Rocky Brands, Inc. — Q2 2018 Form 10-Q
Business and period: Rocky Brands designs, manufactures and markets footwear, apparel and accessories across Wholesale, Retail and Military channels. This unaudited filing covers the three and six months ended June 30, 2018, compared with the same periods in 2017.
Financial highlights
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net sales | $58.2 million | $58.5 million | $119.6 million | $121.5 million |
| Gross margin | $19.5 million; 33.6% | $18.2 million; 31.1% | $40.5 million; 33.9% | $37.9 million; 31.2% |
| Operating income | $3.4 million | $2.3 million | $7.6 million | $4.6 million |
| Net income | $2.6 million | $1.5 million | $5.9 million | $3.0 million |
| Diluted EPS | $0.35 | $0.20 | $0.79 | $0.40 |
For the six months, operating cash flow was $11.1 million, capital expenditures were $2.6 million, and dividends paid were $1.7 million. Cash increased by $4.6 million to $8.3 million. Current assets were $134.8 million and current liabilities $33.6 million at June 30. No credit-facility borrowings or long-term debt were outstanding; revolving-facility capacity was $59.2 million. The $75 million facility expires in November 2019.
Changes and drivers
- Sales declined 0.4% in Q2 and 1.6% for the first half. Wholesale and Retail grew in both periods, while Military sales fell 35.6% in Q2 and 34.9% year to date, primarily because contracts expired in late 2017.
- Wholesale and Retail growth reflected product introductions, marketing, Lehigh CustomFit expansion and direct-to-consumer website investments. Management attributed improved Wholesale margins to less discounting and stronger initial margins; Retail Q2 margin benefited from higher-margin direct sales. First-half Military margin improved with the end of older, lower-margin contracts and Puerto Rico factory efficiencies.
- Gross margin expanded 2.5 percentage points in Q2 and 2.7 points for the first half. First-half operating expenses decreased 1.2%, partly because the Creative Recreation brand was sold in Q4 2017; Q2 expenses rose 1.6% with brand investment and sales-related costs.
- The effective tax rate was 20.5% in 2018 versus 34.0% in 2017, which the company attributed to the Tax Cuts and Jobs Act. First-half income tax expense was $1.5 million in both years.
Outlook, risks and notable items
- No specific revenue or earnings guidance was provided. Management said cash from operations and the credit facility should provide sufficient liquidity for at least 12 months, subject to operating performance, cash flows and covenant compliance. It expects possible price increases could offset 2018 inflationary pressures.
- Management identified risks including consumer demand, seasonality and weather, competition, supplier dependence, retail trends, cybersecurity and economic changes. It cautioned that forward-looking statements are uncertain and undertook no obligation to update them.
- ASC 606 was adopted January 1, 2018 using the modified retrospective method, with no material opening retained-earnings adjustment and no expected material ongoing net-income impact. Military contract receivables and contract liabilities were each $8.6 million at June 30; the company describes the liability as an obligation to provide goods under non-cancellable contracts.
- A $2.5 million tax liability related to unremitted foreign earnings is payable over eight years; the first $510,000 installment was paid in April 2018. No credit-facility covenant trigger was in effect at June 30. A $7.5 million repurchase authorization remained unused during Q2 and runs through March 1, 2019.
- Management concluded disclosure controls were effective; no material change in internal control over financial reporting or material change in previously disclosed risk factors was reported.
Investor verification points
- Assess whether Wholesale and Retail growth and margin gains can offset lower Military sales following contract expirations.
- Review the quality and seasonality of operating cash flow, inventory growth to $72.6 million, and the working-capital needs that may require revolving borrowings.
- Verify Military contract terms and the timing of related contract receivables, liabilities and revenue recognition under ASC 606.
- Monitor facility availability, covenant triggers, the remaining foreign-earnings tax installments, and any future use of the share-repurchase authorization.
- Confirm the share-count basis: the balance sheet reports 7,414,509 shares outstanding at June 30, while the filing reports 7,411,901 shares on July 31.