Business context and reporting period
UFP Technologies, Inc. filed this unaudited Form 10-Q for the quarter ended September 30, 2018. It designs and custom-converts foam, plastic, composite and natural-fiber products for medical, consumer, automotive, aerospace and defense, electronics, and industrial markets. The company reports one operating segment.
Results include Dielectrics, Inc., acquired February 1, 2018. The acquisition materially affects year-over-year comparability: Dielectrics contributed approximately $25.1 million of sales and $4.4 million of net income through September 30, including $9.5 million of Q3 sales.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $47.8 million | $35.7 million | $139.8 million | $110.6 million |
| Gross profit | $12.4 million | $8.2 million | $35.6 million | $27.7 million |
| Gross margin | 26.0% | 23.0% | 25.5% | 25.0% |
| Operating income | $5.9 million | $2.5 million | $14.1 million | $9.6 million |
| Net income | $4.1 million | $1.7 million | $9.9 million | $6.5 million |
| Diluted EPS | $0.56 | $0.23 | $1.34 | $0.89 |
Q3 sales rose approximately 34.0%; nine-month sales rose 26.3%. Nine-month operating income increased 46.5% and net income 52.4%. Management attributed margin improvement to manufacturing efficiencies, pricing, a better business mix, and higher sales over fixed overhead. SG&A was $6.5 million in Q3 and $20.6 million for nine months; as a share of sales it declined to 13.7% and 14.7%, respectively.
Nine-month operating cash flow was $13.5 million versus $13.0 million a year earlier. Investing used $81.4 million, principally for the Dielectrics acquisition ($77.0 million net of acquired cash) and capital expenditures ($4.5 million). Financing provided $35.0 million. Cash declined to $5.1 million from $38.0 million at year-end 2017.
At September 30, 2018, total debt was $33.9 million, comprising $16.0 million drawn on the revolving facility and $17.9 million on the term loan; $2.9 million was current. The amended unsecured credit facilities provide a $50 million revolver and $20 million term loan and mature in February 2023. The reported interest rate was approximately 3.26%; the company was in covenant compliance. A $20 million interest-rate swap hedges variable-rate exposure on the term loan. Working capital was $37.0 million; current assets were $58.3 million and current liabilities $21.3 million.
Material changes and unusual items
- Medical sales increased 64.3% in Q3 and 52.8% for nine months, principally reflecting Dielectrics and growth in legacy medical demand. Aerospace and defense and consumer sales also increased. Automotive sales declined 11.6% in Q3 and 16.8% year to date, mainly due to the phase-out of a Mercedes-Benz door-panel program.
- The company recorded $1.1 million of Dielectrics acquisition costs and approximately $760,000 of losses associated with closing its Georgia manufacturing plant during the nine-month period.
- Interest expense increased substantially due to acquisition-related borrowing. Nine-month net interest expense was approximately $988,000, compared with net interest income of $108,000 in 2017.
- ASC 606 adoption modestly affected nine-month results: reported sales were $158,000 higher and gross profit $53,000 higher than under legacy accounting. Certain tooling consideration is now deferred and recognized over estimated production periods.
Outlook, risks, and contingencies
No specific revenue or earnings guidance was provided. Management planned to add manufacturing capacity and pursue organic growth and potential strategic acquisitions; it also intended to use available cash to pay down credit-facility borrowings. Management believed existing resources, operating cash generation, and available borrowing capacity would fund needs for the next 12 months, while noting future liquidity depends on operating performance.
Key risks discussed include integrating Dielectrics and realizing expected benefits; acquisition and financing risks; plant closures, consolidation, and part requalification or relocation; new-program launch delays, start-up costs, and manufacturing inefficiencies; and debt covenant compliance. Management reported no material change in previously disclosed risk factors or market risks. It expected to adopt lease accounting ASC 842 on January 1, 2019 and was still assessing the impact. Dielectrics' internal controls were excluded from the company's controls assessment for the acquisition year; management concluded disclosure controls were effective.
Important facts for investors to verify
- How much reported growth and profitability is attributable to Dielectrics, and whether its contribution is sustainable after integration.
- Progress and costs from the Georgia plant closure, manufacturing consolidation, and Mercedes-Benz program phase-out.
- Working-capital trends: receivables increased $4.4 million and inventory increased $2.6 million over the nine-month period.
- Debt repayment, interest-rate exposure, covenant headroom, and actual revolver availability after letters of credit.
- Final Dielectrics purchase-price allocation and the effects of ASC 606 and forthcoming lease accounting.