La-Z-Boy Incorporated — Fiscal 2019 First-Quarter Form 10-Q
Reporting period: Quarter ended July 28, 2018, compared with the quarter ended July 29, 2017. The company manufactures, imports, distributes and retails upholstered and casegoods furniture through wholesale channels, company-owned La-Z-Boy Furniture Galleries stores, independent retailers and digital channels.
Financial performance and liquidity
| Metric | Q1 FY2019 | Q1 FY2018 | Change |
|---|---|---|---|
| Sales | $384.7 million | $357.1 million | 7.7% increase |
| Gross profit | $148.5 million | $139.1 million | 6.8% increase |
| Gross margin | 38.6% | 39.0% | 40-basis-point decline |
| Operating income | $23.2 million | $16.3 million | 42.1% increase |
| Operating margin | 6.0% | 4.6% | 140-basis-point increase |
| Net income attributable to La-Z-Boy | $18.3 million | $11.7 million | 57.1% increase |
| Diluted earnings per share | $0.39 | $0.24 | Increase of $0.15 |
| Operating cash flow | $32.2 million | $19.5 million | Increase of $12.6 million |
Cash, cash equivalents and restricted cash totaled $136.6 million at quarter-end, compared with $136.9 million at April 28, 2018. Investments to enhance cash returns totaled $31.6 million. Debt was minimal at $0.4 million, consisting of $0.2 million of current debt and $0.1 million of long-term debt. The company had no borrowings under its $150.0 million revolving credit facility and reported $148.1 million of excess availability.
Capital expenditures were $15.9 million, compared with $9.1 million in the prior-year quarter. Financing uses included $7.9 million for share repurchases and $5.6 million for dividends. The quarterly dividend increased to $0.12 per share from $0.11.
Material changes versus the prior comparable period
- Sales increased across all three operating segments. Retail delivered same-store sales increased 4.6%, while new stores contributed approximately $4.0 million of sales.
- Upholstery sales rose 6.9% to $293.4 million, but operating margin declined to 8.1% from 8.5% due to steel, polyurethane foam, wood, procurement, manufacturing and logistics inflation and unfavorable mix.
- Casegoods sales rose 11.3% to $28.4 million, and operating margin improved modestly to 10.9% from 10.7%. Higher imported-product freight costs reduced gross margin.
- Retail sales rose 7.9% to $119.2 million. Operating margin increased to 3.7% from 1.6%, supported by design services, custom orders, higher average tickets and fixed-cost leverage.
- Corporate and Other operating loss improved to $8.3 million from $11.5 million, principally because of lower incentive compensation expense and improved global trading company profitability.
- SG&A expense declined as a percentage of sales by 180 basis points, benefiting from fixed-cost absorption and lower incentive compensation expense.
- The effective tax rate fell to 22.8% from 35.6%. Management reported a 24.4% rate excluding discrete adjustments and continued to assess the effects of the Tax Cuts and Jobs Act.
- Other income declined to $0.9 million from $1.7 million; the prior-year amount primarily included a gain from an investment conversion.
Guidance, outlook, commentary and unusual items
- Management expects recent selling-price increases to offset upholstery input-cost inflation, with the full benefit expected by the end of the second quarter, provided raw-material costs do not continue to escalate.
- Fiscal 2019 capital expenditures are expected to be $50 million to $60 million, including the new Innovation Center, a corporate office building, an England subsidiary plant expansion, manufacturing upgrades and a distribution-center relocation.
- The Innovation Center in Dayton, Tennessee, was expected to be completed in fall 2018.
- On July 30, 2018, the company acquired Joybird, an e-commerce furniture retailer and manufacturer, for $75 million of guaranteed payments, including a $50 million initial payment and $25 million payable in annual installments. Additional earnout opportunities depend on fiscal 2021 and fiscal 2023 performance. Joybird was expected to be included in Corporate and Other beginning in the second quarter.
- On August 15, 2018, the company acquired the assets of an operator of nine Arizona La-Z-Boy Furniture Galleries stores for approximately $40 million in cash. The stores were expected to be included in Retail beginning in the second quarter.
- The company funded the Joybird initial payment with cash and primarily funded the Arizona acquisition with borrowings under its credit facility. Management expects operating cash flow to fund debt service and future Joybird payments.
- The company adopted ASC 606 revenue recognition in the quarter. Management stated that adoption had no material effect on the amounts or timing of revenue, but significantly affected disclosures and balance-sheet presentation.
- Adoption of the equity-investment accounting standard resulted in a $1.6 million net reclassification from accumulated other comprehensive income to retained earnings.
- Management expects adoption of the operating-lease standard in fiscal 2020 to have a material impact on the balance sheet.
Key risks and contingencies
Material risk areas include consumer confidence and recessionary conditions; real estate and credit markets; raw-material, labor, freight and energy costs; supply-chain, import, tariff and trade-policy changes; currency and interest-rate movements; logistics or technology disruptions; product defects, recalls, warranty costs and litigation; store expansion and lease economics; e-commerce execution; goodwill or intangible-asset impairment; natural disasters; and the integration and performance of recent acquisitions. Product warranty liabilities totaled $21.1 million at July 28, 2018, approximately 95% of which related to Upholstery.
Investor verification points
- Verify whether pricing actions offset continued raw-material, freight and supply-chain inflation in subsequent quarters.
- Assess the sustainability of Retail’s margin improvement and 4.6% delivered same-store sales growth.
- Review the purchase accounting, earnout liabilities, retention compensation and operating results for Joybird and the Arizona stores.
- Reconcile cash usage from acquisitions, capital expenditures, dividends and share repurchases with future credit-facility borrowings.
- Monitor the effective tax rate and any final adjustments related to the Tax Cuts and Jobs Act measurement period.
- Evaluate the balance-sheet effect of the future operating-lease standard and any potential goodwill or intangible-asset impairment.
- Confirm that the company’s stated credit availability, covenant status and minimal reported debt remain accurate after the subsequent acquisitions.