ACME United Corporation — Q2 2017 Form 10-Q Summary
Business Context and Reporting Period
Quarterly report for the three and six months ended June 30, 2017, filed August 4, 2017. ACME United sells cutting devices, measuring instruments, safety products, sharpening tools and spill-cleanup products through United States, Canada and Europe segments. The business is seasonal, with stronger sales generally in the second and third quarters because of back-to-school demand.
On February 1, 2017, the Company acquired the assets of Spill Magic, Inc. for approximately $7.2 million in cash. Spill Magic contributed approximately $1.8 million of sales and $0.2 million of net income during the second quarter, and $3.0 million of sales and $0.3 million of net income during the first six months.
Key Financial Metrics
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Net sales | $38.849 million vs. $40.997 million | $66.595 million vs. $66.285 million |
| Gross profit | $14.483 million vs. $14.694 million | $25.047 million vs. $23.879 million |
| Gross margin | 37.3% vs. 35.8% | 37.6% vs. 36.0% |
| Operating income | $3.889 million vs. $4.640 million | $5.081 million vs. $5.595 million |
| Net income | $2.846 million vs. $3.267 million | $3.506 million vs. $3.832 million |
| Diluted EPS | $0.75 vs. $0.91 | $0.94 vs. $1.08 |
| Net interest expense | $0.321 million vs. $0.211 million | $0.583 million vs. $0.395 million |
Six-month net cash used in operating activities was $4.659 million, compared with $5.622 million used in the prior-year period. Investing cash outflow was $8.833 million, including $7.233 million for the Spill Magic acquisition and $1.600 million for capital expenditures. Financing activities provided $13.240 million, principally from $14.010 million of net debt borrowings.
Cash and cash equivalents were $5.674 million at June 30, 2017, compared with $5.911 million at December 31, 2016. Working capital was $63.632 million and the current ratio was 6.01. Accounts receivable increased to $32.616 million from $20.021 million at year-end, reflecting seasonal sales. Inventory declined to $35.638 million from $37.238 million.
Long-term debt was $46.956 million, up from $32.936 million at December 31, 2016. The HSBC revolving facility had $8.044 million of availability at June 30, 2017. The facility temporarily permits borrowings of up to $55 million through September 30, 2017, after which the limit returns to $50 million. Interest is LIBOR plus 2.0%, and principal matures May 6, 2019. The Company was in compliance with its debt covenants.
Material Changes Versus the Prior Comparable Period
- Second-quarter sales decreased 5%, primarily because a prior-year back-to-school promotion did not repeat and online back-to-school orders shifted from the second quarter toward the third quarter. Six-month sales increased slightly.
- Gross margin improved by 150 basis points in the quarter and 160 basis points year to date, aided by manufacturing efficiencies and favorable product mix, including DMT sharpening products and Spill Magic products.
- SG&A increased 5% in the quarter and 9% year to date, driven mainly by Spill Magic acquisition costs, higher personnel expenses and additional headcount.
- Operating income declined 16% in the quarter and 9% year to date. U.S. segment operating income declined approximately $1.0 million in the quarter and $0.8 million year to date, while Canada and Europe improved.
- Interest expense rose because of higher average borrowings used to fund the Spill Magic acquisition and working capital.
- The effective tax rate declined to 21% for the quarter and 23% year to date, partly because adoption of ASU 2016-09 produced approximately $350,000 of excess tax benefits. Excluding that benefit, management stated the 2017 effective tax rate would have been 31%.
- Direct import sales fell to approximately 17% of quarterly sales and 13% of year-to-date sales, versus 25% and 20%, respectively, in the prior-year periods.
Guidance, Outlook, Risks and Unusual Items
The filing provides no formal revenue, earnings or margin guidance. Management expects cash generated from operations, together with available revolver capacity, to fund planned operations for the twelve months following the filing under current conditions. Management also noted that online ordering patterns may shift revenue between the second and third quarters.
- Key risks include economic conditions, consumer spending, competition and technological change, loss or consolidation of major customers, difficulty integrating acquisitions, currency fluctuations and higher borrowing costs from rising interest rates.
- The Company has approximately $48,000 remaining in its Fremont, North Carolina environmental remediation and monitoring accrual. Remediation is complete, with monitoring expected through the end of 2020.
- There were no pending material legal proceedings, no debt defaults and no material changes in internal control over financial reporting. Management concluded disclosure controls were effective.
- The Spill Magic purchase-price allocation remained preliminary, with $5.8 million assigned to intangible assets and potential for revisions during the measurement period.
- The Company adopted the simplified goodwill impairment guidance prospectively and ASU 2016-09 for share-based payments in 2017. The filing states that the forthcoming lease standard may affect financial position, results and cash flows, but the impact had not yet been determined.
Investor Verification Items
- Verify the sustainability of the improved gross margin and the timing of online and back-to-school sales in the third quarter.
- Monitor accounts receivable growth, seasonal working-capital needs and operating cash flow, which remained negative year to date.
- Assess leverage, interest-rate exposure, revolver availability and compliance with covenants as the temporary $55 million borrowing limit expires.
- Evaluate Spill Magic integration, contribution, intangible-asset valuation and any changes to the preliminary purchase-price allocation.
- Separate recurring tax performance from the approximately $350,000 one-time or adoption-related excess tax benefit.
- Review the 2016 Form 10-K risk factors and the remaining environmental monitoring obligation through 2020.