settlement and termination.
- The renewal or replacement status of the $40 million credit facility scheduled to expire June 15, 2014.
- The filing contains a date inconsistency: the subsequent-events note gives the dividend record date as May 16, 2014, while the MD&A states May 16, 2013. Verify the correct date against the company’s dividend announcement.