The Eastern Company — FY2014 Form 10-K
Reporting period: Fiscal year ended January 3, 2015. FY2014 included 53 weeks; FY2013 included 52 weeks. The fourth quarter of FY2014 was 14 weeks versus 13 weeks in FY2013, which affects direct period comparisons.
Business context and results
The company manufactures industrial hardware, security products and metal products through three segments, with operations in the U.S. and wholly owned foreign subsidiaries. FY2014 consolidated sales were primarily to North American customers.
| Metric | FY2014 | FY2013 |
|---|---|---|
| Net sales | $140.8 million | $142.5 million |
| Gross profit / margin | $32.5 million / 23.1% | $30.1 million / 21.2% |
| Operating profit / margin | $11.7 million / 8.3% | $10.4 million / 7.3% |
| Net income | $7.7 million | $6.9 million |
| Diluted EPS | $1.23 | $1.11 |
| Operating cash flow | $9.3 million | $11.3 million |
| Capital expenditures | $3.6 million | $5.5 million |
Sales declined about 1% while net income rose 11%. Improved gross margin reflected product mix and lower production costs, including reduced raw-material expense and the absence of prior-year China relocation severance. Selling and administrative expense rose 5%, and the effective tax rate increased to 34% from 32%.
- Industrial Hardware: Sales fell 3%, principally due to lower lightweight composite panel sales tied to a customer exiting fracking, plus weaker distributor and military sales. Growth in Class 8 trucks, truck accessories, off-highway, bus and industrial markets partly offset the decline. Segment operating margin rose to 8.6% from 7.9%.
- Security Products: Sales rose 1%, supported by new products; segment operating margin increased to 8.2% from 5.7%. Argo contributed only about two weeks of sales and was not material to FY2014 results.
- Metal Products: Sales fell 2%; mine-product sales decreased 8% amid weaker U.S. mining demand, partly offset by a 47% increase in contract-casting sales. Segment operating margin declined to 7.9% from 8.4%.
Fourth-quarter sales were $34.4 million versus $34.3 million, and net income was $2.03 million versus $1.92 million. Q4 gross margin improved to 24.9% from 23.7%, while selling and administrative costs rose 11%. The additional week in FY2014’s fourth quarter should be considered when comparing results.
Cash, debt and financial position
- Cash and equivalents were $15.8 million at year-end, down from $20.0 million. Working capital was $57.8 million, and the current ratio was 5.3.
- Operating cash flow decreased to $9.3 million, mainly due to a $2.8 million inventory increase. Inventory rose to $34.4 million from $30.7 million; management identified inventory reduction as a 2015 priority. Inventory turnover fell to 3.1 from 3.7.
- Investing activities used $8.6 million, including $3.6 million of capital spending and the $5.0 million Argo acquisition. Financing activities used $4.5 million, including $3.0 million of dividends and $1.8 million of debt repayments.
- Total term debt was $4.3 million, down from $6.1 million; no revolving-credit borrowings were outstanding. The company reported compliance with its loan covenants. Term debt bears fixed rates of 4.98% and 3.90%; the $10 million revolving facility was extended to July 2016.
- Shareholders’ equity declined to $75.0 million from $81.5 million. The pension liability increased to $26.2 million from $10.9 million, principally reflecting actuarial losses; accumulated other comprehensive loss widened to $22.5 million.
Outlook, material developments and risks
- No quantified revenue or earnings guidance was provided. Management expected operating cash flows and available credit to meet foreseeable operating, capital, debt-service and dividend needs, and stated it had sufficient resources to sustain the business through the next fiscal year.
- FY2015 capital expenditures were expected to be about $6 million. Expected 2015 contributions were approximately $3.0 million to pension plans and $150,000 to the postretirement plan.
- The new Composite Panel Technologies division was preparing to begin production in Q2 2015, primarily for sleeper cabs for a newly designed Class 8 truck.
- The December 2014 Argo asset acquisition cost approximately $5.0 million, plus a contingent earn-out of about $283,000 and assumed current liabilities of $63,000. The acquisition added printed-circuit-board assembly capabilities and was assigned to Security Products.
- Key risks include raw-material price increases and ability to recover costs, competition and customer losses, mining-market weakness and coal-demand changes, foreign currency and overseas sourcing or logistics, acquisition integration, new-product execution, and customer credit risk. One Metal Products customer accounted for 10.5% of consolidated sales in 2014.
- Potential ground contamination at the Wheeling, Illinois plant remained under voluntary remediation review; the filing said no remediation cost estimate was available. Management did not believe other ordinary-course litigation would materially affect the company.
- The company paid regular dividends of $0.11 per quarter and a one-time extra $0.04 per share in Q3 2014. Future dividends are not assured and are subject to earnings, capital needs, financial condition and loan restrictions.
- The auditor issued unqualified opinions on the financial statements and internal controls. Management also concluded disclosure controls and internal control over financial reporting were effective as of year-end.
Important facts for investors to verify
- Whether the inventory build is reduced in FY2015 and operating cash flow improves.
- Whether planned CPT production begins on schedule and achieves expected customer demand and economics.
- Argo’s subsequent performance, including whether the earn-out is triggered and whether integration delivers expected benefits.
- Developments in pension funding obligations, actuarial assumptions and planned cash contributions.
- Progress and any cost estimate for the Illinois environmental remediation, and any material change in mining-related demand or major-customer sales.
- Current covenant headroom, revolver availability and dividend capacity under the loan agreement.