INSTEEL INDUSTRIES, INC. 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," "continue," "outlook," "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 numerous 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 theU.S. Securities and Exchange Commission ("SEC"), in particular in our Annual Report on Form 10-K for the fiscal year endedSeptember 28, 2019 (our "2019 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. 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: ? the impact of COVID-19 on the economy, demand for our products and our operations, including the measures taken by governmental authorities to address it, which may precipitate or exacerbate other risks and/or uncertainties; ? 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;
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? 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
imported steel, 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 2019 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.
On March 16, 2020 , we, through our wholly-owned subsidiary, Insteel Wire
Products ("IWP"), purchased substantially all of the assets of Strand-Tech
Manufacturing, Inc. ("STM") for an adjusted purchase price of $19.4 million ,
which reflects certain post-closing adjustments (the "STM Acquisition"). STM was
a leading manufacturer of PC strand for concrete construction applications. We
acquired, among other assets, STM's accounts receivable, inventories, production
equipment and facility located in Summerville, South Carolina and assumed
certain of its accounts payable and accrued liabilities.
Impact of COVID-19
In March 2020 , the World Health Organization characterized COVID-19 as a
pandemic, and the President of the United States declared the COVID-19 outbreak
a national emergency. The rapid spread of the outbreak has caused significant
disruptions in the U.S. and global economies, and economists expect the impact
will continue to be significant during the remainder of 2020. We are a company
operating in a critical infrastructure industry, as defined by the U.S.
Department of Homeland Security and our facilities have been allowed to remain
open. Accordingly, COVID-19 has had limited impact on our operations to date. We
have implemented new procedures to support the health and safety of our
employees and we are following all U.S. Centers for Disease Control and
Prevention and state and local health department guidelines. The costs
associated with these safety procedures were not material. In view of the
rapidly changing business environment, unprecedented market volatility and
heightened degree of uncertainty resulting from COVID-19, we are currently
unable to fully determine its future impact on our business. However, we are
concerned about the potential impact of future funding constraints on
infrastructure projects and the uncertain economic environment on activity in
the private non-residential construction market. We are continuing to monitor
the progression of the pandemic and its potential effect on our financial
position, results of operations, and cash flows.
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Results of Operations
Statements of Operations - Selected Data
(Dollars in thousands)
Three Months Ended Nine Months Ended
June 27, June 29, June 27, June 29,
2020 Change 2019 2020 Change 2019
Net sales $ 121,959 (3.4 %) $ 126,252 $ 334,387 (2.3% ) $ 342,310
Gross profit 14,805 79.8 % 8,236 36,325 38.5 % 26,233
Percentage of net
sales 12.1 % 6.5 % 10.9 % 7.7 %
Selling, general and
administrative
expense $ 6,694 21.4 % $ 5,516 $ 22,040 18.5 % $ 18,606
Percentage of net
sales 5.5 % 4.4 % 6.6 % 5.4 %
Restructuring charges
8 100.0 % - 195 100.0 % -
Other income, net (1,240 ) N/M (23 ) (1,283 ) (29.6 %) (1,823 )
Interest expense 26 (58.1 %) 62 78 (43.1 %) 137
Interest income (22 ) 144.4 % (9 ) (452 ) 156.8 % (176 )
Effective income tax
rate 21.9 % 18.6 % 21.7 % 22.4 %
Net earnings $ 6,664 204.3 % $ 2,190 $ 11,583 57.3 % $ 7,365 "N/M" = not meaningful
Third Quarter of Fiscal 2020 Compared to Third Quarter of Fiscal 2019
Net Sales Net sales for the third quarter of 2020 decreased 3.4% to$122.0 from$126.3 million in the prior year quarter, reflecting an 11.7% decrease in average selling prices partially offset by a 9.5% increase in shipments. The decrease in average selling prices was driven by competitive pricing pressures resulting from an increase in low-priced import competition. The increase in shipments was primarily due to improved market conditions, the STM Acquisition and strengthening demand for our products relative to the prior year, which was unfavorably impacted by unusually wet weather across many of our markets. Shipments for the current year quarter were not materially impacted by the COVID-19 pandemic. Gross Profit Gross profit for the third quarter of 2020 increased 79.8% to$14.8 million , or 12.1% of net sales, from$8.2 million , or 6.5% of net sales, in the prior year quarter due to higher spreads between average selling prices and raw material costs ($5.4 million ) and the increase in shipments ($814,000 ). The increase in spreads was driven by lower raw material costs ($22.7 million ) partially offset by lower average selling prices ($17.3 million ).
Selling, General and Administrative Expense
Selling, general and administrative expense ("SG&A expense") for the third
quarter of 2020 increased 21.4% to $6.7 million , or 5.5% of net sales, from $5.5
million , or 4.4% of net sales in the prior year quarter primarily due to higher
compensation ($1.1 million ) and legal expense ($666,000 ) partially offset by the
relative year-over-year changes in the cash surrender value of life insurance
policies ($589,000 ). The increase in compensation expense was largely driven by
higher incentive plan expense due to our improved financial results in the
current year. The increase in legal expense was primarily related to costs
associated with trade matters. The cash surrender value of life insurance
policies increased $731,000 in the current year quarter compared with $142,000
in the prior year quarter due to the changes in the value of the underlying
investments.
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Restructuring Charges, Net Net restructuring charges of$808,000 were incurred in the third quarter of 2020 related to the closure of theSummerville, South Carolina facility, which had been acquired through the STM Acquisition. Restructuring charges included facility closure costs ($373,000 ), asset impairments ($343,000 ), employee separation ($76,000 ) and equipment relocation costs ($16,000 ). Other Income
Other income was
Income Taxes Our effective tax rate for the third quarter of 2020 increased to 21.9% from 18.6% for the prior year quarter primarily due to changes in book versus tax differences during the prior year period. Net Earnings Net earnings for the third quarter of 2020 increased to$6.7 million ($0.34 per diluted share) from$2.2 million ($0.11 per share) in the prior year quarter primarily due to the increase in gross profit and other income partially offset by the increase in SG&A expense.
First Nine Months of Fiscal 2020 Compared to First Nine Months of Fiscal 2019
Net Sales Net sales for the first nine months of 2019 decreased 2.3% to$334.4 million from$342.3 million in the same year-ago period, reflecting a 14.0% decrease in average selling prices partially offset by a 13.5% increase in shipments. The decrease in average selling prices was driven by competitive pricing pressures resulting from an increase in low-priced import competition. The increase in shipments was primarily due to improved market conditions, the STM Acquisition and strengthening demand for our products relative to the prior year, which was unfavorably impacted by unusually wet weather across many of our markets. Shipments for the first nine months of the current year were not materially impacted by the COVID-19 pandemic. Gross Profit Gross profit for the first nine months of 2020 increased 38.5% to$36.3 million , or 10.9% of net sales, from$26.2 million , or 7.7% of net sales, in the same year-ago period due to higher spreads between average selling prices and raw material costs ($6.2 million ) and increase in shipments ($3.7 million ) partly offset by higher manufacturing costs ($562,000 ). The increase in spreads was driven by lower raw material costs ($61.6 million ) and freight expense ($461,000 ) partially offset by lower average selling prices ($55.9 million ).
Selling, General and Administrative Expense
SG&A expense for the first nine months of 2020 increased 18.5% to$22.0 million , or 6.6% of net sales, from$18.6 million , or 5.4% of net sales, in the same year-ago period primarily due to higher compensation ($1.5 million ) and legal expense ($835,000 ) along with the relative year-over-year changes in the cash surrender value of life insurance policies ($379,000 ). The increase in compensation expense was largely driven by higher incentive plan expense due to our improved financial results in the current year. The increase in legal expense was primarily related to costs associated with trade matters. The cash surrender value of life insurance policies decreased$175,000 in the current year period compared with$204,000 in the prior year period due to the changes in the value of the underlying investments. 21 --------------------------------------------------------------------------------
Restructuring Charges, Net
Net restructuring charges of
Other Income Other income was$1.3 million for the first nine months of 2020 compared with$1.8 million in the same year ago period. Other income for the current year was primarily related to a gain from the disposition of assets held for sale. Other income for the prior year period was primarily related to gains from property insurance proceeds ($1.2 million ) and the disposition of property, plant and equipment ($568,000 ). Income Taxes Our effective tax rate for the first nine months of 2020 decreased to 21.7% from 22.4% for the same year ago period primarily due to a$224,000 discrete tax benefit that was recorded in connection with the net operating loss carryback provisions of the Coronavirus Aid, Relief and Economic Security Act, which was enacted inMarch 2020 . Net Earnings Net earnings for the first nine months of 2020 increased to$11.6 million ($0.60 per share) from$7.4 million ($0.38 per share) in the same year-ago period primarily due to the increase in gross profit partially offset by the increase in SG&A expense and decrease in other income.
Liquidity and Capital Resources
Selected Financial Data
(Dollars in thousands)
Nine Months Ended
June 27 , June 29,
2020 2019
Net cash provided by (used for) operating activities
(19,627 ) (8,409 )
Net cash used for financing activities (1,811 ) (2,144 )
Net working capital 137,056 132,020
Total debt - -
Percentage of total capital - -
Shareholders' equity $ 257,066 $ 248,324
Percentage of total capital 100.0 %
100.0 %
Total capital (total debt + shareholders' equity)
Operating Activities Operating activities provided$44.6 million of cash during the first nine months of 2020 primarily from net earnings adjusted for non-cash items together with a net decrease in working capital. Working capital provided$19.1 million of cash due to a$26.3 million increase in accounts payable and accrued expenses partially offset by a$6.9 million increase in accounts receivable and a$0.3 million increase in inventories. The increase in accounts payable and accrued expenses was largely related to higher raw material purchases driven by the higher shipments during the period. The increase in accounts receivable was largely driven by the increase in shipments during the third quarter of 2020 partially offset by lower average selling prices. The increase in inventories was due to the higher raw material purchases during the current quarter mostly offset by lower unit costs. 22
-------------------------------------------------------------------------------- Operating activities used$25.9 million of cash during the first nine months of 2019 primarily from a net increase in the working capital partially offset by net earnings adjusted for non-cash items. Working capital used$43.4 million of cash due to a$33.6 million decrease in accounts payable and accrued expenses and a$10.5 million increase in inventories partially offset by a$0.7 million decrease in accounts receivable. The decrease in accounts payable and accrued expenses was largely due to payments related to higher raw material purchases that were made near the end of the prior year, and, to a lesser extent, the payment of accrued incentive compensation 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 primarily due to improved collections and lower days sales outstanding. 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$19.6 million of cash during the first nine months of 2020 compared to$8.4 million during the prior year period primarily due to the STM Acquisition ($18.4 million ) and lower capital expenditures ($6.0 million ) partially offset by the receipt of proceeds from the sale of assets held for sale ($1.9 million ). Proceeds of$1.2 million were received in the prior year period related to an insurance claim. Capital expenditures decreased to$3.4 million from$9.4 million in the prior year period and are expected to total up to$12.0 million for fiscal 2020 primarily focused on cost and productivity improvement initiatives in addition to recurring maintenance requirements.
Our investing activities are largely discretionary, providing us with the ability to significantly curtail outlays when warranted based on business conditions.
Financing Activities Financing activities used$1.8 million of cash during the first nine months of 2020 compared to$2.1 million during the prior year period. Cash dividends used$1.7 million of cash in both the current and prior year periods. 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") that is used to supplement our operating cash flow and fund our working capital, capital expenditure, general corporate and growth requirements. InMay 2019 , we entered into a new credit agreement, which amended and restated in its entirety the previous agreement pertaining to the revolving credit facility that had been in effect sinceJune 2010 . The new credit agreement, among other changes, extended the maturity date of the Credit Facility fromMay 13, 2020 toMay 15, 2024 and provided for an incremental feature whereby its size may be increased by up to$50.0 million , subject to our lender's approval. 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 ofJune 27, 2020 , no borrowings were outstanding on the Credit Facility,$94.4 million of borrowing capacity was available and outstanding letters of credit totaled$1.5 million (see Note 10 to the consolidated financial statements). COVID-19 has not had a material impact on our operations to date, and our cash and cash equivalents increased$21.0 million in the third quarter to$61.4 million as ofJune 27, 2020 . We believe that, in the absence of significant unanticipated funding requirements, 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, cease dividend payments, delay or restrict share repurchases and/or realign our working capital requirements. 23 -------------------------------------------------------------------------------- Should we determine, at any time, that we require 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 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. 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 nine months of fiscal 2020, selling prices for our products declined in response to low-priced import competition, which negatively impacted our financial results. 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 theSEC , 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 2019 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 theU.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 2019 Annual Report for further information regarding our critical accounting policies and estimates. As ofJune 27, 2020 , there were no changes in our critical accounting policies or the application of those policies from those reported in our 2019 Annual Report. 24
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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 Our visibility is limited due to the uncertainty surrounding the ultimate impact of COVID-19 on our operations and markets. As a result, the prospect, if any, of future funding constraints for public infrastructure projects and economic weakness slowing the non-residential construction markets cannot be measured at this time. In addition, we expect business conditions to remain challenging in our markets that are susceptible to import competition. In response to these challenges, we will continue to focus on those factors that we can control: 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 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. In addition, we will continue to pursue acquisitions opportunistically in our existing businesses that expand our penetration of markets we currently serve or expand our footprint.
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