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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended October 28, 2007
Commission File No. 0-12781
CULP, INC.
(Exact name of registrant as specified in its charter)
NORTH CAROLINA 56-1001967
(State or other jurisdiction of (I.R.S. Employer
incorporation or other organization) Identification No.)
1823 Eastchester Drive
High Point, North Carolina 27265-1402
(Address of principal executive offices) (zip code)
(336) 889-5161
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 of the Securities Exchange Act of 1934 during the
preceding 12 months and (2) has been subject to the filing requirements for at
least the past 90 days. |X| YES NO |_|
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one);
Large accelerated filer |_| Accelerated filer |_| Non-accelerated filer |X|
Indicate by check mark whether the registrant is a shell company (as defined by
Rule 12b-2 of the Exchange Act). |_| YES NO |X|
Indicate the number of shares outstanding of each issuer's classes of common
stock, as of the latest practical date:
Common shares outstanding at October 28, 2007: 12,634,526
Par Value: $0.05
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INDEX TO FORM 10-Q
For the period ended October 28, 2007
Page
----
Part I - Financial Statements
-----------------------------
Item 1. Unaudited Interim Consolidated Financial Statements:
Consolidated Statements of Net Income -- Three and Six Months I-1
Ended October 28, 2007 and October 29, 2006
Consolidated Balance Sheets -- October 28, 2007, October 29, 2006 I-2
and April 29, 2007
Consolidated Statements of Cash Flows -- Six Months Ended October I-3
28, 2007 and October 29, 2006
Consolidated Statements of Shareholders' Equity I-4
Notes to Consolidated Financial Statements I-5
Cautionary Statement Concerning Forward-Looking Information I-24
Item 2. Management's Discussion and Analysis of Financial Condition and I-24
Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk I-37
Item 4. Controls and Procedures I-37
Part II - Other Information
---------------------------
Item 1A. Risk Factors II-1
Item 4. Submission of Matters To A Vote of Security Holders II-1
Item 5. Other Information II-2
Item 6. Exhibits II-3
Signatures II-4
Item 1. Financial Statements
CULP, INC.
CONSOLIDATED STATEMENTS OF NET INCOME
FOR THE THREE MONTHS AND SIX MONTHS ENDED OCTOBER 28, 2007 AND OCTOBER 29, 2006
(UNAUDITED)
(Amounts in Thousands, Except for Per Share Data)
THREE MONTHS ENDED
-------------------------------------------------------------------------
Amounts Percent of Sales
----------------------------- ----------------------------
October 28, October 29, % Over October 28, October 29,
2007 2006 (Under) 2007 2006
-------------- -------------- -------------- -------------- ------------
Net sales $ 64,336 59,040 9.0% 100.0% 100.0%
Cost of sales 55,914 51,049 9.5% 86.9% 86.5%
-------------- -------------- -------------- -------------- ------------
Gross profit 8,422 7,991 5.4% 13.1% 13.5%
Selling, general and
administrative expenses 5,838 6,273 (6.9)% 9.1% 10.6%
Restructuring (credit) expense (84) 43 295.3% (0.1)% 0.1%
-------------- -------------- -------------- -------------- ------------
Income from operations 2,668 1,675 59.3% 4.1% 2.8%
Interest expense 809 938 (13.8)% 1.3% 1.6%
Interest income (63) (51) 23.5% (0.1)% (0.1)%
Other expense 463 31 N.M. 0.7% 0.1%
-------------- -------------- -------------- -------------- ------------
Income before income taxes 1,459 757 92.7% 2.3% 1.3%
Income taxes * (95) (55) 72.7% (6.5)% (7.3)%
-------------- -------------- -------------- -------------- ------------
Net income $ 1,554 812 91.4% 2.4% 1.4%
============== ============== ============== -------------- ------------
Net income per share, basic $ 0.12 0.07 71.4%
Net income per share, diluted $ 0.12 0.07 71.4%
Average shares outstanding, basic 12,635 11,686 8.1%
Average shares outstanding, diluted 12,809 11,689 9.6%
SIX MONTHS ENDED
-------------------------------------------------------------------------
Amounts Percent of Sales
----------------------------- ----------------------------
October 28, October 29, % Over October 28, October 29,
2007 2006 (Under) 2007 2006
-------------- -------------- -------------- -------------- ------------
Net sales $ 129,566 121,625 6.5% 100.0% 100.0%
Cost of sales 112,088 105,574 6.2% 86.5% 86.8%
-------------- -------------- -------------- -------------- ------------
Gross profit 17,478 16,051 8.9% 13.5% 13.2%
Selling, general and
administrative expenses 12,159 12,846 (5.3)% 9.4% 10.6%
Restructuring expense 348 466 (25.3)% 0.3% 0.4%
-------------- -------------- -------------- -------------- ------------
Income from operations 4,971 2,739 81.5% 3.8% 2.3%
Interest expense 1,627 1,888 (13.8)% 1.3% 1.6%
Interest income (121) (97) 24.7% (0.1)% (0.1)%
Other expense 695 60 N.M. 0.5% 0.0%
-------------- -------------- -------------- -------------- ------------
Income before income taxes 2,770 888 211.9% 2.1% 0.7%
Income taxes * 365 (58) (729.3)% 13.2% (6.5)%
-------------- -------------- -------------- -------------- ------------
Net income $ 2,405 946 154.2% 1.9% 0.8%
============== ============== ============== -------------- ------------
Net income per share, basic $ 0.19 0.08 137.5%
Net income per share, diluted $ 0.19 0.08 137.5%
Average shares outstanding, basic 12,609 11,679 8.0%
Average shares outstanding, diluted 12,776 11,682 9.4%
*Percent of sales column for income taxes is calculated as a % of income before income taxes.
See accompanying notes to consolidated financial statements.
I-1
CULP, INC.
CONSOLIDATED BALANCE SHEETS
OCTOBER 28, 2007, OCTOBER 29, 2006 AND APRIL 29, 2007
(UNAUDITED)
(Amounts in Thousands)
Amounts Increase
-------------------------- (Decrease)
October 28, October 29, * April 29,
------------------------
2007 2006 Dollars Percent 2007
------------ ------------ ----------- ------------ ------------
Current assets:
Cash and cash equivalents $ 16,830 9,706 7,124 73.4% 10,169
Accounts receivable, net 22,885 23,286 (401) (1.7)% 29,290
Inventories 41,518 44,430 (2,912) (6.6)% 40,630
Deferred income taxes 5,376 7,120 (1,744) (24.5)% 5,376
Assets held for sale 341 1,571 (1,230) (78.3)% 2,499
Income taxes receivable 491 - 491 100.0% -
Other current assets 1,271 1,506 (235) (15.6)% 1,824
------------ ------------ ----------- ------------ ------------
Total current assets 88,712 87,619 1,093 1.2% 89,788
Property, plant and equipment, net 37,887 42,487 (4,600) (10.8)% 37,773
Goodwill 4,114 4,114 - 0.0% 4,114
Deferred income taxes 25,762 22,023 3,739 17.0% 25,683
Other assets 2,439 1,354 1,085 80.1% 2,588
------------ ------------ ----------- ------------ ------------
Total assets $ 158,914 157,597 1,317 0.8% 159,946
============ ============ =========== ============ ============
Current liabilities:
Current maturities of long-term debt $ 12,834 7,742 5,092 65.8% 16,046
Lines of credit 4,016 - 4,016 100.0% 2,593
Accounts payable 21,124 18,540 2,584 13.9% 23,585
Accrued expenses 9,040 9,001 39 0.4% 8,670
Accrued restructuring costs 2,356 3,017 (661) (21.9)% 3,282
Income taxes payable - current - 3,880 (3,880) (100.0)% 4,579
------------ ------------ ----------- ------------ ------------
Total current liabilities 49,370 42,180 7,190 17.0% 58,755
Income taxes payable - long-term 4,299 - 4,299 100.0% -
Long-term debt, less current maturities 22,120 39,554 (17,434) (44.1)% 22,114
------------ ------------ ----------- ------------ ------------
Total liabilities 75,789 81,734 (5,945) (7.3)% 80,869
Shareholders' equity 83,125 75,863 7,262 9.6% 79,077
------------ ------------ ----------- ------------ ------------
Total liabilities and
shareholders' equity $ 158,914 157,597 1,317 0.8% 159,946
============ ============ =========== ============ ============
Shares outstanding 12,635 11,687 948 8.1% 12,569
============ ============ =========== ============ ============
* Derived from audited financial statements.
See accompanying notes to consolidated financial statements.
I-2
CULP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED OCTOBER 28, 2007 AND OCTOBER 29, 2006
(UNAUDITED)
(Amounts in Thousands)
SIX MONTHS ENDED
------------------------------
Amounts
------------------------------
October 28, October 29,
2007 2006
------------- -------------
Cash flows from operating activities:
Net income $ 2,405 946
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation 2,892 3,364
Amortization of other assets 186 41
Stock-based compensation 366 287
Excess tax benefit related to stock options
exercised (21) -
Deferred income taxes 266 (1,847)
Restructuring expenses, net of gain on sale of related
assets 73 (364)
Changes in assets and liabilities:
Accounts receivable 6,625 5,763
Inventories (888) (7,737)
Other current assets 553 (219)
Other assets (31) 148
Accounts payable (1,687) (1,965)
Accrued expenses 370 1,156
Accrued restructuring (1,002) (1,037)
Income taxes payable (250) 1,392
------------- -------------
Net cash provided by (used in) operating
activities 9,857 (72)
------------- -------------
Cash flows from investing activities:
Capital expenditures (3,385) (1,705)
Proceeds from the sale of buildings and equipment 2,045 2,738
------------- -------------
Net cash (used in) provided by investing
activities (1,340) 1,033
------------- -------------
Cash flows from financing activities:
Proceeds from lines of credit 1,423 -
Payments on vendor-financed capital expenditures (499) (670)
Payments on long-term debt (3,206) (426)
Proceeds from common stock issued 405 127
Excess tax benefit related to stock options exercised 21 -
------------- -------------
Net cash used in financing activities (1,856) (969)
------------- -------------
Increase (decrease) in cash and cash equivalents 6,661 (8)
Cash and cash equivalents at beginning of period 10,169 9,714
------------- -------------
Cash and cash equivalents at end of period $ 16,830 9,706
============= =============
See accompanying notes to consolidated financial statements.
I-3
CULP, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
UNAUDITED
(Dollars in thousands, except share data)
Capital
Contributed Accumulated
in Excess Other Total
Common Stock of Par Retained Comprehensive Shareholders'
Shares Amount Value Earnings Income (Loss) Equity
------------- --------- ----------- --------- ------------- ---------------
Balance, April 30, 2006 11,654,959 $ 584 40,350 33,571 18 $ 74,523
Net loss - - - (1,316) - (1,316)
Stock-based compensation - - 525 - - 525
Loss on cash flow hedge, net of taxes - - - - (22) (22)
Common stock issued in connection
with acquisition of assets 798,582 40 5,043 - - 5,083
Common stock issued in connection
with stock option plans 115,750 5 279 - - 284
------------- --------- ---------- --------- ------------- ---------------
Balance, April 29, 2007 12,569,291 629 46,197 32,255 (4) 79,077
Net income - - - 2,405 - 2,405
Stock-based compensation - - 366 - - 366
Gain on cash flow hedge, net of taxes - - - - 4 4
Excess tax benefit related to stock
options exercised - - 21 - - 21
Common stock issued in connection
with stock option plans 65,235 3 402 - - 405
Cumulative effect of adopting FASB
Interpretation No. 48 - - - 847 - 847
------------- --------- ---------- --------- ------------- ---------------
Balance, October 28, 2007 12,634,526 $ 632 46,986 35,507 - $ 83,125
============= ========= ========== ========= ============= ===============
See accompanying notes to consolidated financial statements.
I-4
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. Basis of Presentation
The accompanying unaudited consolidated financial statements of Culp, Inc. and
subsidiaries (the "company") include all adjustments, which are, in the opinion
of management, necessary for fair presentation of the results of operations and
financial position. All of these adjustments are of a normal recurring nature
except as disclosed in notes 11 and 14 to the consolidated financial statements.
Results of operations for interim periods may not be indicative of future
results. The unaudited consolidated financial statements should be read in
conjunction with the audited consolidated financial statements, which are
included in the company's annual report on Form 10-K filed with the Securities
and Exchange Commission on July 19, 2007 for the fiscal year ended April 29,
2007.
The company's six months ended October 28, 2007 and October 29, 2006 represent
26 week periods.
Reclassifications
Certain prior year amounts in the Consolidated Statement of Income for the three
months ended October 29, 2006 have been conformed to the current year
presentation. Sales proceeds received on equipment with no carrying value
related to closed plant facilities of $307,000 was reclassified from other
expense to restructuring expense to conform to the current year presentation.
Foreign Currency Adjustments
The United States dollar is the functional currency for the company, including
its, Canadian and Chinese subsidiaries. All foreign currency asset and liability
accounts are remeasured into U.S. dollars at exchange rates at the end of each
reporting period, except for inventories, and property, plant, and equipment,
which are recorded at historical rates. Foreign currency revenues and expenses
are remeasured at average exchange rates in effect during each reporting period,
except for certain expenses related to balance sheet amounts recorded at
historical exchange rates. Exchange gains and losses from remeasurement of
foreign currency denominated monetary assets and liabilities are recorded in the
other expense line item in the Consolidated Statements of Net Income in the
period in which they occur.
The value of the U.S. dollar relative to the Canadian dollar declined 11% for
the three-month period ending October 28, 2007. Foreign currency remeasurement
losses for the Canadian subsidiary were $359,000 and $53,000 for the three-month
periods ending October 28, 2007 and October 29, 2006, respectively. The Chinese
subsidiary had a remeasurement loss of $31,000 for the three-month period ending
October 28, 2007 and a remeasurement gain of $72,000 for the three-month period
ending October 29, 2006.
The value of the U.S. dollar relative to the Canadian dollar declined 16% for
the six-month period ending October 28, 2007. Foreign currency remeasurement
losses for the Canadian subsidiary were $501,000 and $41,000 for the six-month
periods ending October 28, 2007 and October 29, 2006, respectively. The Chinese
subsidiary had a remeasurement loss of $67,000 for the six-month period ending
October 28, 2007 and a remeasurement gain of $112,000 for the six-month period
ending October 29, 2006.
I-5
Accounting for Uncertainty in Income Taxes
During the first quarter of fiscal 2008, the company adopted Financial
Accounting Standards Board (FASB) Interpretation No. 48, "Accounting for
Uncertainty in Income Taxes" (FIN 48) which supplements SFAS No. 109,
"Accounting for Income Taxes", by defining the confidence level that a tax
position must meet in order to be recognized in the financial statements. FIN 48
requires that the tax effects of a position to be recognized only if it is
"more-likely-than-not" to be sustained based solely on its technical merits as
of the reporting date. The more-likely-than-not threshold represents a positive
assertion by management that a company is entitled to the economic benefits of a
tax position. If a tax position is not considered more-likely-than-not to be
sustained based solely on its technical merits, no benefits of the tax position
are to be recognized. Moreover, the more-likely-than-not threshold must continue
to be met in each reporting period to support continued recognition of the
benefit. With the adoption of FIN 48, entities are required to adjust their
financial statements to reflect only those tax positions that are
more-likely-than-not to be sustained. Any necessary adjustment would be recorded
directly to retained earnings and reported as a change in accounting principle.
The company adopted FIN 48 as of April 30, 2007, and recorded an increase in
retained earnings of $847,000 as a cumulative effect of a change in accounting
principle. Refer to Note 14 for more information regarding the impact of
adopting FIN 48. Adjustments subsequent to initial adoption are reflected within
the company's income tax expense.
2. Stock-Based Compensation
Effective May 1, 2006, the company began recording compensation expense
associated with its stock option plans in accordance with SFAS No. 123R,
"Share-Based Payment" which requires the measurement of the cost of employee
services received in exchange for an award of an equity instrument based on the
grant date fair value of the award. The company adopted the modified prospective
transition method provided for under SFAS No. 123R, and consequently has not
retroactively adjusted results from prior periods. Under this transition method,
compensation expense associated with stock options granted on or after May 1,
2006 is recorded in accordance with the provisions of SFAS No. 123R and stock
compensation expense associated with the remaining unvested portion of options
granted prior to May 1, 2006 is recorded based on their grant date fair value
estimated in accordance with the original provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation."
The company recorded $226,000 and $366,000 of compensation expense for stock
options within selling, general, and administrative expense for the three-month
and six-month periods ended October 28, 2007. The company recorded $155,000 and
$287,000 of compensation expense for stock options within selling, general, and
administrative expense for the three-month and six-month periods ended October
29, 2006.
Prior to the adoption of SFAS No. 123R, the benefit of tax deductions in excess
of recognized compensation costs were reported as a reduction of taxes paid
within operating cash flow. SFAS No. 123R requires such benefits be recorded as
a financing cash flow. For the six-month period ended October 29, 2007, the
company recognized $21,000 of excess tax benefits. There were no excess tax
benefits during the six-month period ended October 29, 2006.
The remaining unrecognized compensation costs related to unvested awards at
October 28, 2007 is $1.3 million which is expected to be recognized over a
weighted average period of 1.9 years.
I-6
On September 20, 2007, the company's shareholders approved a new equity
incentive plan entitled the Culp, Inc. 2007 Equity Incentive Plan (the "2007"
Plan"). The 2007 Plan will expand the types of equity based awards available for
grant by the company's Compensation Committee. The types of equity based awards
available for grant include stock options, stock appreciation rights, restricted
stock and restricted stock units, performance units, and other discretionary
awards as determined by the Compensation Committee. An aggregate of 1,200,000
shares of common stock were authorized for issuance under the 2007 Plan. In
conjunction with the approval of the 2007 Plan, the company's 2002 Stock Option
Plan was terminated (with the exception of currently outstanding options) and no
additional options will be granted under the 2002 Stock Plan.
Under the company's prior stock option plans (terminated with the approval of
the 2007 Plan) and the 2007 Plan, employees and directors were and may be
granted options to purchase shares of common stock at the fair market value on
the date of grant. Options granted under these plans generally vest over two to
four years and expire five to ten years after the date of grant. The fair value
of each option award was estimated on the date of grant using a Black-Scholes
option-pricing model. The fair value of stock options granted to employees at
each grant date under the 2002 stock option plan during the three-month and
six-month periods ended October 28, 2007 and October 29, 2006 was $4.74 and
$2.43 per share using the following assumptions:
--------------------------------------------------------------------------------
2008 2007
--------------------------------------------------------------------------------
Risk-free interest rate 4.92% - 5.09% 5.03%
Dividend yield 0.00% 0.00%
Expected volatility 38.59% - 65.74% 67.03%
Expected term (in years) 1.1 - 8.0 1.6
--------------------------------------------------------------------------------
The fair value of stock options granted to directors at each grant date under
the 2007 Plan for the three-month and six-month periods ended October 28, 2007
and the 2002 stock option plan for the three-month and six-month periods ended
October 29, 2006 were $7.19 and $3.68 per share using the following assumptions:
--------------------------------------------------------------------------------
2008 2007
--------------------------------------------------------------------------------
Risk-free interest rate 4.56% 4.57%
Dividend yield 0.00% 0.00%
Expected volatility 66.28% 68.36%
Expected term (in years) 8.0 6.8
--------------------------------------------------------------------------------
The assumptions utilized in the model are evaluated and revised, as necessary,
to reflect market conditions, actual historical experience, and groups of
employees (executives and non-executives) that have similar historical behavior
are considered separately for valuation purposes. The risk-free interest rate
for periods within the contractual life of the option was based on the U.S.
Treasury yield curve in effect at the time of grant. The dividend yield was
calculated based on the company's annual dividend as of the option grant date.
The expected volatility was derived using a term structure based on historical
volatility and the volatility implied by exchange-traded options on the
company's common stock. The expected term of the options is based on the
contractual term of the stock options, expected employee exercise and
post-vesting employment termination trends.
I-7
The following table summarizes the stock options (vested and unvested) as of
October 28, 2007 and option activity during the six-month period then ended:
--------------------------------------------------------------------------------
Weighted- Weighted-
Average Average Aggregate
Exercise Contractual Intrinsic
Shares Price Term Value
--------------------------------------------------------------------------------
Outstanding, April 29, 2007 926,000 $ 7.22
Granted 145,500 8.81
Expired/Canceled (117,750) 12.43
Exercised (65,235) 6.10 $ 241,765
--------------------------------------------------------------------------------
Outstanding, October 28, 2007 888,515 $ 6.88 3.9 Years $ 2.8 million
--------------------------------------------------------------------------------
At October 28, 2007, there were 1,194,000 shares available for future grants
under the company's 2007 Plan. Outstanding options to purchase 444,393 shares
were exercisable and had a weighted average exercise price of $7.75 per share,
an aggregate intrinsic value of $1.3 million and a weighted average contractual
term of 2.58 years.
The company has a stock-based compensation agreement with an individual that
requires the company to settle in cash and is indexed by shares of the company's
common stock as defined in the agreement. The cash settlement is based on a
30-day average closing price of the company's common stock at the time of
payment. At October 28, 2007, this agreement was indexed by approximately 85,000
shares of the company's common stock. The fair value of this agreement is
included in accrued expenses and was approximately $869,000 and $870,000 at
October 28, 2007 and April 29, 2007, respectively.
3. Accounts Receivable
A summary of accounts receivable follows:
--------------------------------------------------------------------------------
(dollars in thousands) October 28, 2007 April 29, 2007
--------------------------------------------------------------------------------
Customers $ 24,605 $ 31,192
Allowance for doubtful accounts (1,148) (1,332)
Reserve for returns and allowances and discounts (572) (570)
--------------------------------------------------------------------------------
$ 22,885 $ 29,290
--------------------------------------------------------------------------------
A summary of the activity in the allowance for doubtful accounts follows:
--------------------------------------------------------------------------------
Six months ended
(dollars in thousands) October 28, 2007 October 29, 2006
--------------------------------------------------------------------------------
Beginning balance $ (1,332) $ (1,049)
Provision (recovery) of bad debt expense 15 (115)
Write-offs, net of recoveries 169 72
--------------------------------------------------------------------------------
Ending balance $ (1,148) $ (1,092)
--------------------------------------------------------------------------------
I-8
A summary of the activity in the allowance for returns and allowances and
discounts accounts follows:
--------------------------------------------------------------------------------
Six months ended
(dollars in thousands) October 28, 2007 October 29, 2006
--------------------------------------------------------------------------------
Beginning balance $ (570) $ (826)
Provision for returns and allowances
and discounts (1,437) (1,235)
Discounts taken 1,435 905
--------------------------------------------------------------------------------
Ending balance $ (572) $ (1,156)
--------------------------------------------------------------------------------
4. Inventories
Inventories are carried at the lower of cost or market. Cost is determined using
the FIFO (first-in, first-out) method.
A summary of inventories follows:
--------------------------------------------------------------------------------
(dollars in thousands) October 28, 2007 April 29, 2007
--------------------------------------------------------------------------------
Raw materials $ 10,851 $ 10,200
Work-in-process 1,933 1,711
Finished goods 28,734 28,719
--------------------------------------------------------------------------------
$ 41,518 $ 40,630
--------------------------------------------------------------------------------
5. Other Assets
A summary of other assets follows:
--------------------------------------------------------------------------------
(dollars in thousands) October 28, 2007 April 29, 2007
--------------------------------------------------------------------------------
Cash surrender value - life insurance $ 1,154 $ 1,154
Non-compete agreement, net 933 1,076
Other 352 358
--------------------------------------------------------------------------------
$ 2,439 $ 2,588
--------------------------------------------------------------------------------
At October 28, 2007 and April 29, 2007, the gross carrying amount of the
non-compete agreement was $1.1 million. At October 28, 2007 and April 29, 2007
accumulated amortization for the non-compete agreement was $215,000 and $72,000,
respectively. The non-compete agreement will be amortized on a straight-line
basis over the four year life of the agreement. Amortization expense for the
non-compete agreement for the three-month and six month periods ended October
28, 2007 were $72,000 and $144,000, respectively. No amortization expense for
this non-compete agreement was incurred during the six-month period ended
October 29, 2006. The remaining amortization expense for the next four fiscal
years follows: FY 2008 - $144,000; FY 2009 - $287,000; FY 2010 - $287,000; and
FY 2011 - $215,000.
I-9
6. Accounts Payable
A summary of accounts payable follows:
--------------------------------------------------------------------------------
(dollars in thousands) October 28, 2007 April 29, 2007
--------------------------------------------------------------------------------
Accounts payable-trade $ 20,341 $ 22,027
Accounts payable-capital expenditures 783 1,558
--------------------------------------------------------------------------------
$ 21,124 $ 23,585
--------------------------------------------------------------------------------
7. Accrued Expenses
A summary of accrued expenses follows:
--------------------------------------------------------------------------------
(dollars in thousands) October 28, 2007 April 29, 2007
--------------------------------------------------------------------------------
Compensation, commissions and related benefits $ 4,081 $ 4,941
Interest 310 314
Accrued rebates 2,018 1,013
Other 2,631 2,402
--------------------------------------------------------------------------------
$ 9,040 $ 8,670
--------------------------------------------------------------------------------
8. Long-Term Debt and Lines of Credit
A summary of long-term debt and lines of credit follows:
--------------------------------------------------------------------------------
(dollars in thousands) October 28, 2007 April 29, 2007
--------------------------------------------------------------------------------
Unsecured term notes $ 27,688 $ 30,905
Real estate loan - I 3,935 4,039
Real estate loan - II 2,500 2,500
Canadian government loan 831 716
--------------------------------------------------------------------------------
34,954 38,160
Current maturities of long-term debt (12,834) (16,046)
--------------------------------------------------------------------------------
Long-term debt, less current maturities $ 22,120 $ 22,114
--------------------------------------------------------------------------------
Lines of credit $ 4,016 $ 2,593
--------------------------------------------------------------------------------
Total borrowings $ 38,970 $ 40,753
--------------------------------------------------------------------------------
Term Notes
The company's unsecured term notes have a fixed interest rate of 8.80% (payable
semi-annually in March and September and subject to prepayment provisions each
fiscal quarter as defined in the agreement) and are payable over an average
remaining term of two years beginning November 2007 through March 2010. The
principal payments are required to be paid in annual installments over the next
three years as follows: Year 1 - $12.7 million; Year 2 - $7.5 million; and Year
3 - $7.5 million. The company prepaid $2.2 million during the first quarter,
$1.0 million in the second quarter, and $4.3 million in November 2007 all of
which was scheduled to be due in March 2008.
I-10
Real Estate Loan - I
The company has a real estate loan that is secured by a lien on the company's
corporate headquarters office located in High Point, NC. This term loan bears
interest at the one-month LIBOR plus an adjustable margin (7.52% at October 28,
2007) based on the company's debt/EBITDA ratio, as defined in the agreement and
is payable in varying monthly installments through September 2010, with a final
payment of $3.3 million in October 2010.
Real Estate Loan - II
The company has a term loan in the amount of $2.5 million in connection with the
ITG asset purchase agreement. This term loan is secured by a lien on the
company's corporate headquarters office located in High Point, NC and bears
interest at the one-month LIBOR plus an adjustable margin (8.13% at October 28,
2007) based on the company's debt/EBITDA ratio, as defined in the agreement.
This agreement requires the company to pay interest monthly with the entire
principal due on June 30, 2010.
Revolving Credit Agreement - United States
The company has an unsecured credit agreement that provides for a revolving loan
commitment of $6.5 million, including letters of credit up to $5.5 million. This
agreement expires on December 31, 2007, and bears interest at the one-month
LIBOR plus an adjustable margin (7.52% at October 28, 2007) based on the
company's debt/EBITDA ratio, as defined in the agreement. As of October 28,
2007, there were $2.3 million in outstanding letters of credit (all of which
related to workers compensation) and no borrowings outstanding under the
agreement.
Revolving Credit Agreement - China
The company's China subsidiary has an unsecured revolving credit agreement with
a bank in China to provide a line of credit available up to approximately $4
million, of which approximately $1 million includes letters of credit. This
credit agreement expires on February 1, 2008 and has an annual renewal option.
The company borrowed a total of $4.0 million in installments of $1.3 million in
February 2007, $1.3 million in March 2007, and $1.4 million in October 2007.
Each installment is up for renewal one year from the date of borrowing and the
bank is required to provide an advance notice of one year for repayment of each
respective installment. Interest is paid on a quarterly basis at a rate
determined by the Chinese government (with interest rates ranging from 5.81% to
6.93% at October 28, 2007). As of October 28, 2007, approximately $4.0 million
was outstanding under the agreement.
Canadian Government Loan
The company has an agreement with the Canadian government to provide for a term
loan that is non-interest bearing and is payable in 48 equal monthly
installments commencing December 1, 2009. The proceeds are to partially finance
capital expenditures at the company's Rayonese facility located in Quebec,
Canada.
Overall
The company's loan agreements require that the company maintain compliance with
certain financial ratios. At October 28, 2007, the company was in compliance
with these financial covenants.
I-11
The principal payment requirements of long-term debt during the next five years
are: Year 1 - $12.8 million; Year 2 - $7.8 million; Year 3 - $13.7 million; Year
4 - $208,000; Year 5 - $208,000; and thereafter - $225,000.
9. Interest Rate Hedging
In connection with one of the company's real estate loans, the company was
required to have an agreement to hedge the interest rate risk exposure on the
real estate loan. The company entered into a $2,170,000 notional principal
interest rate swap, which represents 50% of the principal amount of the real
estate loan, that effectively converted the floating rate LIBOR based payments
to fixed payments at 4.99% plus the spread calculated under the real estate loan
agreement. This agreement expires October 2010.
The company accounts for the interest rate swap as a cash flow hedge whereby the
fair value of this contract is reflected in other assets in the accompanying
consolidated balance sheets with the offset recorded as accumulated other
comprehensive income (loss). The fair value of the interest rate swap was
immaterial to the company's financial statements at October 28, 2007 and April
29, 2007. The fair value of the interest rate swap agreement was determined by
quoted market prices.
10. Cash Flow Information
Payments for interest and income taxes are as follows:
--------------------------------------------------------------------------------
Six months ended
(dollars in thousands) October 28, 2007 October 29, 2006
--------------------------------------------------------------------------------
Interest $ 1,631 $ 1,928
Income tax payments 830 443
--------------------------------------------------------------------------------
The company did not utilize any vendor financing for its capital expenditures
for the six months ended October 28, 2007 and October 29, 2006.
11. Restructuring and Asset Impairment Charges
The following summarizes the fiscal 2008 activity in the restructuring accrual
(dollars in thousands):
--------------------------------------------------------------------------------------------------------------------------------
Employee
Termination Lease Lease
Employee Benefit Termination Termination
Termination Payments and Other and Other Balance
Balance, Benefit Net of Cobra Exit Cost Exit Cost October 28,
(dollars in thousands) April 29, 2007 Credits Premiums Charges Payments 2007
--------------------------------------------------------------------------------------------------------------------------------
December 2006 Upholstery fabrics (1) $ 1,545 $ (260) $ (251) $ 417 $ (161) $ 1,290
September 2005 Upholstery fabrics (2) 258 (34) 5 (1) (18) 210
August 2005 Upholstery fabrics (3) 18 (29) 11 100 (100) -
Fiscal 2005 Upholstery fabrics (4) 154 (67) - 30 (82) 35
Fiscal 2003 Culp Decorative fabrics (5) 1,307 (8) (28) - (450) 821
--------------------------------------------------------------------------------------------------------------------------------
Totals $ 3,282 $ (398) $ (263) $ 546 $ (811) $ 2,356(6)
--------------------------------------------------------------------------------------------------------------------------------
(1) The restructuring accrual at October 28, 2007, represents employee
termination benefits and lease termination and exit costs of $794 and
$496, respectively. The restructuring accrual at April 29, 2007,
represents employee termination benefits and lease termination and exit
costs of $1,304 and $241, respectively. At October 28, 2007, assets held
for sale consisted of a building with a value of $341. At April 29,
2007, assets held for sale consisted of buildings and equipment with a
value of $2.2 million.
I-12
(2) The restructuring accrual at October 28, 2007, represents employee
termination benefits and lease termination and exit costs of $2 and
$208, respectively. The restructuring accrual at April 29, 2007,
represents employee termination benefits and lease termination and exit
costs of $31 and $227, respectively.
(3) The restructuring accrual at April 29, 2007 represents employee
termination benefits of $18. At October 28, 2007 there were no assets
held for sale. At April 29, 2007, assets held for sale consisted of
equipment with a value of $225,000.
(4) The restructuring accrual at October 28, 2007, represents employee
termination benefits and lease termination and exit costs of $2 and $33,
respectively. The restructuring accrual at April 29, 2007, represents
employee termination benefits and lease termination and exit costs of
$100 and $54, respectively.
(5) The restructuring accrual at October 28, 2007 represents employee
termination benefits and lease termination and exit costs of $4 and $817
respectively. The restructuring accrual at April 29, 2007 represents
employee termination benefits and lease termination and exit costs of
$43 and $1,264, respectively.
(6) The company's existing restructuring plans as of October 28, 2007 will
be substantially completed by the end of fiscal 2008.
The following summarizes restructuring and related charges incurred for the
six-month period ending October 28, 2007 (dollars in thousands):
--------------------------------------------------------------------------------------------------------------------------------
Sales
Operating Proceeds from
Costs on Lease Write-Downs Asset Employee Equipment
Closed Termination of Buildings Inventory Movement Termination With No
(dollars in thousands) Facilities Costs and Equipment Markdowns Costs Benefits Carrying Value Total
--------------------------------------------------------------------------------------------------------------------------------
December 2006 Upholstery
fabrics (7) $ 741 $ 417 $ 388 $ 404 $ 127 $ (260) $ (315) $ 1,502
September 2005 Upholstery
fabrics (8) - (1) - - - (34) - (35)
August 2005 Upholstery
fabrics (9) - 100 - - - (29) - 71
Fiscal 2005 Upholstery
fabrics (10) - 30 - - - (67) - (37)
Fiscal 2003 Culp Decorative
fabrics (11) 13 - - - - (8) - 5
--------------------------------------------------------------------------------------------------------------------------------
Totals $ 754 $ 546 $ 388 $ 404 $ 127 $ (398) $ (315) $ 1,506
--------------------------------------------------------------------------------------------------------------------------------
(7) Of this total charge, $1,094 was recorded in cost of sales, $51 was
recorded in selling, general and administrative expense, and $357 was
recorded in restructuring expense in the 2008 Consolidated Statement of
Net Income.
(8) This $35 credit was recorded in restructuring expense in the 2008
Consolidated Statement of Net Income.
(9) This $71 charge was recorded in restructuring expense in the 2008
Consolidated Statement of Net Income.
(10) This $37 credit was recorded in restructuring expense in the 2008
Consolidated Statement of Net Income.
(11) Of this total charge, a credit of $8 was recorded in restructuring
expense and a charge of $13 was recorded in cost of sales in the 2008
Consolidated Statement of Net Income.
I-13
The following summarizes restructuring and related charges for the six-month
period ending October 29, 2006. (dollars in thousands):
----------------------------------------------------------------------------------------------------------------------------
Sales
Operating Proceeds from
Costs on Lease Write-Downs Asset Employee Equipment
Closed Termination of Buildings Inventory Movement Termination With No
(dollars in thousands) Facilities Costs and Equipment Markdowns Costs Benefits Carrying Value Total
----------------------------------------------------------------------------------------------------------------------------
December 2006 Upholstery
fabrics (12) $ - $ - $ - $ - $ - $ - $ - $ -
September 2005 Upholstery
fabrics (13) 450 259 (40) - 209 (111) (235) 532
August 2005 Upholstery
fabrics (14) 49 - 35 - 48 23 (56) 99
Fiscal 2005 Upholstery
fabrics (15) 287 90 67 239 483 (133) (146) 887
Fiscal 2003 Culp Decorative
fabrics (16) 16 (22) - - - - - (6)
Fiscal 2001 Culp Decorative
fabrics (17) 26 - - - - (5) - 21
----------------------------------------------------------------------------------------------------------------------------
Totals $ 828 $ 327 $ 62 $ 239 $ 740 $ (226) $ (437) $ 1,533
----------------------------------------------------------------------------------------------------------------------------
(12) Restructuring plan was initiated in the third quarter of fiscal 2007.
(13) Of this total charge, $450 was recorded in cost of sales and $82 was
recorded in restructuring expense in the 2007 Consolidated Statement of
Net Income.
(14) Of this total charge, a charge of $49 was recorded in cost of sales, and
$50 was recorded in restructuring expense in the 2007 Consolidated
Statement of Net Income.
(15) Of this total charge, $496 was recorded in cost of sales, $30 was
recorded in selling, general, and administrative expenses and $361 was
recorded in restructuring expense in the 2007 Consolidated Statement of
Net Income.
(16) Of this total credit, a credit of $22 was recorded in restructuring
expense and a charge of $16 was recorded in cost of sales in the 2007
Consolidated Statement of Net Income.
(17) Of this total charge, $26 was recorded in cost of sales and a credit of
$5 was recorded in restructuring expense in the 2007 Consolidated
Statement of Net Income.
The following summarizes restructuring and related charges incurred in the
second quarter of fiscal 2008 (dollars in thousands):
------------------------------------------------------------------------------------------------------------------------------
Sales
Proceeds from
Operating Equipment
Costs on Lease Write-Downs Asset Employee With No
Closed Termination of Buildings Inventory Movement Termination Carrying
(dollars in thousands) Facilities Costs and Equipment Markdowns Costs Benefits Value Total
------------------------------------------------------------------------------------------------------------------------------
December 2006 Upholstery
fabrics (18) $ 260 $ 85 $ 27 $ 348 $ 73 $ (174) $ (114) $ 505
September 2005 Upholstery
fabrics (19) - (2) - - - (7) - (9)
August 2005 Upholstery
fabrics (20) - 100 - - - (19) - 81
Fiscal 2005 Upholstery
fabrics (21) - (4) - - - (49) - (53)
Fiscal 2003 Culp Decorative
fabrics (22) 8 - - - - - - 8
------------------------------------------------------------------------------------------------------------------------------
Totals $ 268 $ 179 $ 27 $ 348 $ 73 $ (249) $ (114) $ 532
------------------------------------------------------------------------------------------------------------------------------
I-14
(18) Of this total charge, $583 was recorded in cost of sales, $25 was
recorded in selling, general, and administrative expenses, and a credit
of $103 was recorded in restructuring expense in the 2008 Consolidated
Statement of Net Income.
(19) This $9 credit was recorded in restructuring expense in the 2008
Consolidated Statement of Net Income.
(20) This $81 charge was recorded in restructuring expense in the 2008
Consolidated Statement of Net Income.
(21) This $53 credit was recorded in restructuring expense in the 2008
Consolidated Statement of Net Income.
(22) This $8 charge was recorded in cost of sales in the 2008 Consolidated
Statement of Net Income.
The following summarizes restructuring and related charges incurred in the
second quarter of fiscal 2007 (dollars in thousands):
--------------------------------------------------------------------------------------------------------------------------
Sales
Proceeds from
Operating Equipment
Costs on Lease Write-Downs Asset Employee With No
Closed Termination of Buildings Inventory Movement Termination Carrying
(dollars in thousands) Facilities Costs and Equipment Markdowns Costs Benefits Value Total
--------------------------------------------------------------------------------------------------------------------------
December 2006 Upholstery
fabrics (23) $ - $ - $ - $ - $ - $ - $ - $ -
September 2005 Upholstery
fabrics (24) 110 250 (40) - 40 (137) - 223
August 2005 Upholstery
fabrics (25) 22 - 35 - 1 (105) (11) (58)
Fiscal 2005 Upholstery
fabrics (26) 185 83 (48) - 313 (219) (119) 195
Fiscal 2003 Culp Decorative
fabrics (27) 4 - - - - - - 4
--------------------------------------------------------------------------------------------------------------------------
Totals $ 321 $ 333 $ (53) $ - $ 354 $ (461) $ (130) $ 364
--------------------------------------------------------------------------------------------------------------------------
(23) Restructuring plan was initiated in the third quarter of fiscal 2007.
(24) Of this total charge, $110 was recorded in cost of sales, and $113 was
recorded in restructuring expense in the 2007 Consolidated Statement of
Net Income.
(25) Of this total credit, a charge of $22 was recorded in cost of sales and
a credit of $80 was recorded in restructuring expense in the 2008
Consolidated Statement of Net Income.
(26) Of this total charge, $155 was recorded in cost of sales, $30 was
recorded in selling, general, and administrative expenses, and $10 was
recorded in restructuring expense in the 2008 Consolidated Statement of
Net Income.
(27) This $4 charge was recorded in cost of sales in the 2008 Consolidated
Statement of Net Income.
I-15
12. Net Income Per Share
Basic net income per share is computed using the weighted-average number of
shares outstanding during the period. Diluted net income per share uses the
weighted-average number of shares outstanding during the period plus the
dilutive effect of stock options calculated using the treasury stock method.
Weighted average shares used in the computation of basic and diluted net income
per share follows:
-------------------------------------------------------------------------------------------
Three months ended
(amounts in thousands) October 28, 2007 October 29, 2006
-------------------------------------------------------------------------------------------
Weighted average common shares outstanding, basic 12,635 11,686
Effect of dilutive stock options 174 3
-------------------------------------------------------------------------------------------
Weighted average common shares outstanding, diluted 12,809 11,689
-------------------------------------------------------------------------------------------
Options to purchase 46,000 and 464,750 shares of common stock were not included
in the computation of diluted net income per share for the three months ended
October 28, 2007 and October 29, 2006, respectively, because the exercise price
of the options was greater than the average market price of the common shares.
-------------------------------------------------------------------------------------------
Six months ended
(amounts in thousands) October 28, 2007 October 29, 2006
-------------------------------------------------------------------------------------------
Weighted average common shares outstanding, basic 12,609 11,679
Effect of dilutive stock options 167 3
-------------------------------------------------------------------------------------------
Weighted average common shares outstanding, diluted 12,776 11,682
-------------------------------------------------------------------------------------------
Options to purchase 52,000 and 449,813 shares of common stock were not included
in the computation of diluted net income per share for the six months ended
October 28, 2007 and October 29, 2006, respectively, because the exercise price
of the options was greater than the average market price of the common shares.
13. Segment Information
The company's operations are classified into two segments: mattress fabrics and
upholstery fabrics. The mattress fabrics segment manufactures and sells fabrics
to bedding manufacturers. The upholstery fabrics segment manufactures and sells
fabrics primarily to residential and commercial (contract) furniture
manufacturers.
The company evaluates the operating performance of its segments based upon
income (loss) from operations before restructuring and related charges or
credits and certain unallocated corporate expenses. Unallocated corporate
expenses represent primarily compensation and benefits for certain executive
officers and all costs related to being a public company. Segment assets include
assets used in the operations of each segment and primarily consist of accounts
receivable, inventories, and property, plant and equipment. The mattress fabrics
segment also includes in segment assets, goodwill and other current and
non-current assets associated with the ITG acquisition. The upholstery fabrics
segment also includes assets held for sale in segment assets.
I-16
Financial information for the company's operating segments is as follows:
----------------------------------------------------------------------------------------------------
Three months ended
(dollars in thousands) October 28, 2007 October 29, 2006
----------------------------------------------------------------------------------------------------
Net sales:
Mattress Fabrics $ 36,010 $ 23,494
Upholstery Fabrics 28,326 35,546
----------------------------------------------------------------------------------------------------
Total net sales $ 64,336 $ 59,040
----------------------------------------------------------------------------------------------------
Gross profit:
Mattress Fabrics $ 6,038 $ 4,144
Upholstery Fabrics 2,975 4,138
----------------------------------------------------------------------------------------------------
Total segment gross profit 9,013 8,282
Restructuring related charges (591) (1) (291) (4)
----------------------------------------------------------------------------------------------------
Total gross profit $ 8,422 $ 7,991
----------------------------------------------------------------------------------------------------
Selling, general, and administrative expenses:
Mattress Fabrics $ 2,166 $ 1,674
Upholstery Fabrics 2,774 3,745
----------------------------------------------------------------------------------------------------
Total segment selling, general, and
administrative expenses 4,940 5,419
Unallocated corporate expenses 873 824
Restructuring related charges 25 (2) 30 (4)
----------------------------------------------------------------------------------------------------
Total selling, general, and administrative expenses $ 5,838 $ 6,273
----------------------------------------------------------------------------------------------------
Income (loss) from operations:
Mattress Fabrics $ 3,872 $ 2,470
Upholstery Fabrics 201 393
----------------------------------------------------------------------------------------------------
Total segment income from operations 4,073 2,863
Unallocated corporate expenses (873) (824)
Restructuring and related charges (532)(3) (364)(5)
----------------------------------------------------------------------------------------------------
Total income from operations 2,668 1,675
Interest expense (809) (938)
Interest income 63 51
Other expense (463) (31)
----------------------------------------------------------------------------------------------------
Income before income taxes $ 1,459 757
----------------------------------------------------------------------------------------------------
(1) The $591,000 represents restructuring related charges of $348,000 for
inventory markdowns and $243,000 for other operating costs associated with
closed plant facilities. These charges relate to the Upholstery Fabrics
segment.
(2) The $25,000 represents other operating costs associated with a closed plant
facility. These charges relate to the Upholstery Fabrics segment.
(3) The $532,000 represents $348,000 for inventory markdowns, $268,000 for other
operating costs associated with closed plant facilities, $179,000 for lease
termination and other exit costs, $73,000 for asset movement costs, $27,000
for write-downs of a building and equipment, a credit of $114,000 for sales
proceeds received on equipment with no carrying value, and a credit of
$249,000 for employee termination benefits. Of this total charge, $591,000,
$25,000, and a credit of $84,000 are included in cost of sales, selling,
general, and administrative expense, and restructuring expense,
respectively. These charges relate to the Upholstery Fabrics segment.
I-17
(4) The $291,000 and $30,000 restructuring related charges represent other
operating costs associated with closed plant facilities. These charges
relate to the Upholstery Fabrics segment.
(5) The $364,000 represents $354,000 for asset movement costs, $333,000 for
lease termination and other exit costs, $321,000 for other operating costs
associated with closed plant facilities, a credit of $53,000 for write-downs
of a building and equipment, a credit of $130,000 for sales proceeds
received on equipment with no carrying value, and a credit of $461,000
employee termination benefits. Of this total charge, $291,000, $30,000 and
$43,000 are included in cost of sales, selling, general, and administrative
expenses, and restructuring expense, respectively. These charges relate to
the Upholstery Fabrics segment.
------------------------------------------------------------------------------
Six months ended
(dollars in thousands) October 28, 2007 October 29, 2006
------------------------------------------------------------------------------
Net sales:
Mattress Fabrics $ 72,546 $ 45,339
Upholstery Fabrics 57,020 76,286
------------------------------------------------------------------------------
Total net sales $129,566 $121,625
------------------------------------------------------------------------------
Gross profit:
Mattress Fabrics $ 11,843 $ 7,665
Upholstery Fabrics 6,742 9,423
------------------------------------------------------------------------------
Total segment gross profit 18,585 17,088
Restructuring related charges (1,107) (6) (1,037) (9)
------------------------------------------------------------------------------
Total gross profit $ 17,478 $ 16,051
------------------------------------------------------------------------------
Selling, general, and administrative expenses:
Mattress Fabrics $ 4,208 $ 3,337
Upholstery Fabrics 6,092 7,453
------------------------------------------------------------------------------
Total segment selling, general, and
administrative expenses 10,300 10,790
Unallocated corporate expenses 1,808 2,026
Restructuring related charges 51 (7) 30 (10)
------------------------------------------------------------------------------
Total selling, general, and
administrative expenses $ 12,159 $ 12,846
------------------------------------------------------------------------------
Income (loss) from operations:
Mattress Fabrics $ 7,635 $ 4,328
Upholstery Fabrics 650 1,970
------------------------------------------------------------------------------
Total segment income from operations 8,285 6,298
Unallocated corporate expenses (1,808) (2,026)
Restructuring and related charges (1,506) (8) (1,533)(11)
------------------------------------------------------------------------------
Total income from operations 4,971 2,739
Interest expense (1,627) (1,888)
Interest income 121 97
Other expense (695) (60)
------------------------------------------------------------------------------
Income before income taxes $ 2,770 $ 888
------------------------------------------------------------------------------
I-18
(6) The $1.1 million represents restructuring related charges of $703,000 for
other operating costs associated with closed plant facilities and $404,000
for inventory markdowns. These charges relate to the Upholstery Fabrics
segment.
(7) The $51,000 represents other operating costs associated with a closed plant
facility. These charges relate to the Upholstery Fabrics segment.
(8) The $1.5 million represents $754,000 for other operating costs associated
with closed plant facilities, $546,000 for lease termination and other exit
costs, $404,000 for inventory markdowns, $388,000 for write-downs of
buildings and equipment, $127,000 for asset movement costs, a credit of
$315,000 for sales proceeds received on equipment with no carrying value,
and a credit of $398,000 for employee termination benefits. Of this total
charge, $1.1 million, $51,000, and $348,000, are included in cost of sales,
selling, general, and administrative expense, and restructuring expense,
respectively. These charges relate to the Upholstery Fabrics segment.
(9) The $1.0 million represents restructuring related charges of $798,000 for
other operating costs associated with closed plant facilities and $239,000
for inventory markdowns. These charges relate to the Upholstery Fabrics
segment.
(10) The $30,000 represents other operating costs associated with a closed plant
facility. These charges relate to the Upholstery Fabrics segment.
(11) The $1.5 million represents $828,000 for other operating costs on closed
plant facilities, $740,000 for asset movement costs, $327,000 for lease
termination and other exit costs, $239,000 inventory markdowns, $62,000 for
write-downs of buildings and equipment, a credit of $226,000 for employee
termination benefits, and a credit of $437,000 for sales proceeds received
on equipment with no carrying value. Of this total charge, $1.0 million,
$30,000 and $466,000 are included in cost of sales, selling, general, and
administrative expenses, and restructuring expense, respectively. These
charges relate to the Upholstery Fabrics segment.
I-19
Balance sheet information for the company's operating segments follow:
------------------------------------------------------------------------------
(dollars in thousands) October 28, 2007 April 29, 2007
------------------------------------------------------------------------------
Segment assets:
Mattress Fabrics
Current assets (12) $ 33,164 $ 32,990
Non-compete agreement, net 933 1,076
Goodwill 4,114 4,114
Property, plant and equipment (13) 22,333 22,849
------------------------------------------------------------------------------
Total mattress fabrics assets 60,544 61,029
------------------------------------------------------------------------------
Upholstery Fabrics
Current assets (14) 31,239 37,457
Assets held for sale 341 2,499
Property, plant and equipment (15) 15,513 14,880
------------------------------------------------------------------------------
Total upholstery fabrics assets 47,093 54,836
------------------------------------------------------------------------------
Total segment assets 107,637 115,865
Non-segment assets:
Cash and cash equivalents 16,830 10,169
Deferred income taxes 31,138 31,059
Other current assets 1,271 1,297
Income taxes receivable 491 -
Property, plant and equipment 41 44
Other assets 1,506 1,512
------------------------------------------------------------------------------
Total assets $158,914 $159,946
------------------------------------------------------------------------------
------------------------------------------------------------------------------
Six months ended
(dollars in thousands) October 28, 2007 October 29, 2006
------------------------------------------------------------------------------
Capital expenditures:
Mattress Fabrics $ 1,266 $ 54
Upholstery Fabrics 1,844 1,991
------------------------------------------------------------------------------
Total capital expenditures $ 3,110 $ 2,045
------------------------------------------------------------------------------
Depreciation expense:
Mattress Fabrics $ 1,795 $ 1,860
Upholstery Fabrics 1,097 1,504
------------------------------------------------------------------------------
Total segment depreciation expense $ 2,892 $ 3,364
------------------------------------------------------------------------------
(12) Current assets primarily represent accounts receivable and inventory. At
April 29, 2007 current assets also included a credit of future purchases of
inventory associated with the ITG acquisition of $527,000. This credit of
future purchases of inventory was fully utilized at October 28, 2007.
(13) Included in property, plant, and equipment are assets located in the U.S.
totaling $13.0 million and $12.8 million at October 28, 2007 and April 29,
2007, respectively. The remaining property, plant, and equipment are
located in Canada.
(14) Current assets represent accounts receivable and inventory for the
respective segment.
I-20
(15) Included in property, plant, and equipment are assets located in the U.S.
totaling $6.5 million and $7.2 million at October 28, 2007 and April 29,
2007, respectively. Included in this U.S. property, plant, and equipment
are various other corporate allocations totaling $3.7 million and $3.8
million at October 28, 2007 and April 29, 2007, respectively. As of October
28, 2007 and April 29, 2007, the company's U.S. based upholstery fabrics
property, plant, and equipment excluding corporate allocations was $2.8
million and $3.4 million, respectively. The remaining property, plant, and
equipment are located in China.
14. Income Taxes
Uncertainty In Income Taxes
During the first quarter of fiscal 2008, the company adopted Financial
Accounting Standards Board (FASB) Interpretation No. 48, "Accounting for
Uncertainty in Income Taxes" (FIN 48) which supplements SFAS No. 109,
"Accounting for Income Taxes", by defining the confidence level that a tax
position must meet in order to be recognized in the financial statements. FIN 48
requires that the tax effects of a position to be recognized only if it is
"more-likely-than-not" to be sustained based solely on its technical merits as
of the reporting date. The more-likely-than-not threshold represents a positive
assertion by management that a company is entitled to the economic benefits of a
tax position. If a tax position is not considered more-likely-than-not to be
sustained based solely on its technical merits, no benefits of the tax position
are to be recognized. Moreover, the more-likely-than-not threshold must continue
to be met in each reporting period to support continued recognition of the
benefit. With the adoption of FIN 48, entities are required to adjust their
financial statements to reflect only those tax positions that are
more-likely-than-not to be sustained. Any necessary adjustment would be recorded
directly to retained earnings and reported as a change in accounting principle.
The company adopted FIN 48 as of April 30, 2007, and recorded an increase in
retained earnings of $847,000 as a cumulative effect of a change in accounting
principle.
In May 2007, FASB issued FASB Staff Position FIN 48-1, "Definition of Settlement
in FASB Interpretation No.48" ("FSP FIN 48-1"). FSP FIN 48-1 provides guidance
on whether a tax position is effectively settled for the purpose of recognizing
previously unrecognized tax benefits. No adjustment was made upon adoption of
FSP FIN 48-1.
Upon adoption of FIN 48 as of April 30, 2007, the company had approximately $3.4
million of total gross unrecognized tax benefits, of which $3.1 million
represents the amount of gross unrecognized tax benefits that, if recognized,
would favorably affect the income tax rate in future periods. At October 28,
2007 the company had approximately $4.3 million of total gross unrecognized tax
benefits, of which $4.0 million represents the amount of gross unrecognized tax
benefits that, if recognized, would favorably affect the income tax rate in
future periods. The total gross unrecognized tax benefits of $4.3 million as of
October 28, 2007 are classified as income taxes payable - long-term in the
accompanying consolidated balance sheets.
The company has elected to classify interest and penalties, accrued as required
by FIN 48, as part of income tax expense. Upon adoption of FIN 48 as of April
30, 2007 and at October 28, 2007, the gross amount of interest and penalties due
to unrecognized tax benefits was $98,000 and $88,000, respectively. We
anticipate that the amount of unrecognized tax benefits will increase by
approximately $1.2 million by the end of the fiscal year. This increase
primarily relates to double taxation under applicable tax treaties with foreign
tax jurisdictions. United States federal and state tax returns filed by the
company remain subject to examination for tax years 2002 and subsequent due to
loss carryforwards. Canadian federal and provincial returns remain subject to
examination of tax years 2003 and subsequent.
I-21
Deferred Income Taxes
In making the judgment about the realization of the deferred tax assets,
management has considered both the negative and positive evidence, and concluded
that sufficient positive evidence exists to overcome the cumulative losses
experienced in recent years. Specifically, management considered the following,
among other factors: nature of the company's products; history of positive
earnings in the mattress fabrics segment; capital projects in progress to
further enhance the company's globally competitive cost structure in the
mattress fabrics segment; recent restructuring actions in the U.S. upholstery
fabrics business to adjust the U.S. cost structure and bring U.S. manufacturing
capacity in line with demand; development of offshore manufacturing and sourcing
programs to meet changing demands of upholstery fabric customers in the U.S.;
and the incremental sales volume from the purchase of certain assets from ITG
related to the mattress fabric product line of ITG's Burlington House Division.
Management's analysis of taxable income also included the following
considerations: none of the company's net operating loss carryforwards have
previously expired unused; the U.S. federal carryforward period is 20 years; and
the company's current income tax loss carryforwards principally expire in 16-20
years; fiscal 2022 through 2027. The amount of the deferred tax assets is
considered realizable, however, could be reduced if estimates of future taxable
income during the carryforward period are reduced.
Effective Income Tax Rate
The effective income tax rate (income taxes as a percentage of income before
income taxes) for the six months ended October 28, 2007 was 13.2% compared to
35.1% for the three months ended July 29, 2007. This decrease during the second
quarter of fiscal 2008 primarily reflects the projected income tax effects
related to the foreign exchange loss on Canadian income taxes (approximately
26%) offset by an increase in unrecognized tax benefits relating to double
taxation under applicable tax treaties with foreign tax jurisdictions
(approximately 6%).
The effective income rate (income taxes as a percentage of income before income
taxes) for the six months ended October 28, 2007 was 13.2% compared to an income
tax benefit of 6.5% for the six months ended October 29, 2006. This increase
primarily reflects higher taxable income from the company's U.S. operations
offset by the projected income tax effects related to the foreign exchange loss
on Canadian income taxes through the second quarter of fiscal 2008 compared to
the six-month period in fiscal 2007. This trend reflects increased profitability
in the mattress fabrics segment and lower estimated restructuring and related
charges for fiscal 2008 compared to fiscal 2007. The income tax benefit of 6.5%
as of October 29, 2006 reflected pre-tax losses from the company's U.S.
operations due to restructuring activities and lower income tax rates on income
from foreign sources.
The company's income tax expense and effective income tax rate, for both the
three-month and six-month periods ending October 28, 2007 and October 29, 2006,
were based upon the estimated effective income tax rate applicable for the full
years after giving effect to any significant items related specifically to
interim periods. The effective income tax rate can be impacted over the fiscal
year by the mix and timing of actual earnings from the company's U.S. operations
and foreign sources versus annual projections and changes in the foreign
currency in the relation the U.S. dollar
I-22
15. Statutory Reserves
The company's subsidiaries located in China are required to transfer 10% of its
net income, as determined in accordance with the People's Republic of China
(PRC) accounting rules and regulations, to a statutory surplus reserve fund
until such reserve balance reaches 50% of the company's registered capital.
The transfer to this reserve must be made before distribution of any dividend to
shareholders. As of October 28, 2007, the company's statutory surplus reserve
was $1.1 million, representing 10% of accumulated earnings and profits
determined in accordance with PRC accounting rules and regulations. The surplus
reserve fund is non-distributable other than during liquidation and can be used
to fund previous years' losses, if any, and may be utilized for business
expansion or converted into share capital by issuing new shares to existing
shareholders in proportion to their shareholding or by increasing the par value
of the shares currently held by them, provided that the remaining reserve
balance after such issue is not less than 25% of the registered capital.
16. Commitments
At October 28, 2007, the company had commitments to acquire equipment with
regards to its mattress fabrics segment for approximately $4.0 million.
17. Recently Issued Accounting Pronouncements
In September 2006, The FASB issued SFAS No. 157, "Fair Value of Measurements,"
which provides enhanced guidance for using fair value to measure assets and
liabilities. SFAS No. 157 establishes as common definition of fair value,
provides a framework for measuring fair value under accounting principles
generally accepted in the United States and expands disclosure requirements
about fair value measurements. SFAS No. 157 is effective for fiscal years
beginning after November 15, 2007 and is effective for the company in the first
quarter of fiscal 2009. The company is currently evaluating the impact, if any,
the adoption of SFAS No. 157 will have on its 2009 consolidated financial
statements.
In February 2007, the FASB issued Statement No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities." This statement, which is expected
to expand fair value measurement, permits entities to choose to measure many
financial instruments and certain other items at fair value. SFAS No. 159 is
effective for fiscal years beginning after November 15, 2007 and is effective
for the company in the first quarter of fiscal 2009. The company is currently
evaluating the impact, if any, the adoption of SFAS No. 159 will have on its
2009 consolidated financial statements.
I-23
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING INFORMATION
This report and the exhibits attached hereto contain statements that may be
deemed "forward-looking statements" within the meaning of the federal securities
laws, including the Private Securities Litigation Reform Act of 1995 (Section
27A of the Securities Act of 1933 and Section 27A of the Securities and Exchange
Act of 1934). Such statements are inherently subject to risks and uncertainties.
Further, forward looking statements are intended to speak only as of the date on
which they are made. Forward-looking statements are statements that include
projections, expectations or beliefs about future events or results or otherwise
are not statements of historical fact. Such statements are often but not always
characterized by qualifying words such as "expect," "believe," "estimate,"
"plan" and "project" and their derivatives, and include but are not limited to
statements about expectations for the company's future operations or success,
sales, gross profit margins, operating income, SG&A or other expenses, and
earnings, as well as any statements regarding future economic or industry trends
or future developments. Factors that could influence the matters discussed in
such statements include the level of housing starts and sales of existing homes,
consumer confidence, trends in disposable income, increases in utility and
energy costs, and general economic conditions. Decreases in these economic
indicators could have a negative effect on the company's business and prospects.
Likewise, increases in interest rates, particularly home mortgage rates, and
increases in consumer debt or the general rate of inflation, could affect the
company adversely. In addition, changes in consumer preferences for various
categories of furniture and bedding coverings, as well as changes in costs to
produce such products (including import duties and quotas or other import costs)
can have a significant effect on demand for the company's products. Also,
changes in the value of the U.S. dollar versus other currencies can affect the
company's financial results because a significant portion of the company's
operations are located outside the United States. Further, economic and
political instability in international areas could affect the company's
operations or sources of goods in those areas, as well as demand for the
company's products in international markets. Also, the level of success in
integrating the acquisition of assets from International Textile Group, Inc.
("ITG") and in capturing and retaining sales to customers related to the
acquisition will affect the company's ability to meet its sales goals. Finally,
unanticipated delays or costs in executing restructuring actions could cause the
cumulative effect of restructuring actions to fail to meet the objectives set
forth by management. Further information about these factors, as well as other
factors that could affect the company's future operations or financial results
and the matters discussed in forward-looking statements are included in Item 1A
"Risk Factors" section in the company's Form 10-K filed with the Securities and
Exchange Commission on July 19, 2007 for the fiscal year ended April 29, 2007.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Results of Operations
The following analysis of financial condition and results of operations should
be read in conjunction with the Financial Statements and Notes and other
exhibits included elsewhere in this report.
Overview
Culp, Inc. has operations classified into two business segments: mattress
fabrics and upholstery fabrics. The mattress fabrics segment manufacturers,
sources, and sells fabrics to bedding manufacturers. The upholstery fabrics
segment sources, manufactures, and sells fabrics to residential and commercial
(contract) furniture manufacturers. We believe that Culp is the largest marketer
of mattress fabrics in North America, and one of the largest marketers of
upholstery fabrics for furniture in North America, both measured by total sales.
I-24
The company evaluates the operating performance of its segments based upon
income (loss) from operations before restructuring and related charges or
credits and certain unallocated corporate expenses. Unallocated corporate
expenses represent primarily compensation and benefits for certain executive
officers and all costs related to being a public company. Segment assets include
assets used in operations of each segment and primarily consist of accounts
receivable, inventories, and property, plant, and equipment. The mattress
fabrics segment also includes in segment assets, goodwill and other current and
non-current assets associated with the ITG acquisition. The upholstery fabrics
segment also includes assets held for sale in segment assets.
The following tables set forth the net sales, gross profit, selling, general and
administrative expenses and operating income (loss) by segment for the three
months and six months ended October 28, 2007, and October 29, 2006.
I-25
CULP, INC.
SALES, GROSS PROFIT AND OPERATING INCOME LOSS) BY SEGMENT
FOR THE THREE MONTHS ENDED OCTOBER 28, 2007 AND OCTOBER 29, 2006
(Amounts in thousands)
THREE MONTHS ENDED (UNAUDITED)
------------------------------------------------------------------------
Amounts Percent of Total Sales
------------------------ -----------------------------------
October 28, October 29, % Over October 28, October 29,
Net Sales by Segment 2007 2006 (Under) 2007 2006
------------------------------------------ ----------- ---------- --------- ----------------- ----------------
Mattress Fabrics $ 36,010 23,494 53.3% 56.0% 39.8%
Upholstery Fabrics 28,326 35,546 (20.3)% 44.0% 60.2%
----------- ---------- --------- ----------------- ----------------
Net Sales $ 64,336 59,040 9.0% 100.0% 100.0%
=========== ========== ========= ================= ================
Gross Profit by Segment Gross Profit Margin
------------------------------------------ -----------------------------------
Mattress Fabrics $ 6,038 4,144 45.7% 16.8% 17.6%
Upholstery Fabrics 2,975 4,138 (28.1)% 10.5% 11.6%
----------- ---------- --------- ----------------- ----------------
Subtotal 9,013 8,282 8.8% 14.0% 14.0%
Restructuring related charges (591)(1) (291)(4) 103.1% (0.9)% (0.5)%
----------- ---------- --------- ----------------- ----------------
Gross Profit $ 8,422 7,991 5.4% 13.1% 13.5%
=========== ========== ========= ================= ================
Selling, General and Administrative
expenses by Segment Percent of Sales
------------------------------------------ -----------------------------------
Mattress Fabrics $ 2,166 1,674 29.4% 6.0% 7.1%
Upholstery Fabrics 2,774 3,745 (25.9)% 9.8% 10.5%
Unallocated Corporate expenses 873 824 5.9% 1.4% 1.4%
----------- ---------- --------- ----------------- ----------------
5,813 6,243 (6.9)% 9.0% 10.6%
Restructuring related charges 25(2) 30(4) (16.7)% 0.0% 0.1%
----------- ---------- --------- ----------------- ----------------
Selling, General and Administrative
expenses $ 5,838 6,273 (6.9)% 9.1% 10.6%
=========== ========== ========= ================= ================
Operating Income (loss) by Segment Operating Income (Loss) Margin
------------------------------------------ -----------------------------------
Mattress Fabrics $ 3,872 2,470 56.8% 10.8% 10.5%
Upholstery Fabrics 201 393 (48.9)% 0.7% 1.1%
Unallocated corporate expenses (873) (824) 5.9% (1.4)% (1.4)%
----------- ---------- --------- ----------------- ----------------
Subtotal 3,200 2,039 56.9% 5.0% 3.5%
Restructuring expense and restructuring
related charges (532)(3) (364)(5) 46.2% (0.8)% (0.6)%
----------- ---------- --------- ----------------- ----------------
Operating income $ 2,668 1,675 59.3% 4.1% 2.8%
=========== ========== ========= ================= ================
Depreciation by Segment
------------------------------------------
Mattress Fabrics $ 898 918 (2.2)%
Upholstery Fabrics 547 744 (26.5)%
----------- ---------- ---------
Subtotal 1,445 1,662 (13.1)%
=========== ========== =========
Notes:
(1) The $591,000 restructuring related charge represents $348,000 for inventory
markdowns and $243,000 for other operating costs associated with closed
plant facilities.
(2) The $25,000 restructuring related charge represents other operating costs
associated with closed plant facilities.
(3) The $532,000 represents $348,000 for inventory markdowns, $268,000 for
other operatings costs associated with closed plant facilities, $179,000
for lease termination and other exit costs, $73,000 for asset movement
costs, $27,000 for write-downs of a building and equipment, a credit of
$114,000 for proceeds received on equipment with no carrying value, and a
credit of $249,000 for employee termination benefits. Of this total charge,
$591,000 was recorded in cost of sales, $25,000 was recorded in selling,
general, and administrative expenses, and a credit of $84,000 was recorded
in restructuring expense.
(4) The $291,000 and $30,000 restructuring related charge represents other
operating costs associated with closed plant facilities.
(5) The $364,000 represents $354,000 for asset movement costs, $333,000 for
lease termination and other exit costs, $321,000 for other operating costs
associated with closed plant facilities, a credit of $53,000 for
write-downs of a building and equipment, a credit of $130,000 for sales
proceeds received on equipment with no carrying value, and a credit of
$461,000 for employee termination benefits. Of this total charge, $291,000
was recorded in cost of sales, $30,000 was recorded in selling, general,
and administrative expenses, and $43,000 was recorded in restructuring
expense. Certain prior year amounts have been conformed to current year
presentation. Sales proceeds received on equipment with no carrying value
of $307,000 was reclassified from other expense to restructuring expense to
conform to current year presentation.
I-26
CULP, INC.
SALES, GROSS PROFIT AND OPERATING INCOME (LOSS) BY SEGMENT
FOR THE SIX MONTHS ENDED OCTOBER 28, 2007 AND OCTOBER 29, 2006
(Amounts in thousands)
SIX MONTHS ENDED (UNAUDITED)
----------------------------------------------------------------------------
Amounts Percent of Total Sales
-------------------------- ----------------------------------
October 28, October 29, % Over October 28, October 29,
Net Sales by Segment 2007 2006 (Under) 2007 2006
--------------------------------------- ------------ ----------- ----------- -------------- ------------------
Mattress Fabrics $ 72,546 45,339 60.0% 56.0% 37.3%
Upholstery Fabrics 57,020 76,286 (25.3)% 44.0% 62.7%
------------ ----------- ----------- -------------- ------------------
Net Sales $ 129,566 121,625 6.5% 100.0% 100.0%
============ =========== =========== ============== ==================
Gross Profit by Segment Gross Profit Margin
--------------------------------------- -------------- ------------------
Mattress Fabrics $ 11,843 7,665 54.5% 16.3% 16.9%
Upholstery Fabrics 6,742 9,423 (28.5)% 11.8% 12.4%
------------ ----------- ----------- ------------- ------------------
Subtotal 18,585 17,088 8.8% 14.3% 14.0%
Restructuring related charges (1,107)(1) (1,037)(4) 6.8% (0.9)% (0.9)%
------------ ----------- ----------- -------------- ------------------
Gross Profit $ 17,478 16,051 8.9% 13.5% 13.2%
============ =========== =========== ============== ==================
Selling, General and Administrative
expenses by Segment Percent of Sales
--------------------------------------- ----------------------------------
Mattress Fabrics $ 4,208 3,337 26.1% 5.8% 7.4%
Upholstery Fabrics 6,092 7,453 (18.3)% 10.7% 9.8%
Unallocated Corporate expenses 1,808 2,026 (10.8)% 1.4% 1.7%
------------ ----------- ----------- -------------- ------------------
Subtotal 12,108 12,816 (5.5)% 9.3% 10.5%
Restructuring related charges 51(2) 30(5) 70.0% 0.0% 0.0%
------------ ----------- ----------- -------------- ------------------
Selling, General and Administrative
expenses $ 12,159 12,846 (5.3)% 9.4% 10.6%
============ =========== =========== ============== ==================
Operating Income (loss) by Segment Operating Income (Loss) Margin
--------------------------------------- ----------------------------------
Mattress Fabrics $ 7,635 4,328 76.4% 10.5% 9.5%
Upholstery Fabrics 650 1,970 (67.0)% 1.1% 2.6%
Unallocated corporate expenses (1,808) (2,026) (10.8)% (1.4)% (1.7)%
------------ ----------- ----------- -------------- ------------------
Subtotal 6,477 4,272 51.6% 5.0% 3.5%
Restructuring expense and restructuring
related charges (1,506)(3) (1,533)(6) (1.8)% (1.2)% (1.3)%
------------ ----------- ----------- -------------- ------------------
Operating income $ 4,971 2,739 81.5% 3.8% 2.3%
============ =========== =========== ============== ==================
Depreciation by Segment
---------------------------------------
Mattress Fabrics $ 1,795 1,860 (3.5)%
Upholstery Fabrics 1,097 1,504 (27.1)%
------------ ----------- -----------
Subtotal 2,892 3,364 (14.0)%
============ =========== ===========
Notes:
(1) The $1.1 million represents restructuring related charges of $703,000 for
other operating costs associated with closed plant facilities and $404,000
for inventory markdowns.
(2) The $51,000 restructuring related charge represents other operating costs
associated with a closed plant facilities.
(3) The $1.5 million represents $754,000 for other operating costs on closed
plant facilities, $546,000 for lease termination and other exit costs,
$404,000 for inventory markdowns, $388,000 for write-downs of buildings and
equipment, $127,000 for asset movement costs, a credit of $315,000 for
sales proceeds received on equipment with no carrying value, and a credit
of $398,000 for employee termination benefits. Of this total charge, $1.1
million was recorded in cost of sales, $51,000 was recorded in selling,
general, and administrative expenses, and $348,000 was recorded in
restructuring expense.
(4) The $1.0 million represents restructuring related charges of $798,000 for
other operating costs associated with closed plant facilities and $239,000
for inventory markdowns.
(5) The $30,000 represents a restructuring related charge for other operating
costs associated with closed plant facilities.
(6) The $1.5 million represents $828,000 for other operating costs on closed
plant facilities, $740,000 for asset movement costs, $327,000 for lease
termination costs, $239,000 for inventory markdowns, $62,000 for
write-downs of buildings and equipment, a credit of $226,000 for employee
termination benefits, and a credit of $437,000 for sales proceeds received
on equipment with no carrying value. Of this total charge, $1.0 million was
recorded in cost of sales, $30,000 was recorded in selling, general, and
administrative expenses, and $466,000 was recorded in restructuring
expense.
I-27
Three and Six Months ended October 28, 2007 compared with the Three and Six
Months ended October 29, 2006
Overview
For the three months ended October 28, 2007, net sales were $64.3 million, up 9%
compared with $59.0 million for the second quarter of fiscal 2007. The company
reported net income of $1.6 million, or $0.12 per diluted share, for the second
quarter of fiscal 2008. This represents a 91% year over year increase and
includes restructuring and related pre-tax charges of $532,000. The company
reported net income of $812,000, or $0.07 per diluted share, in the second
quarter of fiscal 2007, which included restructuring and related pre-tax charges
of $364,000. The effective income tax rate (income taxes as a percentage of
income before income taxes) for the six months ended October 28, 2007 was 13.2%
compared to 35.1% for the three months ended July 29, 2007. This decrease during
the second quarter of fiscal 2008 primarily reflects the projected income tax
effects related to the foreign exchange loss on Canadian income taxes (see Note
14 in the Notes to Consolidated Financial Statements)
For the six months ended October 28, 2007, net sales were $129.6 million, up 7%
compared with $121.6 million for the six months ended October 29, 2006. The
company reported net income of $2.4 million, or $0.19 per diluted share, for the
six months ended October 28, 2007. This represents a 154% year over year
increase and includes restructuring and related pre-tax charges of $1.5 million.
The company reported net income of $946,000, or $0.08 per diluted share for the
six months ended October 29, 2006, which included restructuring and related
pre-tax charges of $1.5 million. This trend reflects increased profitability in
the mattress fabrics segment and lower estimated restructuring and related
charges for fiscal 2008 compared to fiscal 2007. The effective income tax rate
for the six months ended October 28, 2007 was 13.2% compared to an income tax
benefit of 6.5% for the six months ended October 29, 2006. This increase
primarily reflects higher taxable income from the company's U.S. operations,
offset by the projected income tax effects related to the foreign exchange loss
on Canadian income taxes through the second quarter of fiscal 2008 compared to
the six month period in fiscal 2007. The income tax benefit of 6.5% as of
October 29, 2006, reflected pre-tax losses from the company's U.S. operations
due to restructuring activities and lower income tax rates on income from
foreign sources.
Restructuring and Related Charges
During the second quarter of fiscal 2008, total restructuring and related
charges were $532,000, of which $348,000 related to inventory markdowns,
$268,000 for other operating costs associated with closed plant facilities,
$179,000 for lease termination and other exit costs, $73,000 for asset movement
costs, $27,000 for write-downs of a building and equipment, a credit of $114,000
for proceeds received on equipment with no carrying value, and a credit of
$249,000 for employee termination benefits. Of this total charge, $591,000 was
recorded in cost of sales, $25,000 was recorded in selling, general, and
administrative expense, and a credit of $84,000 was recorded in restructuring
expense in the 2008 Consolidated Statement of Net Income. These charges
primarily relate to the December 2006 Upholstery Fabrics restructuring plan.
During the second quarter of fiscal 2007, total restructuring and related
charges were $364,000, of which $354,000 related to asset movement costs,
$333,000 for lease termination and other exit costs, $321,000 for other
operating costs associated with closed plant facilities, a credit of $53,000 for
write-downs of a building and equipment, a credit of $130,000 for sales proceeds
received on equipment with no carrying value, and a credit of $461,000 for
employee termination benefits. Of this total charge, $291,000 was recorded in
cost of sales, $30,000 was recorded in selling, general, and administrative
expense, and $43,000 was recorded in restructuring expense in the 2007
Consolidated Statement of Net Income. These charges primarily relate to the
September 2005 Upholstery Fabrics and Fiscal 2005 Upholstery Fabrics
restructuring plans.
I-28
During the six months ended October 28, 2007, total restructuring and related
charges were $1.5 million, of which $754,000 related to other operating costs
associated with closed plant facilities, $546,000 for lease termination and
other exit costs, $404,000 for inventory markdowns, $388,000 for write-downs of
buildings and equipment, $127,000 for asset movement costs, a credit of $315,000
for sales proceeds received on equipment with no carrying value, and a credit of
$398,000 for employee termination benefits. Of this total charge, $1.1 million
was recorded in cost of sales, $51,000 was recorded in selling, general, and
administrative expense, and $348,000 was recorded in restructuring expense in
the 2008 Consolidated Statement of Net Income. These charges primarily relate to
the December 2006 Upholstery Fabrics restructuring plan.
During the six months ended October 29, 2006, total restructuring and related
charges were $1.5 million, of which $828,000 related to other operating costs
associated with closed plant facilities, $740,000 for asset movement costs,
$327,000 for lease termination costs, $239,000 for inventory markdowns, $62,000
for write-downs of buildings and equipment, a credit of $226,000 for employee
termination benefits, and a credit of $437,000 for sales proceeds received on
equipment with no carrying value. Of this total charge, $1.0 million was
recorded in cost of sales, $30,000 was recorded in selling, general, and
administrative expense, and $466,000 was recorded in restructuring expense in
the 2007 Consolidated Statement of Net Income. These charges primarily relate to
the September 2005 Upholstery Fabrics and Fiscal 2005 Upholstery Fabrics
restructuring plans.
Mattress Fabrics Segment
Net Sales -- Mattress fabrics (known as mattress ticking) net sales for the
second quarter of fiscal 2008 were $36.0 million, a 53% increase compared to
$23.5 million for the second quarter of fiscal 2007. On a unit volume basis,
total yards sold for the second quarter of fiscal 2008 increased by 48% compared
to the second quarter of fiscal 2007. For the six months ended October 28, 2007,
net sales were $72.5 million, a 60% increase compared to $45.3 million for the
six months ended October 29, 2006. On a unit volume basis, total yards sold for
the six months ended October 28, 2007, increased by 52% compared to the six
months ended October 29, 2006. Mattress fabric sales represented 56% of total
company sales for both the three-month and six-month periods ending October, 28,
2007. This trend reflects the incremental sales related to the company's
acquisition of ITG's mattress fabrics product line and some organic growth.
The average selling price of $2.39 for the second quarter of fiscal 2008
increased 4% over the same period a year ago. The average selling price of $2.41
for the six months ended October 28, 2007, increased 5% over the same period a
year ago. This trend reflects a shift in product mix toward more knitted
fabrics, which have a higher selling price.
Operating Income -- For the second quarter of fiscal 2008, the mattress fabrics
segment reported operating income of $3.9 million, or 10.8% of net sales,
compared to $2.5 million, or 10.5% of net sales, for the second quarter of
fiscal 2007. For the six months ended October 28, 2007, the mattress fabrics
segment reported operating income of $7.6 million, or 10.5% of net sales,
compared to $4.3 million, or 9.5% of net sales for the six months ended October
29, 2006. These trends reflect the integration of the additional production and
sales from the ITG acquisition, some organic growth, and a shift in product mix
toward knitted fabrics, which have a higher average selling price. These results
improved despite modestly higher raw material costs and somewhat higher Canadian
operating expenses due to the strengthening of the Canadian currency as compared
to the same period last year, and transition costs associated with the ITG
acquisition of approximately $500,000 in the first quarter of fiscal 2008.
I-29
Additionally, selling, general, and administrative expenses were $2.2 million in
the second quarter of fiscal 2008 compared with $1.7 million in the second
quarter of fiscal 2007, an increase of 29%. However, as a percent to net sales,
selling, general, and administrative expenses were 6.0% and 7.1% in the second
quarter of fiscal 2008, and 2007, respectively. Selling, general, and
administrative expenses were $4.2 million for the six months ended October 28,
2007 compared with $3.3 million for the six months ended October 29, 2006. As a
percent to net sales, selling, general, and administrative expenses were 5.8%
and 7.4% for the six months ended October 28, 2007 and October 29, 2006,
respectively. The lower selling, general, and administrative expense as a
percentage of sales primarily reflects the additional sales from the ITG
acquisition.
Segment assets -- Segment assets consist of accounts receivable, inventory,
property, plant, and equipment, goodwill, and a non-compete agreement associated
with the ITG acquisition. As of October 28, 2007, accounts receivable and
inventory totaled $33.2 million compared to $32.5 million at April 29, 2007. At
April 29, 2007, current assets for this segment also included a credit of future
purchases of inventory associated with the ITG acquisition of $527,000. This
credit of future purchases of inventory was fully utilized at October 28, 2007.
Also as of October 28, 2007, property, plant and equipment totaled $22.3 million
compared to $22.8 million at April 29, 2007. Included in property, plant, and
equipment are assets located in the U.S. totaling $13.0 million and $12.8
million at October 28, 2007 and April 29, 2007, respectively. The remaining
property, plant, and equipment are located in Canada. As of October 28, 2007 and
April 29, 2007, the carrying value of the non-compete agreement was $933,000 and
$1.1 million, respectively. As of October 28, 2007 and April 29, 2007, the
carrying value of the segment's goodwill was $4.1 million.
Upholstery Fabrics Segment
Net Sales -- Upholstery fabric net sales (which includes both fabric and cut and
sewn kits) for the second quarter of fiscal 2008 were $28.3 million, a 20%
decline compared to $35.5 million in the second quarter of fiscal 2007. On a
unit volume basis, total yards sold for the second quarter of fiscal 2008
decreased by 25% compared to the second quarter of fiscal 2007. The average
selling price of $4.25 for the second quarter of fiscal 2008 increased 3% from
the same period a year ago. Sales of cut and sewn kits increased 87% from the
same period a year ago. Upholstery fabric net sales for the six months ended
October 28, 2007 were $57.0 million, a 25% decline compared to $76.3 million for
the six months ended October 29, 2006. On a unit volume basis, total yards sold
for the six months ended October 28, 2007 decreased by 32% compared to the six
months ended October 29, 2006. Sales of cut and sewn kits increased 309% from
the same period a year ago. The average selling price of $4.23 for the six
months ended October 28, 2007 increased 1% from the same period a year ago.
Sales of cut and sewn kits were up significantly over the same period a year
ago. Upholstery fabrics sales reflect very weak demand industry wide, as well as
continued soft demand for U.S. produced upholstery fabrics driven by consumer
preference for leather and suede furniture and other imported furniture and
fabrics.
Operating Income - Operating income for the second quarter of fiscal 2008 was
$201,000 compared with operating income of $393,000 for the second quarter of
fiscal 2007. Operating income for the six months ended October 28, 2007 was
$650,000 compared with operating income of $2.0 million for the six months ended
October 29, 2006. These results reflect the very difficult operating environment
for the retail furniture industry. Discretionary consumer spending for furniture
continues to be very soft due to a slowing economy, weak housing market and high
energy prices. Considering the unfavorable market conditions, the company was
able to report a profitable performance in this segment based on a significantly
improved cost structure with substantially lower U.S. manufacturing costs.
I-30
Additionally, selling, general and administrative expenses for second quarter of
fiscal 2008 were down 26% from the second quarter of fiscal 2007. For the six
months ended October 28, 2007, selling, general, and administrative expenses
were down 18% compared with the six months ended October 29, 2006. This trend of
year over year improvement is expected to continue throughout fiscal 2008.
Non-U.S. Produced Sales - Net sales of upholstery fabrics produced outside the
company's U.S. manufacturing operations were $16.9 million in the second quarter
of fiscal 2008, a decrease of 18% from $20.6 million in the second quarter of
fiscal 2007. Net sales of upholstery fabrics produced outside the company's U.S.
manufacturing operations were $35.8 million for the six months ended October 28,
2007, a decrease of 19% from $44.1 million for the six months ended October 29,
2006. This decline reflects the overall very weak demand industry wide. Net
sales of upholstery fabrics produced outside the company's U.S. manufacturing
operations accounted for approximately 60% of upholstery fabric sales for the
second quarter of fiscal 2008 compared to 58% for the second quarter of 2007.
Net sales of upholstery fabrics produced outside the company's U.S.
manufacturing operations accounted for approximately 63% for the six months
ended October 28, 2007 compared to 58% for the six months ended October 29,
2006. This trend toward higher non-U.S. produced sales in relation to U.S.
produced sales is expected to continue as the company's U.S. customers and U.S.
furniture retailers have continued to move an increasing amount of their fabric
and furniture purchases to Asia and the company has moved with them and
responded with an operation designed to meet their needs.
U.S .Produced Sales - Net sales of U.S. produced upholstery fabrics were $11.4
million in the second quarter of fiscal 2008, a decrease of 24% from $14.9
million in the second quarter of fiscal 2007. Management has continued to take
aggressive actions over the past several years to bring U.S. manufacturing costs
and capacity in line with current and expected demand trends. As a result of
these activities, the company now has only one U.S. manufacturing facility
operating in the upholstery fabrics segment. As of October 28, 2007, the
carrying value of the company's U.S. based upholstery fabrics fixed assets was
$2.8 million.
While management believes it is strategically important to produce some level of
upholstery fabric in the U.S. to support its customers' domestic fabric
requirements, management remains committed to taking additional steps if
necessary to address the low profitability of the company's U.S. operations. The
company could experience additional write-downs of its property, plant, and
equipment and further restructuring charges in this business if sales and
profitability continue to decline and further restructuring actions become
necessary.
Segment Assets -- Segment assets consist of accounts receivable,
inventory, assets held for sale, and property, plant, and equipment. As of
October 28, 2007, accounts receivable and inventory totaled $31.2 million
compared to $37.5 million at April 29, 2007. This decline reflects lower sales
and improved working capital management. As of October 28, 2007, assets held for
sale totaled $341,000 compared to $2.5 million as of April 29, 2007. The company
received sale proceeds of approximately $2.0 million on assets held for sale
during the six months ended October 28, 2007. The company expects the assets
held for sale as of October 28, 2007 will be sold in the third quarter of fiscal
2008. As of October 28, 2007, property, plant, and equipment totaled $15.5
million compared to $14.9 million at April 29, 2007. The $15.5 million at
October 28, 2007, represents property, plant, and equipment located in China of
$9.0 million, located in the U.S. of $2.8 million, and various corporate
allocations of $3.7 million (primarily related to the corporate headquarters in
High Point, NC). The $14.9 million at April 29, 2007, represents property,
plant, and equipment located in China of $7.7 million, located in the U.S. of
$3.4 million, and various corporate allocations of $3.8 million (primarily
related to the corporate headquarters in High Point, NC).
I-31
Other Expense Categories
Selling, General and Administrative Expenses - Selling, general, and
administrative expenses (SG&A) were $5.8 million for the second quarter of
fiscal 2008 compared with $6.3 million for the second quarter of fiscal 2007, a
decrease of 7%. As a percent to net sales, SG&A expenses were 9.1% in the second
quarter of fiscal 2008 compared with 10.6% in the second quarter of fiscal 2007.
SG&A expenses for the six months ended October 28, 2007 were $12.2 million
compared with $12.8 million for the six months ended October 29, 2006, a
decrease of 5.3%. As a percent of net sales, SG&A expenses were 9.4% for the six
months ended October 28, 2007 and 10.6% for the six months ended October 29,
2006. These trends reflect the company's restructuring efforts associated with
its U.S. upholstery fabric operations partially offset by increased SG&A
expenses from its mattress fabric segment resulting from increased sales
associated with the ITG acquisition.
Under the provisions of SFAS No. 123R, the company recorded $226,000 and
$366,000 of compensation expense for stock options within selling, general, and
administrative expense for the three-month and six-month periods ended October
28, 2007. The company recorded $155,000 and $287,000 of compensation expense for
stock options within selling, general, and administrative expense for the
three-month and six-month periods ended October 29, 2006 (see note 2 in the
Notes to Consolidated Financial Statements).
Interest Expense (Income) -- Interest expense for the second quarter of fiscal
2008 was $809,000 compared to $938,000 for the second quarter of fiscal 2007.
Interest expense for the six months ended October 28, 2007 was $1.6 million
compared to $1.9 million for the six months ended October 29, 2006. This trend
primarily reflects lower outstanding balances on the company's unsecured term
notes. Interest income was $63,000 for the second quarter of fiscal 2008
compared to $51,000 for the second quarter of fiscal 2007. Interest income was
$121,000 for the six months ended October 28, 2007 and $97,000 for the six
months ended October 29, 2006. This trend reflects higher invested balances in
money market funds.
Other Expense - Other expense for the second quarter of fiscal 2008 was $463,000
compared to $31,000 for the second quarter of fiscal 2007. Other expense for the
six months ended October 28, 2007 was $695,000 compared to $60,000 for the six
months ended October 29, 2006. This trend reflects foreign exchange
remeasurement losses primarily related to the decline in value of the U.S.
dollar relative to the Canadian dollar which has decreased 11% during the second
quarter of fiscal 2008 and 16% during the six months ended October 28, 2007.
Income Taxes - The effective income tax rate (income taxes as a percentage of
income before income taxes) for the six months ended October 28, 2007 was 13.2%
compared to 35.1% for the three months ended July 29, 2007. This decrease during
the second quarter of fiscal 2008 primarily reflects the projected income tax
effects the foreign exchange loss on Canadian income taxes (approximately 26%)
offset by an increase in unrecognized tax benefits relating to double taxation
under applicable tax treaties with foreign tax jurisdictions (approximately 6%).
The effective income tax rate for the six months ended October 28, 2007 was
13.2% compared to an income tax benefit of 6.5% for the six months ended October
29, 2006. This increase primarily reflects higher taxable income from the
company's U.S. operations, offset by the projected income tax effects related to
the foreign exchange loss on Canadian income taxes through the second quarter of
fiscal 2008 compared to the six month period in fiscal 2007. This trend reflects
increased profitability in the mattress fabrics segment and lower estimated
restructuring and related charges for fiscal 2008 compared to fiscal 2007. The
income tax benefit of 6.5% as of October 29, 2006 reflected pre-tax losses from
the company's U.S. operations due to restructuring activities and lower income
tax rates on income from foreign sources.
I-32
The company's income tax expense and effective income tax rate, for the both the
three month and six months ended October 28, 2007 and October 29, 2006, were
based upon the estimated effective income tax rate applicable for full years
after giving effect to any significant items related specifically to interim
periods. The effective income tax rate can be impacted over the fiscal year by
the mix and timing of actual earnings from the company's U.S. operations and
foreign sources versus annual projections and changes in the foreign currency in
relation to the U.S. dollar.
In making a judgment about the realization of the deferred tax assets,
management has considered both the negative and positive evidence, and concluded
that sufficient positive evidence exists to overcome the cumulative losses
experienced in recent years. Specifically, management considered the following,
among other factors: nature of the company's products; history of positive
earnings in the mattress fabrics segment; capital projects in progress to
further enhance the company's globally competitive cost structure in the
mattress fabrics segment; recent restructuring actions in the U.S. upholstery
fabrics business to adjust the U.S. cost structure and bring U.S. manufacturing
capacity in line with demand; development of offshore manufacturing and sourcing
programs to meet changing demands of upholstery fabric customers in the U.S.;
and the incremental sales volume from the purchase of certain assets from ITG
related to the mattress fabric product line of ITG's Burlington House Division.
Management's analysis of taxable income also included the following
considerations: none of the company's net operating loss carryforwards have
previously expired unused; the U.S. federal carryforward period is 20 years; and
the company's current income tax loss carryforwards principally expire in 16-20
years; fiscal 2022 through 2027. The amount of the deferred tax assets
considered realizable, however, could be reduced if estimates of future taxable
income during the carryforward period are reduced.
U.S. Federal and state net operating loss carryforwards with related future tax
benefits on a gross basis were approximately $72.0 million at October 28, 2007.
Liquidity and Capital Resources
Liquidity - The company's sources of liquidity include cash and cash
equivalents, cash flow from operations, assets held for sale, and amounts
available under its unsecured revolving credit lines. These sources have been
adequate for day-to-day operations and capital expenditures. The company
believes its sources of liquidity continue to be adequate to meets its current
needs.
As of October 28, 2007, the company has remaining principal payments on total
borrowings of $12.7 million due in fiscal 2008, of which approximately $12.6
million represents the company's unsecured term notes scheduled for payment in
March 2008. After the end of the second quarter, we prepaid an additional $4.3
million against the principal payment on our unsecured term notes that is due in
March 2008. Originally, this principal payment was $19.8 million. Including the
$4.3 million prepayment, the company has now prepaid over the last eight months
a total of $11.5 million against the original scheduled amount, which leaves
only $8.3 million of this year's principal payment due in March 2008. Currently,
the company has sufficient funds available to make the remaining principal
payment which is due in March 2008.
Cash and cash equivalents as of October 28, 2007, were $16.8 million compared
with $10.2 million as of April 29, 2007. The company's cash position reflects
substantial improvement in cash flow from operations of almost $10.0 million,
due to increased profitability and significant improvement in working capital
management. The company's cash position also reflects $3.2 million in
prepayments made on the company's unsecured term notes during the six months
ended October 28, 2007, cash outlays for capital expenditures of $3.4 million,
proceeds of $2.0 million primarily from assets held for sale, proceeds of
approximately $1.4 million from borrowings on the company's line of credit in
China, and proceeds from common stock issued in connection with stock option
exercises of $405,000.
I-33
The company is taking further steps to support its liquidity, including ongoing
efforts to improve operating working capital turnover and reduce further
selling, general, and administrative expenses in its upholstery fabrics segment.
However, the company's cash position may be adversely affected by factors beyond
its control, such as weakening industry demand, delays in receipt of payment on
accounts receivable and the availability of trade credit.
Working Capital -- Accounts receivable as of October 28, 2007 decreased 22% in
comparison to April 29, 2007. Days sales outstanding totaled 32 days at October
28, 2007, compared with 36 days at April 29, 2007 and October 29, 2006,
respectively. This improvement primarily reflects the shift in net sales from
the upholstery fabrics to the mattress fabrics segment, in which customers
associated with the mattress fabrics segment more frequently take advantage of
cash discounts, as well as tighter management of accounts receivable.
Inventories as of October 28, 2007, decreased 6.6% in comparison to October 29,
2006. This decrease represents a decrease in inventories of 32%, or $10 million
for the upholstery fabrics segment, primarily due to lower sales and improved
management of working capital. The decrease in inventories associated with the
upholstery fabrics segment was mostly offset by an increase of 49%, or $6.9
million, for the mattress fabrics segment, primarily due to increased production
and sales from the ITG acquisition. Inventory turns for the second quarter of
fiscal 2008 were 5.4 versus 5.2 for the second quarter of fiscal 2007. Operating
working capital (comprised of accounts receivable and inventories, less trade
accounts payable) was $43.3 million at October 28, 2007, down from $49.2 million
at October 29, 2006. Working capital turnover was 5.5 and 5.2 at October 28,
2007 and October 29, 2006, respectively.
Financing Arrangements
Term Notes
The company's unsecured term notes have a fixed interest rate of 8.80% (payable
semi-annually in March and September and subject to prepayment provisions each
fiscal quarter as defined in the agreement) and are payable over an average
remaining term of two years beginning November 2007 through March 2010. The
principal payments are required to be paid in annual installments over the next
three years as follows: Year 1 - $12.7 million; Year 2 - $7.5 million; and Year
3 - $7.5 million. The company prepaid $2.2 million during the first quarter,
$1.0 million in the second quarter, and $4.3 million in November 2007, all of
which was scheduled to be due in March 2008.
Real Estate Loan - I
The company has a real estate loan that is secured by a lien on the company's
corporate headquarters office located in High Point, NC. This term loan bears
interest at the one-month LIBOR plus an adjustable margin (7.52% at October 28,
2007) based on the company's debt/EBITDA ratio, as defined in the agreement and
is payable in varying monthly installments through September 2010, with a final
payment of $3.3 million in October 2010.
Real Estate Loan - II
The company has a term loan in the amount of $2.5 million in connection with the
ITG asset purchase agreement. This term loan is secured by a lien on the
company's corporate headquarters office located in High Point, NC and bears
interest at the one-month LIBOR plus an adjustable margin (8.13% at October 28,
2007) based on the company's debt/EBITDA ratio, as defined in the agreement.
This agreement requires the company to pay interest monthly with the entire
principal due on June 30, 2010.
I-34
Revolving Credit Agreement - United States
The company has an unsecured credit agreement that provides for a revolving loan
commitment of $6.5 million, including letters of credit up to $5.5 million. This
agreement expires on December 31, 2007, and bears interest at the one-month
LIBOR plus an adjustable margin (7.52% at October 28, 2007) based on the
company's debt/EBITDA ratio, as defined in the agreement. As of October 28,
2007, there were $2.3 million in outstanding letters of credit (all of which
related to workers compensation) and no borrowings outstanding under the
agreement.
Revolving Credit Agreement - China
The company's China subsidiary has an unsecured revolving credit agreement with
a bank in China to provide a line of credit available up to approximately $4
million, of which approximately $1 million includes letters of credit. This
credit agreement expires on February 1, 2008 and has an annual renewal option.
The company borrowed a total of $4.0 million in installments of $1.3 million in
February 2007, $1.3 million in March 2007, and $1.4 million in October 2007.
Each installment is up for renewal one year from the date of borrowing and the
bank is required to provide an advance notice of one year for repayment of each
respective installment. Interest is paid on a quarterly basis at a rate
determined by the Chinese government (with interest rates ranging from 5.81% to
6.93% at October 28, 2007). As of October 28, 2007, approximately $4.0 million
was outstanding under the agreement.
Canadian Government Loan
The company has an agreement with the Canadian government to provide for a term
loan that is non-interest bearing and is payable in 48 equal monthly
installments commencing December 1, 2009. The proceeds are to partially finance
capital expenditures at the company's Rayonese facility located in Quebec,
Canada.
Overall
The company's loan agreements require that the company maintain compliance with
certain financial ratios. At October 28, 2007, the company was in compliance
with these financial covenants.
The principal payment requirements of long-term debt during the next five years
are: Year 1 - $12.8 million; Year 2 - $7.8 million; Year 3 - $13.7 million; Year
4 - $208,000; Year 5 - $208,000; and thereafter - $225,000.
Capital Expenditures - Cash outlays for capital expenditures during the six
months ended October 28, 2007 were $3.4 million, for the company's China and
mattress fabric operations. The company did not utilize any vendor financing for
any of its capital expenditures for the six months ending October 28, 2007. The
company expects total capital expenditures to be approximately $8.2 million for
fiscal 2008, of which $4.6 million represents cash outlays with the remaining
$3.6 million to be provided by vendor financing. This $3.6 million is projected
to be repaid as follows: Fiscal 2009 - $1.7 million; Fiscal 2010 $1.4 million;
and Fiscal 2011 - $500,000. In addition, at October 28, 2007, the company had
obligations on vendor-financed capital expenditures from capital projects
initiated prior to fiscal 2008 totaling $783,000. This amount is to be repaid
over the next two fiscal years as follows: Fiscal 2008 - $71,000 and Fiscal 2009
- $712,000.
The company's current estimate of cash outlays for new capital projects (not
provided by vendor-financing) for fiscal 2009 is $2 million to $3 million.
Depreciation for the six months ended October 28, 2007, was $2.9 million and is
estimated to be $6.1 million for fiscal 2008. The company expects that the
availability of funds from cash flow from operations, vendor financing, and its
revolving credit lines will be sufficient to fund its planned capital needs.
I-35
Critical Accounting Policies and Recent Accounting Developments
As more fully described in Item 7 of the company's annual report on Form 10-K
for the year ended April 29, 2007 (filed July 19, 2007), the preparation of
financial statements in conformity with accounting principles generally accepted
in the United States requires management to make estimates and assumptions about
future events that affect the amounts reported in the financial statements and
accompanying notes. Future events and their effects cannot be determined with
absolute certainty. Therefore, the determination of estimates requires exercise
of judgment.
As more fully disclosed in Notes 1 and 14 of the Notes to Consolidated Financial
Statements, the company adopted FIN 48, Accounting for Uncertainty in Income
Taxes - an interpretation of FASB Statement No. 109, on April 30, 2007. The
company considers many factors when evaluating and estimating income tax
uncertainties. These factors include an evaluation of the technical merits of
the tax position as well as the amounts and probabilities of the outcomes that
could be realized upon ultimate settlement. The actual resolution of those
uncertainties will inevitably differ from those estimates, and such differences
may be material to the financial statements.
Recently Issued Accounting Standards
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements,"
which provides enhanced guidance for using fair value to measure assets and
liabilities. SFAS No. 157 establishes a common definition of fair value,
provides a framework for measuring fair value under accounting principles
generally accepted in the United States and expands disclosure requirements
about fair value measurements. SFAS No. 157 is effective for fiscal years
beginning after November 15, 2007, and is effective for the company in the first
quarter of fiscal 2009. The company is currently evaluating the impact, if any,
the adoption of SFAS No. 157 will have on its 2009 consolidated financial
statements.
In February 2007, the FASB issued Statement No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities." This statement, which is expected
to expand fair value measurement, permits entities to choose to measure many
financial instruments and certain other items at fair value. SFAS No. 159 is
effective for fiscal years beginning after November 15, 2007, and is effective
for the company in the first quarter of fiscal 2009. The company is currently
evaluating the impact, if any, the adoption of SFAS No. 159 will have on its
2009 consolidated financial statements.
Contractual Obligations
Capital Expenditures
At October 28, 2007, the company had commitments to acquire equipment with
regards to its mattress fabrics segment for approximately $4.0 million. Of this
total commitment of $4.0 million, $3.6 million is to be provided by
vendor-financing. This $3.6 million is projected to be repaid as follows: Fiscal
2009 - $1.7 million; Fiscal 2010 $1.4 million; and Fiscal 2011 - $500,000.
At October 28, 2007, the company had obligations on vendor-financed capital
expenditures from capital projects initiated prior to fiscal 2008 totaling
$783,000. This amount is be repaid over the next two fiscal years as follows:
Fiscal 2008 - $71,000 and Fiscal 2009 - $712,000.
Uncertainty In Income Taxes
As more fully disclosed in Notes 1 and 14 of Notes to the Consolidated Financial
Statements, the company adopted FIN 48, Accounting for Uncertainty in Income
Taxes - an interpretation of FASB Statement No. 109, on April 30, 2007. At
October 28, 2007, the company has recognized $4.3 million of liabilities for
unrecognized tax benefits. The final outcome of these tax uncertainties is
dependent upon various matters including tax examinations, legal proceedings,
competent authority proceedings, changes in regulatory tax laws, or
interpretations of those tax laws, or expiration of statutes of limitation. As
of October 28, 2007, the company classified the $4.3 million of liabilities for
unrecognized tax benefits as income taxes payable - long-term. While the company
cannot reasonably predict the timing of the cash flows associated with its
liabilities for unrecognized tax benefits, it believes that no significant cash
payments will be made within the next five years due to its federal and state
net operating loss carryforwards.
I-36
Inflation
The cost of certain of the company's raw materials, principally fibers from
petroleum derivatives, and utility/energy costs, increased during the first half
of fiscal 2008 as oil and energy prices increased and had an impact on the
company's financial results. Any significant increase in the company's raw
material costs, utility/energy costs and general economic inflation could have a
material adverse impact on the company, because competitive conditions have
limited the company's ability to pass significant operating cost increases on to
its customers.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
-------------------------------------------------------------------
The company is exposed to market risk from changes in interest rates on debt and
foreign currency exchange rates. The company's market risk sensitive instruments
are not entered into for trading purposes. The company's exposure to interest
rate risk consists of floating rate debt based on the London Interbank Offered
Rate (LIBOR) plus an adjustable margin under the company's revolving credit
agreement in the United States and its real estate term loans. As of October 28,
2007, there were $6.4 million in borrowings outstanding under the company's real
estate term loans and no borrowings under the company's revolving credit
agreement in the United States. In connection with the first real estate term
loan, the company entered into a $2,170,000 notional principal interest rate
swap agreement, which represents 50% of the principal amount on the real estate
term loan, and effectively converts the floating rate LIBOR based payments to
fixed payments at 4.99% plus the spread calculated under the real estate term
loan agreement. The company's unsecured term notes have a fixed interest rate of
8.80% and the Canadian government loan is non-interest bearing. The company's
revolving credit agreement associated with its China subsidiary has fixed
interest rates ranging from 5.81% to 6.93%. Additionally, $34.5 million on the
company's total borrowings of $39.0 million (approximately 88%) are at a fixed
rate or non-interest bearing. Thus, any foreseeable change in interest rates
would not have a material effect on the company's interest expense.
The company's exposure to fluctuations in foreign currency exchange rates are
due to foreign subsidiaries domiciled in China and Canada. These subsidiaries
use the United States dollar as their functional currency. The company generally
does not use financial derivative instruments to hedge foreign currency exchange
rate risks associated with its foreign subsidiaries. A 10% change in the
Canadian exchange rate at October 28, 2007, would impact the company's
consolidated income before income taxes by approximately $350,000. This impact
on the company's consolidated income before income taxes would be offset by
approximately $1.0 million for the income tax effects on a 10% change in the
Canadian exchange rate on Canadian income taxes. A 10% change in the Chinese
exchange rate at October 28, 2007, would not have a significant impact on the
company's results of operations or financial position.
ITEM 4. CONTROLS AND PROCEDURES
--------------------------------
The company conducted a review and evaluation of its disclosure controls and
procedures, under the supervision and with the participation of the company's
principal executive officer and principal financial officer as of October 28,
2007, and the principal executive officer and principal financial officer have
concluded that the company's disclosure controls and procedures are adequate and
effective. In addition, no change in the company's internal control over
financial reporting has occurred during, or subsequent to, the period covered by
this report that has materially affected, or is reasonably likely to materially
affect, the company's internal control over financial reporting.
I-37
Part II - Other Information
---------------------------
Item 1A. Risk Factors
There have been no material changes to our risk factors during the six months
ended October 28, 2007. Our risk factors are disclosed in the company's annual
report on Form 10-K filed with the Securities and Exchange Commission on July
19, 2007 for the fiscal year ended April 29, 2007.
Item 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of Shareholders of the company was held in High Point, North
Carolina on September 20, 2007. Of the 12,634,526 shares of common stock
outstanding on the record date of July 19, 2007, 10,805,358 shares of common
stock were present in person or by proxy.
At the Annual Meeting, shareholders voted on:
Proposal 1
Proposal to amend the company's bylaws to reduce the size of the range in number
of directors that comprise the Board of Directors, with the number of seats to
be determined by the Board.
For 10,642,916
Against 151,066
Abstain 11,376
Proposal 2
Proposal to amend the company's bylaws to declassify the Board of Directors and
provide that all directors will be elected by shareholders annually.
For 10,728,133
Against 65,643
Abstain 11,582
Proposal 3
The election of director Kenneth W. McAllister.
Director Nominee For Withheld
---------------- --- --------
Kenneth W. McAllister 10,532,379 272,979
II-1
Proposal 4
Proposal to approve the 2007 Equity Incentive Plan
For 6,492,274
Against 2,774,724
Abstain 24,981
Non-Votes 1,513,379
Item 5. Other Information.
At April 30, 2006, the company's market capitalization and shareholders' equity
fell below the level required for continued listing on the NYSE. Under the
NYSE's current listing standards, the company is required to have market
capitalization over a consecutive 30 trading-day period or shareholders' equity
of more than $75 million to maintain compliance with continued listing
standards. In a letter dated October 27, 2006, the NYSE notified the company
that the NYSE has accepted the company's plan for continued listing on the NYSE.
As a result of the acceptance, the company's common stock will continue to be
listed on the NYSE pending quarterly reviews by the NYSE's Listing and
Compliance Committee to ensure progress against the plan. Since April 29, 2007,
both of the company's market capitalization over a 30 trading-day period and
shareholders' equity exceeded the level required for continued listing on the
NYSE.
On December 11, 2007, the company entered into a Separation Agreement and Waiver
of Claims (the "Agreement") with Kenneth M. Ludwig, the company's Senior Vice
President, Human Resources, and Corporate Secretary, in connection with Mr.
Ludwig's resignation, effective as of December 31, 2007, from his position with
the company. The Agreement provides that the company will continue Mr. Ludwig's
current salary ($186,625 annually) through June 30, 2009, payable in accordance
with the company's standard payroll practices (the "Continuation Period"). Mr.
Ludwig will also be entitled to receive a bonus under the company's Management
Incentive Plan, after the end of the company's current fiscal year, equal to
66.67% of the bonus amount that he would otherwise have been entitled to receive
if he had remained employed with the company through the end of the current
fiscal year. During the Continuation Period, Mr. Ludwig will be allowed to
continue to participate in certain benefit plans, including continuing to pay
the regular employee rate under the company's health benefit plan. Stock options
held by Mr. Ludwig will be exercisable until September 28, 2009, subject to the
terms of the options and the plans under which they are granted and subject to
company policies regarding transactions in company securities. The Agreement
also provides that Mr. Ludwig will receive up to eighteen months of outplacement
assistance. In addition, the Agreement contains a standard release of claims by
Mr. Ludwig in favor of the company. Under the terms of the Agreement, Mr. Ludwig
has the right to revoke the Agreement in writing within the seven-day period
following the date that the Agreement was executed. The foregoing description of
the Agreement is qualified in its entirety by reference to the Agreement, a copy
of which is included as Exhibit 10.1 to this quarterly report, and incorporated
herein by reference.
II-2
Item 6. Exhibits
The following exhibits are filed as part of this report.
3(i) Articles of Incorporation of the company, as amended, were filed as
Exhibit 3(i) to the company's Form 10-Q for the quarter ended July
28, 2002, filed September 11, 2002, and are incorporated herein by
reference.
3(ii) Restated and Amended Bylaws of the company, as amended June 12, 2001,
were filed as Exhibit 3(ii) to the company's Form 10-Q for the
quarter ended July 29, 2001, filed September 12, 2001, and are
incorporated herein by reference. Restated and Amended Bylaws of the
company, as amended November 12, 2007, were filed as Exhibit 3.1 to
the company's Form 8-K filed on November 13, 2007, and are
incorporated herein by reference.
10.1 Separation Agreement and Waiver of Claims between the company and
Kenneth M. Ludwig dated as of December 11, 2007.
10.2 Form of stock option agreement for options granted to non-employee
directors pursuant to the 2007 Equity Incentive Plan.
10.3 Form of change in control and noncompetition agreement.
31.1 Certification of Chief Executive Officer Pursuant to
Section 302 of Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer Pursuant to
Section 302 of Sarbanes-Oxley Act of 2002.
32.1 Certification of Chief Executive Officer Pursuant to
Section 906 of Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer Pursuant to
Section 906 of Sarbanes-Oxley Act of 2002.
II-3
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CULP, INC.
(Registrant)
Date: December 12, 2007 By:/s/ Kenneth R. Bowling
-----------------------------------------------
Kenneth R. Bowling
Vice President and Chief Financial Officer
(Authorized to sign on behalf of the
registrant and also signing as principal
financial officer)
By:/s/ Thomas B. Gallagher, Jr.
-----------------------------------------------
Thomas B. Gallagher, Jr.
Corporate Controller
(Authorized to sign on behalf of the registrant
and also signing as principal accounting officer)
II-4
EXHIBIT INDEX
Exhibit Number Exhibit
-------------- -------
10.1 Separation Agreement and Waiver of Claims
between the company and Kenneth M. Ludwig
dated December 11, 2007.
10.2 Form of stock option agreement for options
granted to non-employee directors pursuant
to the 2007 Equity Incentive Plan.
10.3 Form of change in control and
noncompetition agreement.
31.1 Certification of Chief Executive Officer
Pursuant to Section 302 of Sarbanes-Oxley
Act of 2002.
31.2 Certification of Chief Financial Officer
Pursuant to Section 302 of Sarbanes-Oxley
Act of 2002.
32.1 Certification of Chief Executive Officer
Pursuant to Section 906 of Sarbanes-Oxley
Act of 2002.
32.2 Certification of Chief Financial Officer
Pursuant to Section 906 of Sarbanes-Oxley
Act of 2002.