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MarketScreener Homepage  >  Equities  >  Nasdaq  >  Insteel Industries Inc    IIIN

INSTEEL INDUSTRIES INC

(IIIN)
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INSTEEL INDUSTRIES : Management's Discussion and Analysis of Financial Condition and Results of Operations (form 10-Q)

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04/18/2019 | 11:21am EDT

Cautionary Note Regarding Forward-Looking Statements




This report contains forward-looking statements within the meaning of the safe
harbor provisions of the Private Securities Litigation Reform Act of 1995,
particularly under the caption "Outlook" below. When used in this report, the
words "believes," "anticipates," "expects," "estimates," "appears," "plans,"
"intends," "may," "should," "could" and similar expressions are intended to
identify forward-looking statements. Although we believe that our plans,
intentions and expectations reflected in or suggested by such forward-looking
statements are reasonable, they are subject to a number of risks and
uncertainties, and we can provide no assurances that such plans, intentions or
expectations will be implemented or achieved. Many of these risks and
uncertainties are discussed in detail, and where appropriate, updated in our
filings with the United States ("U.S.") Securities and Exchange Commission
("SEC"), in particular in our Annual Report on Form 10-K for the fiscal year
ended September 29, 2018 (our "2018 Annual Report"). You should carefully review
these risks and uncertainties.



All forward-looking statements attributable to us or persons acting on our
behalf are expressly qualified in their entirety by these cautionary statements.
All forward-looking statements speak only to the respective dates on which such
statements are made and we do not undertake any obligation to publicly release
the results of any revisions to these forward-looking statements that may be
made to reflect any future events or circumstances after the date of such
statements or to reflect the occurrence of anticipated or unanticipated events,
except as may be required by law.



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It is not possible to anticipate and list all risks and uncertainties that may
affect our future operations or financial performance; however, they include,
but are not limited to, the following:



  ? general economic and competitive conditions in the markets in which we
    operate;



? changes in the spending levels for nonresidential and residential construction

    and the impact on demand for our products;



? changes in the amount and duration of transportation funding provided by

    federal, state and local governments and the impact on spending for
    infrastructure construction and demand for our products;




  ? the cyclical nature of the steel and building material industries;



? credit market conditions and the relative availability of financing for us,

    our customers and the construction industry as a whole;




  ? fluctuations in the cost and availability of our primary raw material,
    hot-rolled carbon steel wire rod, from domestic and foreign suppliers;



? competitive pricing pressures and our ability to raise selling prices in order

    to recover increases in raw material or operating costs;



? changes in U.S. or foreign trade policy affecting imports or exports of steel

    wire rod or our products;



? unanticipated changes in customer demand, order patterns and inventory levels;

? the impact of fluctuations in demand and capacity utilization levels on our

    unit manufacturing costs;



? our ability to further develop the market for engineered structural mesh

    ("ESM") and expand our shipments of ESM;



? legal, environmental, economic or regulatory developments that significantly

    impact our operating costs;



? unanticipated plant outages, equipment failures or labor difficulties; and

? the "Risk Factors" discussed in our 2018 Annual Report and in other filings

    made by us with the SEC.




Overview



Insteel Industries, Inc. ("we," "us," "our," "the Company" or "Insteel") is the
nation's largest manufacturer of steel wire reinforcing products for concrete
construction applications. We manufacture and market prestressed concrete strand
("PC strand") and welded wire reinforcement, including ESM, concrete pipe
reinforcement and standard welded wire reinforcement. Our products are sold
primarily to manufacturers of concrete products that are used in nonresidential
construction. We market our products through sales representatives who are our
employees. We sell our products nationwide across the U.S. and, to a much lesser
extent, into Canada, Mexico, and Central and South America, delivering them
primarily by truck, using common or contract carriers. Our business strategy is
focused on: (1) achieving leadership positions in our markets; (2) operating as
the lowest cost producer in our industry; and (3) pursuing growth opportunities
within our core businesses that further our penetration of the markets we
currently serve or expand our footprint.



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Results of Operations



                    Statements of Operations - Selected Data

                             (Dollars in thousands)



                                  Three Months Ended                           Six Months Ended
                        March 30,                    March 31,      March 30,                    March 31,
                           2019         Change          2018           2019         Change          2018

Net sales               $  111,948           4.2 %   $  107,417$  216,058           5.3 %   $  205,158
Gross profit                 7,021        (54.5% )       15,416         17,997        (33.5% )       27,077
Percentage of net
sales                          6.3 %                       14.4 %          8.3 %                       13.2 %
Selling, general and
administrative
expense                 $    6,556        (12.3% )   $    7,475$   13,090         (1.1% )   $   13,238
Percentage of net
sales                          5.9 %                        7.0 %          6.1 %                        6.5 %
Other expense
(income), net           $     (971 )         N/M     $      166$   (1,800 )         N/M     $      185
Interest expense                45          95.7 %           23             75          47.1 %           51
Interest income                (12 )      (77.4% )          (53 )         (167 )        29.5 %         (129 )
Effective income tax
rate                          25.2 %                       24.7 %         23.9 %                      (1.9% )
Net earnings            $    1,049        (82.2% )   $    5,879$    5,175        (63.0% )   $   13,990

"N/M" = not meaningful

Second Quarter of Fiscal 2019 Compared to Second Quarter of Fiscal 2018



Net Sales



Net sales for the second quarter of 2019 increased 4.2% to $111.9 million from
$107.4 million in the prior year quarter, reflecting a 21.0% increase in average
selling prices partially offset by a 13.9% decrease in shipments. The increase
in average selling prices was driven by price increases that were implemented
over the course of the prior year to recover the escalation in raw material
costs. Shipments for the current year quarter were unfavorably impacted by the
adverse weather conditions in many of our markets together with an increase in
low-priced import competition.



Gross Profit



Gross profit for the second quarter of 2019 decreased 54.5% to $7.0 million, or
6.3% of net sales, from $15.4 million, or 14.4% of net sales, in the prior year
quarter due to lower spreads between average selling prices and raw material
costs ($3.7 million), higher manufacturing costs ($2.4 million) and the
reduction in shipments ($2.1 million). The decrease in spreads was driven by
higher raw material costs ($22.6 million) and freight expense ($276,000)
partially offset by higher average selling prices ($19.2 million).



Selling, General and Administrative Expense




Selling, general and administrative expense ("SG&A expense") for the second
quarter of 2019 decreased 12.3% to $6.6 million, or 5.9% of net sales, from $7.5
million, or 7.0% of net sales in the prior year quarter primarily due to lower
compensation expense ($597,000) together with the relative year-over-year
changes in the cash surrender value of life insurance policies ($575,000). The
decrease in compensation expense was largely driven by lower incentive plan
expense based on our weaker results in the current year quarter. The cash
surrender value of life insurance policies increased $594,000 in the current
year quarter compared with an increase of $19,000 in the prior year quarter due
to the corresponding changes in the value of the underlying investments.



Other Expense (Income)



Other income was $1.0 million for the second quarter of 2019 compared with other
expense of $166,000 in the prior year quarter. Other income for the current year
quarter was primarily related to a net gain from insurance proceeds. Other
expense for the prior year quarter was primarily related to losses on the
disposition of property, plant and equipment.



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Income Taxes



Our effective tax rate for the second quarter of 2019 increased to 25.2% from
24.7% for the prior year quarter due to changes in permanent book versus tax
differences.



Net Earnings



Net earnings for the second quarter of 2019 decreased to $1.0 million ($0.05 per
share) from $5.9 million ($0.31 per share) in the prior year quarter primarily
due to the decrease in gross profit partially offset by the decrease in SG&A
expense and increase in other income.



First Half of Fiscal 2019 Compared to First Half of Fiscal 2018



Net Sales



Net sales for the first half of 2019 increased 5.3% to $216.1 million from
$205.2 million in the same year-ago period, reflecting a 24.6% increase in
average selling prices partially offset by a 15.5% decrease in shipments. The
increase in average selling prices was driven by price increases that were
implemented over the course of the prior year to recover the escalation in raw
material costs. Shipments for the current year period were unfavorably impacted
by the adverse weather conditions in many of our markets together with an
increase in low-priced import competition.



Gross Profit



Gross profit for the first half of 2019 decreased 33.5% to $18.0 million, or
8.3% of net sales, from $27.1 million, or 13.2% of net sales, in the same
year-ago period. The year-over-year decrease was primarily due to higher
manufacturing costs ($4.8 million) and lower shipments ($4.3 million) partially
offset by higher spreads between average selling prices and raw material costs
($556,000). The increase in spreads was driven by higher average selling prices
($42.1 million) partially offset by higher raw material costs ($41.1 million)
and freight expense ($478,000).



Selling, General and Administrative Expense




SG&A expense for the first half of 2019 decreased 1.1% to $13.1 million, or 6.1%
of net sales, from $13.2 million, or 6.5% of net sales, in the same year-ago
period primarily due to lower compensation expense ($930,000), partially offset
by the relative year-over-year changes in the cash surrender value of life
insurance policies ($213,000). The decrease in compensation expense was largely
driven by lower incentive plan expense based on our weaker results in the
current year period. The cash surrender value of life insurance policies
increased $62,000 in the current year period compared with $275,000 in the prior
year period due to the changes in the value of the underlying investments.



 Other Expense (Income)



Other income was $1.8 million for the first half of 2019 compared with other
expense of $185,000 in the same year ago period. Other income for the current
year period was primarily related to a gain from insurance proceeds ($1.0
million) and a net gain from the disposition of property, plant and equipment
($710,000). Other expense for the prior year period was primarily related to
losses on the disposition of property, plant and equipment.



Income Taxes



Our effective tax rate for the first half of 2019 increased to 23.9% from (1.9%)
for the same year ago period. The prior year rate benefited from a $3.7 million
gain on the remeasurement of deferred tax liabilities related to the lower
corporate tax rate enacted under the Tax Cuts and Jobs Act in December 2017.
Excluding the deferred tax gain, our effective tax rate decreased to 23.9% from
24.8% in the prior year period reflecting the reduction in the federal statutory
rate to 21% from 35% for three quarters of fiscal 2018.



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Net Earnings



Net earnings for the first half of 2019 decreased to $5.2 million ($0.27 per
share) from $14.0 million ($0.73 per share) in the same year-ago period
primarily due to the decrease in gross profit together with the prior year
income tax benefit related to enactment of the Tax Cuts and Jobs Act partially
offset by the other income in the current year period.



Liquidity and Capital Resources



                            Selected Financial Data

                             (Dollars in thousands)



                                                           Six Months Ended
                                                       March 30,      March 31,
                                                          2019           2018

Net cash provided by (used for) operating activities $ (40,191 )$ 24,493 Net cash used for investing activities

                     (7,296 )      (12,740 )
Net cash provided by (used for) financing activities        4,036        (20,394 )

Net working capital                                       133,441        103,088
Total debt                                                  5,365              -
Percentage of total capital                                   2.1 %            -
Shareholders' equity                                   $  246,530$  218,045
Percentage of total capital                                  97.9 %       

100.0 % Total capital (total debt + shareholders' equity) $ 251,895$ 218,045





Operating Activities



Operating activities used $40.2 million of cash during the first half of 2019
primarily from a net increase in the working capital components of accounts
receivable, inventories, and accounts payable and accrued expenses partially
offset by net earnings adjusted for non-cash items. Net working capital used
$52.5 million of cash due to a $30.3 million decrease in accounts payable and
accrued expenses and a $23.1 million increase in inventories partially offset by
a $0.9 million decrease in accounts receivable. The decrease in accounts payable
and accrued expenses was largely due to lower raw material purchases during the
period, and, to a lesser extent, the payment of accrued incentive compensation,
property taxes and customer rebates for the prior year. The increase in
inventories was primarily driven by the reduction in shipments and higher unit
costs during the period. The decrease in accounts receivable was principally due
to the usual seasonal downturn in sales compounded by the adverse weather.



Operating activities provided $24.5 million of cash during the first half of
2018 primarily from net earnings adjusted for non-cash items together with a
decrease in the net working capital components of accounts receivable,
inventories, and accounts payable and accrued expenses. Net working capital
provided $4.3 million of cash due to an $18.7 million decrease in inventories,
partially offset by a $10.2 million increase in accounts receivable and a $4.2
million decrease in accounts payable and accrued expenses. The decrease in
inventories and increase in accounts receivable were primarily related to
increasing sales during the latter part of the period. The decrease in accounts
payable and accrued expenses was principally due to the payment of accrued
incentive compensation and property taxes for the prior year.



We may elect to adjust our operating activities as there are changes in our
construction end-markets, which could materially impact our cash requirements.
While a downturn in the level of construction activity adversely affects sales
to our customers, it generally reduces our working capital requirements.



Investing Activities



Investing activities used $7.3 million of cash during the first half of 2019
compared to $12.7 million during the same period last year primarily due to the
acquisition of a business in the prior year ($3.3 million), lower capital
expenditures ($1.2 million) and the receipt of insurance proceeds in the current
year related to an insurance claim ($1.0 million). Capital expenditures
decreased to $8.1 million from $9.3 million in the prior year period and are
expected to total up to $22.0 million for fiscal 2019 primarily focused on cost
and productivity improvement initiatives in addition to recurring maintenance.



                                       19
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Our investing activities are largely discretionary, providing us with the ability to significantly curtail outlays should business conditions warrant that such actions be taken.




Financing Activities



Financing activities provided $4.0 million of cash during the first half of 2019
while using $20.4 million during the same period last year primarily due to
lower cash dividend payments ($19.0 million) and borrowings on our revolving
credit facility in the current year period ($5.4 million). Cash dividends used
$1.2 million of cash during the current year period compared with $20.2 million
in the prior year period, which included a special cash dividend totaling $19.0
million, or $1.00 per share.



Cash Management


Our cash is principally concentrated at one financial institution, which at times exceeds federally insured limits. We invest excess cash primarily in money market funds, which are highly liquid securities that bear minimal risk.



Credit Facility



We have a $100.0 million revolving credit facility (the "Credit Facility")
maturing May 13, 2020 that is used to supplement our operating cash flow and
fund our working capital, capital expenditure, general corporate and growth
requirements. Advances under the Credit Facility are limited to the lesser of
the revolving loan commitment amount (currently $100.0 million) or a borrowing
base amount that is calculated based upon a percentage of eligible receivables
and inventories. As of March 30, 2019, $5.4 million of borrowings were
outstanding on the Credit Facility, $92.8 million of borrowing capacity was
available and outstanding letters of credit totaled $1.8 million (see Note 9 to
the consolidated financial statements).



We believe that, in the absence of significant unanticipated cash demands, cash
and cash equivalents, net cash generated by operating activities and the
borrowing availability provided under the Credit Facility will be sufficient to
satisfy our expected requirements for working capital, capital expenditures,
dividends and share repurchases, if any. We expect to have access to the amounts
available under the Credit Facility as required. However, should we experience
future reductions in our operating cash flows due to weakening conditions in our
construction end-markets and reduced demand from our customers, we may need to
curtail capital and operating expenditures, delay or restrict share repurchases,
cease dividend payments and/or realign our working capital requirements.



Should we determine, at any time, that we required additional short-term
liquidity, we would evaluate the alternative sources of financing that would be
potentially available to provide such funding. There can be no assurance that
any such financing, if pursued, would be obtained, or if obtained, would be
adequate or on terms acceptable to us. However, we believe that our strong
balance sheet, flexible capital structure and borrowing capacity available to us
under our Credit Facility position us to meet our anticipated liquidity
requirements for the foreseeable future, including the next 12 months.



Seasonality and Cyclicality



Demand in our markets is both seasonal and cyclical, driven by the level of
construction activity, but can also be impacted by fluctuations in the inventory
positions of our customers. From a seasonal standpoint, shipments typically
reach their highest level of the year when weather conditions are the most
conducive to construction activity. As a result, assuming normal seasonal
weather patterns, shipments and profitability are usually higher in the third
and fourth quarters of the fiscal year and lower in the first and second
quarters. From a cyclical standpoint, construction activity and demand for our
products is generally correlated with general economic conditions, although
there can be significant differences between the relative strength of
nonresidential and residential construction for extended periods.



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Impact of Inflation



We are subject to inflationary risks arising from fluctuations in the market
prices for our primary raw material, hot-rolled carbon steel wire rod, and, to a
much lesser extent, freight, energy and other consumables that are used in our
manufacturing processes. We have generally been able to adjust our selling
prices to pass through increases in these costs or offset them through various
cost reduction and productivity improvement initiatives. However, our ability to
raise our selling prices depends on market conditions and competitive dynamics,
and there may be periods during which we are unable to fully recover increases
in our costs. During the first half of fiscal 2019, the year-over-year
escalation in our raw material costs exceeded the increase in our selling prices
due to competitive pricing pressures. The timing and magnitude of any future
increases in our raw material costs and the selling prices for our products is
uncertain at this time.


Off-Balance Sheet Arrangements




We do not have any material transactions, arrangements, obligations (including
contingent obligations), or other relationships with unconsolidated entities or
other persons, as described by Item 303(a)(4) of Regulation S-K of the SEC, that
have or are reasonably likely to have a material current or future impact on our
financial condition, results of operations, liquidity, capital expenditures,
capital resources or significant components of revenues or expenses.



Contractual Obligations


There have been no material changes in our contractual obligations and commitments as disclosed in our 2018 Annual Report other than those which occur in the ordinary course of business.



Critical Accounting Policies



Our Management's Discussion and Analysis of Financial Condition and Results of
Operations is based on our unaudited financial statements, which have been
prepared in accordance with accounting principles generally accepted in the U.S.
for interim financial information. The preparation of our financial statements
requires the application of these accounting principles in addition to certain
estimates and judgments based on current available information, actuarial
estimates, historical results and other assumptions believed to be reasonable.
Actual results could differ from these estimates. Please refer to "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Critical Accounting Policies" included in our 2018 Annual Report for further
information regarding our critical accounting policies and estimates. As of
March 30, 2019, there were no changes in the nature of our critical accounting
policies or the application of those policies from those reported in our 2018
Annual Report other than Accounting Standards Update No. 2014-09 "Revenue from
Contracts with Customers".


Recent Accounting Pronouncements




Refer to Note 2 of the Notes to Consolidated Financial Statements in Item 1 of
this Quarterly Report for recently adopted and issued accounting pronouncements
including the expected dates of adoption and estimated effects, if any, on our
consolidated financial statements.



Outlook



Looking ahead to the remainder of 2019, we expect our financial results will be
favorably impacted by the continued growth in our construction end-markets and
the weather-related deferral of business from the first half of the year. The
leading indicators and industry forecasts for nonresidential construction remain
positive. The infrastructure-related portion of our business should benefit from
increased federal funding through the FAST Act and supplementary measures
together with higher state and local spending in many of our markets supported
by various initiatives such as fuel tax increases, bond issuances and other
ballot measures.



We expect business conditions will remain challenging, however, in view of the
escalation in our raw material costs resulting from the Section 232 tariffs on
imported steel and the duties that have been imposed against certain countries
in response to the recent trade cases initiated by domestic wire rod producers.
We will continue to focus on the operational fundamentals of our business:
closely managing and controlling our expenses; aligning our production schedules
with demand in a proactive manner as there are changes in market conditions to
minimize our cash operating costs; and pursuing further improvements in the
productivity and effectiveness of all of our manufacturing, selling and
administrative activities. We also expect gradually increasing contributions
from the substantial investments we have made in our facilities in the form of
reduced operating costs and additional capacity to support future growth (see
"Cautionary Note Regarding Forward-Looking Statements" and "Risk Factors"). In
addition, we will continue to pursue further acquisitions in our existing
businesses that expand our penetration of markets we currently serve or expand
our footprint.



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© Edgar Online, source Glimpses

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