Sturm, Ruger & Company, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018; comparisons are to the periods ended July 1, 2017. The company designs, manufactures, and sells firearms, primarily to U.S. customers through independent wholesale distributors. Firearms accounted for approximately 99% of sales; exports were approximately 4%.
Financial performance
| Metric | Q2 2018 | Six months 2018 |
|---|---|---|
| Net sales | $128.4 million, down 2.6% | $259.6 million, down 13.2% |
| Gross profit and margin | $36.6 million; 28.5% (26.5% prior year) | $72.4 million; 27.9% (30.3% prior year) |
| Operating income | $19.4 million, versus $15.3 million | $38.0 million, versus $49.2 million |
| Net income | $15.2 million, up 48.9% | $29.5 million, down 9.2% |
| Diluted EPS | $0.86, versus $0.57 | $1.68, versus $1.79 |
| Cash dividends per share | $0.32, versus $0.48 | $0.55, versus $0.92 |
For the first half, firearms sales were $256.9 million, down 13.5%; castings sales were $2.7 million, up 14.4%. Firearms unit shipments fell 5% in Q2 and 11% for the first half. Management estimated first-half sell-through to retailers decreased 1%, while adjusted NICS checks decreased 3%. New products represented $75.5 million, or 29%, of first-half firearm sales.
Cash flow, liquidity, and capital
- Cash was $131.7 million at June 30, versus $63.5 million at December 31, 2017. Six-month operating cash flow was $81.0 million, compared with $39.9 million; management attributed the increase primarily to lower inventory and working-capital fluctuations.
- Working capital was $146.1 million, and the current ratio was 3.3 to 1. The company had no debt. Its unused $40 million revolving credit facility expired June 15, 2018; management said it believed it could obtain a new facility.
- Capital expenditures were $2.4 million in the first half. The company expected approximately $10 million for full-year 2018, primarily for new-product tooling and manufacturing upgrades, funded from operating cash and existing cash.
- Dividends paid in the first half totaled $9.6 million. On July 31, the board authorized a $0.34-per-share dividend, payable August 31 to holders of record August 17. No shares were repurchased in the first half; $88.7 million remained authorized for repurchases.
Material changes and notable items
- Q2 gross profit increased $1.7 million year over year despite lower sales; first-half gross profit declined $18.3 million. The prior-year periods included a $2.5 million Mark IV pistol recall charge, with no comparable charge in 2018. Management cited improved manufacturing cost efficiencies in Q2.
- The 2018 Tax Cuts and Jobs Act reduced the effective tax rate to 24.2% for Q2 and 24.4% for the first half, from 35.0% in both 2017 periods. The lower rate increased EPS by approximately $0.12 in Q2 and $0.24 for the first half.
- ASC 606 adoption on January 1, 2018 reduced opening retained earnings by $2.2 million and established a customer contract liability. At June 30, that liability was $6.7 million; the company estimated recognition in Q3. Adoption increased Q2 sales by $2.6 million and first-half sales by $0.3 million versus the amounts that otherwise would have been recognized. The filing says adoption increased Q2 EPS by about $0.05 and left first-half EPS unchanged versus the comparable periods.
- Inventory declined to $24.0 million net from $39.7 million at year-end. Management warned that a continued reduction in inventory quantities could trigger a LIFO liquidation with a potentially material effect on 2018 results, though not on financial position.
Outlook, risks, and contingencies
The filing provides no earnings or sales guidance. Management noted typical seasonal demand patterns, with distributor orders often stronger in Q1 and weaker in Q3. It cautioned that weaker consumer demand, raw-material availability and pricing (including possible tariff effects), and changes in firearms regulation could affect results. The company self-insures significant portions of certain liabilities and carries substantial insurance deductibles.
At June 30, the company was defendant in three lawsuits and was aware of other claims. One municipal case, brought by the City of Gary, was dismissed in January 2018; the City appealed. Management said litigation was not likely to materially affect financial position, but could materially affect results in a particular period. The company could not estimate a range of reasonably possible losses. The filing reported no material change in the risk factors from its 2017 Form 10-K.
Important facts for investors to verify
- Reconcile the filing’s conflicting EBITDA disclosures: MD&A states $29.7 million for Q2 and $56.8 million for the first half, while its reconciliation table calculates $28.243 million and $55.343 million, respectively.
- Track demand, distributor and company inventory, and sell-through; distributor inventory increased by 30,400 units in Q2, and sell-through estimates are based on distributor data and have stated limitations.
- Assess the potential year-end impact of LIFO inventory liquidation and the timing of recognition of the $6.7 million ASC 606 contract liability.
- Monitor the appeal in the City of Gary litigation, other product-related claims, and the expiration of the revolving credit facility.