Culp, Inc. Form 10-Q Summary
Business Context and Reporting Period
Culp, Inc. operates through two segments: mattress fabrics, which manufactures and sells fabrics and mattress covers to bedding manufacturers, and upholstery fabrics, which sources, manufactures, and sells fabrics primarily to residential furniture manufacturers. This report covers the 13-week quarter ended July 31, 2016, corresponding to the first quarter of fiscal 2017; the comparable period ended August 2, 2015.
Key Financial Metrics
| Metric | Q1 FY2017 | Q1 FY2016 | Change |
|---|---|---|---|
| Net sales | $80.7 million | $80.2 million | 0.6% |
| Gross profit | $18.4 million | $16.2 million | 13.7% |
| Gross margin | 22.8% | 20.2% | +260 basis points |
| Income from operations | $8.7 million | $7.5 million | 16.2% |
| Operating margin | 10.7% | 9.3% | +140 basis points |
| Income before taxes | $8.5 million | $7.4 million | 15.4% |
| Net income | $5.3 million | $4.7 million | 13.0% |
| Diluted EPS | $0.43 | $0.38 | 13.2% |
| Operating cash flow | $5.8 million | $1.1 million | +$4.7 million |
Income tax expense was $3.2 million, producing a 37.8% effective tax rate versus 36.5% in the prior-year quarter. SG&A increased 11.5% to $9.7 million, primarily due to higher incentive compensation, inventory warehousing, and mattress-fabrics design and sales expenses. Interest expense was zero in the income statement, compared with $24,000 in the prior-year period, following repayment of the final term-note installment in August 2015.
Segment Performance
- Mattress fabrics: Sales increased 5.7% to $50.5 million. Gross profit increased 19.9% to $11.9 million, gross margin expanded to 23.6% from 20.8%, and operating income increased 20.0% to $8.4 million. Results benefited from capital investments, improved capacity and throughput, enhanced finishing capabilities, lower raw-material costs, and favorable Canadian currency effects.
- Upholstery fabrics: Sales declined 6.9% to $30.2 million, reflecting softer furniture retail demand and customer/product-mix actions. Gross profit nevertheless increased 3.8% to $6.5 million, margin expanded to 21.6% from 19.4%, and operating income increased 11.3% to $3.0 million, supported by improved mix, lower costs, and favorable Chinese currency effects.
Financial Position, Cash Flow, Debt, and Liquidity
- At July 31, 2016, cash and cash equivalents were $45.5 million and short-term investments were $2.4 million, totaling approximately $48.0 million versus $42.1 million at May 1, 2016.
- Total assets were $183.4 million and shareholders’ equity was $131.4 million. Current assets were $121.1 million versus current liabilities of $34.6 million.
- The company had $7.0 million outstanding under its $30.0 million U.S. revolving credit facility, bearing interest at an applicable rate of 1.94%. No borrowings were outstanding under the China facility. The company remained in compliance with its financial covenants.
- Operating cash flow was $5.8 million. Investing cash flow used $1.7 million, including $3.1 million of capital expenditures. Financing cash flow provided $3.7 million, including $7.0 million of revolver borrowings, offset by $3.4 million of dividends.
- Accounts receivable declined to $22.7 million from $25.7 million year over year, while inventories increased to $48.1 million from $46.5 million. Days sales outstanding improved to 26 days from 29 days.
Material Changes Versus the Prior Comparable Period
- Sales were essentially flat, but profitability improved substantially because of operating efficiencies, capital investments, lower raw-material and operating costs, and favorable foreign exchange movements.
- Mattress-fabrics sales growth more than offset the decline in upholstery-fabrics sales.
- Cash generation improved materially, driven by stronger collections and inventory management.
- Cash and investments increased, but the company added $7.0 million of U.S. revolving debt for short-term liquidity and foreign-exchange management purposes.
- The company paid $3.4 million in dividends, including a $0.21 per-share special dividend and a $0.07 per-share quarterly dividend, compared with $5.7 million in dividends in the prior-year quarter.
- A $5.0 million common-stock repurchase authorization remained available; no shares were repurchased during the quarter.
Guidance, Outlook, Risks, and Unusual Items
- Management projected approximately $12.0 million of fiscal 2017 capital expenditures and approximately $7.0 million of depreciation, subject to changes in business needs.
- Management noted uncertainty regarding mattress-fabrics demand for the remainder of fiscal 2017. Upholstery-fabrics demand was affected by softer furniture retail conditions.
- The company is constructing a North Carolina building to expand distribution capabilities and office space. The estimated cost is $11.2 million; $3.8 million had been paid by July 31, 2016, with $7.4 million remaining under the commitment. Completion was expected in December 2016. A $5.0 million letter of credit was issued in August 2016 in connection with the project.
- Upholstery-fabrics inventory was intentionally increased because temporary supplier shutdowns in China were expected around the September 2016 G20 Summit.
- Key disclosed risks include housing and furniture demand, consumer confidence, interest rates, inflation, raw-material and petrochemical prices, foreign-exchange movements, international economic and political conditions, and changes in consumer preferences.
- The company reported $15.0 million of gross unrecognized tax benefits at July 31, 2016 and estimated an approximately $868,000 increase during fiscal 2017. Litigation was described as ordinary-course and not reasonably expected to have a material adverse effect.
- The company stated that its disclosure controls and procedures were effective and that no material change occurred in internal control over financial reporting.
Most Important Facts for Investors to Verify
- Whether mattress-fabrics demand remains resilient and whether upholstery-fabrics demand recovers from softer furniture retail conditions.
- Whether gross-margin gains persist after favorable currency effects and lower raw-material costs normalize.
- Execution, final cost, timing, and funding of the North Carolina building and related capital projects.
- Use of the $7.0 million revolving borrowing, available credit capacity, and continued covenant compliance.
- Conversion of reported earnings into operating cash flow, particularly as inventory levels and incentive compensation payments change.
- Future dividend decisions and any use of the remaining $5.0 million share-repurchase authorization.
- Potential changes in tax liabilities, including the $15.0 million unrecognized tax-benefit balance and foreign earnings repatriation consequences.