Art’s-Way Manufacturing Co., Inc. — Form 10-Q Summary
Reporting period: Quarterly and year-to-date periods ended May 31, 2014; balance sheet comparison with November 30, 2013. The company manufactures agricultural equipment, pressurized vessels, modular buildings, and steel-cutting tools. The financial statements are unaudited.
Financial performance and position
| Metric | Three months ended May 31, 2014 | Three months ended May 31, 2013 | Six months ended May 31, 2014 | Six months ended May 31, 2013 |
|---|---|---|---|---|
| Net sales | $9.469 million | $9.250 million | $15.706 million | $17.665 million |
| Gross profit | $2.328 million | $2.564 million | $3.668 million | $4.934 million |
| Gross margin | 24.6% | 27.7% | 23.4% | 27.9% |
| Operating income | $444 thousand | $799 thousand | $149 thousand | $1.512 million |
| Net income (loss) | $253 thousand | $514 thousand | $(5) thousand | $1.334 million |
| Diluted EPS | $0.06 | $0.13 | $(0.00) | $0.33 |
- Second-quarter sales increased 2.4% year over year, while six-month sales decreased 11.1%.
- Cash flow from operations was $(450) thousand for the first six months, compared with $274 thousand provided in the prior-year period. Working-capital uses included higher inventories, receivables, income-tax receivables, and other current assets.
- Capital expenditures were $611 thousand, compared with $210 thousand in the prior-year period.
- Cash was $250 thousand at May 31, 2014, compared with $208 thousand at November 30, 2013.
- Total assets were $35.008 million and total liabilities were $16.697 million at May 31, 2014.
- Inventory increased to $15.868 million from $14.923 million at November 30, 2013; finished goods and inventory reserves also increased.
Debt and liquidity
- The company had $4.065 million outstanding under an $8.0 million revolving line of credit bearing interest at 3.50% as of May 31, 2014. The line was scheduled to mature May 1, 2015.
- Total term debt was $7.861 million, including $1.266 million classified as current.
- On May 29, 2014, the company borrowed $1.0 million secured by the Ohio Metal Working Products property and used the proceeds to reduce the revolving credit balance.
- Financing activities provided $1.102 million during the first six months, including line-of-credit borrowings and the new term loan.
- The company stated that its financing arrangements were sufficient to fund operations for the next twelve months, but expected to rely on financing cash flows to supplement operating cash flows.
Material changes versus the prior comparable period
- Profitability declined materially year to date: the company moved from $1.334 million of net income to a $5 thousand net loss, primarily because of lower revenue, weaker margins, and the absence of a prior-year $630 thousand gain on property sales.
- Second-quarter gross margin fell to 24.6% from 27.7%; management attributed pressure to production inefficiencies, higher fixed costs, and project-specific labor overruns.
- Manufacturing sales declined 2.0% in the quarter and 18.5% year to date. Cold weather delayed production, while sugar beet harvester sales declined.
- Pressurized vessel sales declined 26.0% in the quarter, and quarterly gross margin fell to 3.8% from 17.6% because of labor overruns on a specific project.
- Modular-building sales declined 39.8% in the quarter and 47.7% year to date. Prior-year results benefited from completion of large contracts, making the comparison unusually favorable.
- The newly acquired Tools segment contributed $895 thousand of quarterly sales and $1.806 million of six-month sales, with operating income of $36 thousand and $102 thousand, respectively.
- Selling expense increased because of the Ohio Metals acquisition; engineering expense increased because of additional staff, while general and administrative expense declined primarily because of lower bonus accruals.
- Backlog increased to $7.028 million at June 17, 2014, from $4.933 million at June 17, 2013, led by Tools and agricultural equipment demand. Backlog in vessels and modular buildings declined.
Guidance, outlook, risks, contingencies, and unusual items
- No formal revenue or earnings guidance was provided. Management expected primary capital needs to relate to production costs and believed financing would remain available on reasonable terms.
- The company was not in compliance with its required fixed-charge coverage ratio at May 31, 2014, largely because of the first-quarter operating loss. U.S. Bank waived the noncompliance for the first and second quarters; the next measurement date was August 31, 2014.
- Debt agreements require financial reporting and covenant compliance and are secured by substantially all company and subsidiary assets. A default could increase interest rates by 5%, terminate further lending, accelerate debt, or permit foreclosure on collateral.
- The revolving credit facility was renewed on June 1, 2014, extending its maturity to May 1, 2015. June 2014 amendments also modified the fixed-charge coverage-ratio definition.
- Key stated risks include agricultural-market cyclicality, seasonal demand, production interruptions, economic conditions, material costs, credit-market tightening, debt and covenant compliance, and integration of acquired businesses.
- Warranty liabilities were $229 thousand at May 31, 2014, compared with $527 thousand at May 31, 2013. Management noted that future warranty costs could exceed historical experience.
- The company had no material pending legal proceedings and no off-balance-sheet arrangements. Management reported effective disclosure controls and no material changes in internal control over financial reporting.
Important facts for investors to verify
- Whether operating cash flow improves and inventory levels normalize after the first-half cash use.
- Compliance with the fixed-charge coverage covenant at the August 31, 2014 measurement date and the continuing availability of the revolving facility.
- Whether the higher backlog converts to revenue without further margin deterioration or cancellations.
- The sustainability and profitability of the Tools and Canadian Agro Trend acquisitions.
- Whether delayed agricultural production, weak vessel demand, and lower modular-building activity continue to affect revenue and margins.
- The accuracy of debt balances, maturities, collateral arrangements, and the June 2014 financing amendments in the filed exhibits.