|
|
Item 2.
|
Management’s Discussion and Analysis of Financial Condition and Results of Operations
|
Business Description
We are a leading provider of manufactured
vinyl coated fabrics. Our best-known brand, Naugahyde, is the product of many improvements on a rubber-coated fabric developed
a century ago in Naugatuck, Connecticut. We design, manufacture and market a wide selection of vinyl coated fabric products under
a portfolio of recognized brand names. We believe that our business has continued to be a leading supplier in its marketplace because
of our ability to provide specialized materials with performance characteristics customized to the end-user specifications, complemented
by technical and customer support for the use of our products in manufacturing.
Our vinyl coated fabric products have undergone
considerable evolution and today are distinguished by superior performance in a wide variety of applications as alternatives to
leather, cloth and other synthetic fabric coverings. Our standard product lines consist of more than 600 SKUs with combinations
of colors, textures, patterns and other properties. Our products are differentiated by unique protective top finishes and transfer
print capabilities. Additional process capabilities include embossing grains and patterns, and rotogravure printing, which imparts
five color character prints and non-registered prints, lamination and panel cutting.
Our vinyl coated fabric products have various
high-performance characteristics and capabilities. They are durable, stain resistant, easily processed, more cost-effective and
better performing than traditional leather or fabric coverings. Our products are frequently used in applications that require rigorous
performance characteristics such as automotive and non-automotive transportation, certain indoor/outdoor furniture, commercial
and hospitality seating, healthcare facilities and athletic equipment. We manufacture materials in a wide range of colors and textures.
They can be hand or machine sewn, laminated to an underlying structure, thermoformed to cover various substrates or made into a
variety of shapes for diverse end-uses. We are a long-established supplier to the global automotive industry and manufacture products
for interior soft trim components from floor to headliner, which are produced to meet specific component production requirements
such as cut and sew, vacuum forming/covering, compression molding, and high frequency welding. Some products are supplied with
micro perforations, which are necessary on most compression molding processes. Materials can also be combined with polyurethane
or polypropylene foam laminated by either flame or hot melt adhesive for seating, fascia and door applications.
Products are developed and marketed based
upon the performance characteristics required by end-users. For example, for recreational products used outdoors, such as boats,
personal watercraft, golf carts and snowmobiles, a product designed primarily for water-based durability and weatherability is
used. We also manufacture a line of products called BeautyGard®, with water-based topcoats that contain agents to
protect against bacterial and fungal micro-organisms and can withstand repeated cleaning, a necessity in the restaurant and health
care industries. These topcoats are environmentally friendlier than solvent-based topcoats. The line is widely used in hospitals
and other healthcare facilities. Flame and smoke retardant vinyl coated fabrics are used for a variety of commercial and institutional
furniture applications, including hospitals, restaurants and residential care centers and seats for school buses, trains and aircraft.
We currently conduct our operations in
manufacturing facilities that are located in Stoughton, Wisconsin and Earby, England.
Critical Accounting Policies and Estimates
The preparation of our consolidated financial
statements and related disclosures in conformity with U.S. generally accepted accounting principles (“U.S. GAAP”) requires
management to make estimates and judgments that affect our reported amounts of assets and liabilities, revenues and expenses, and
related disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates and assumptions based
upon historical experience and various other factors and circumstances. We believe that our estimates and assumptions are reasonable
under the circumstances; however, actual results may vary from these estimates and assumptions under different future circumstances.
For further discussion of our significant accounting policies, refer to Note 1 – “Summary of Significant Accounting
Policies” to the consolidated financial statements and “Management’s Discussion and Analysis of Financial Condition
and Results of Operations – Critical Accounting Policies, Judgments and Estimates” in our Annual Report on Form 10-K
for the fiscal year ended December 29, 2019.
Recent Accounting Pronouncements
See Note 14 – “Recent Accounting
Standards” to the consolidated financial statements for a discussion of recent accounting guidance.
Overview:
The Company and its subsidiaries use a
52/53-week fiscal year ending on the Sunday nearest to December 31. The current year ending January 3, 2021 is a 53-week year whereas
the prior year ended December 29, 2019 was a 52-week year. The Company’s U.K. subsidiaries use the calendar year end of December
31. The activity of the U.K. subsidiaries that occurs on the days that do not coincide with the Company’s year-end is not
material. The three months ended July 5, 2020 and June 30, 2019
were both 13-week periods while the six months ended July 5, 2020 was a 27-week period and the six months ended June 30, 2019 was
a 26-week period.
Our Earby, England operation’s functional
currency is the British Pound Sterling (“Pound Sterling”) and has sales and purchases transactions that are denominated
in currencies other than the Pound Sterling, principally the Euro. Approximately 25% of the Company’s global revenues and
27% of its global raw material purchases are derived from these Euro transactions.
The average year-to-date exchange rate
for the Pound Sterling to the U.S. Dollar was approximately 2.5% lower and the average exchange rate for the Euro to the Pound
Sterling was approximately 0.5% higher in 2020 compared to 2019. These exchange rate changes had the effect of decreasing net sales
by approximately $308,000 for the six months ended July 5, 2020. The overall currency effect on the Company’s net loss was
a positive amount of approximately $14,000 for the six months ended July 5, 2020.
On January 27, 2020, the Company announced
a one-for-five reverse stock split (“reverse stock split”) on its common stock that became effective on February 24,
2020. The amounts in common stock and additional paid-in capital were adjusted as of the effective date to reflect the reverse
stock split. Share and per share amounts for the three and six months ended June 30, 2019 have been restated to give effect to
the reverse stock split.
The U.K. exit from the European Union on
January 31, 2020, commonly referred to as Brexit, has caused, and may continue to cause, uncertainty in the global markets. Political
and regulatory responses to the withdrawal are still developing, and we are in the process of assessing the impact that the withdrawal
may have on our business as more information becomes available. Any impact from Brexit on our business and operations over the
long term will depend, in part, on the outcome of tariff, tax treaties, trade, regulatory, and other negotiations the U.K. conducts.
Subsequent to year-end 2019,
the World Health Organization declared the novel coronavirus (“COVID-19”) outbreak a public health emergency. There
have been mandates from international, federal, state and local authorities requiring forced closures of various schools, businesses
and other facilities and organizations. These forced closures have negatively impacted the Company’s business. Primarily
due to the negative impact that COVID-19 is having on the global economy, the Company began to experience a decline in sales during
the latter part of March 2020. In order to mitigate the effect of the decrease in revenue, the Company is managing its costs, which
included initially reducing staff at its manufacturing facilities with production at one-third capacity at the U.S. facility and
the entire production staff furloughed at the U.K. facility since late March. During June 2020, the Company had some employees
return to work as its U.K. facility started limited production of vinyl products based on orders it was receiving from its customers.
As incoming orders increase, the Company is bringing back additional production workers. Demand for our products continues to improve
in the third quarter although it is well below normalized levels.
Additionally, the Company
has applied for loans under programs offered by the governmental agencies in the United States and in the United Kingdom and
is exploring options for other supplementary cash flow opportunities to provide further liquidity. During the second quarter
of 2020, the Company received $2,217,500 in funds from Oregon Community Bank (formerly McFarland State Bank) through the
Paycheck Protection Program (“PPP”) administered by the U.S. Small Business Administration (“SBA”) under the
recently enacted Coronavirus Aid, Relief, and Economic Security Act (“the CARES Act”).
The loan matures on April 13,
2022 and bears an interest rate of 1.0%. The Company is required to make monthly payments of principal and interest beginning November
13, 2020 based on the amount that is outstanding on October 13, 2020 in order to fully amortize the loan by April 13, 2022. The
loan may be prepaid by the Company at any time prior to maturity with no prepayment penalties.
All or a portion of the loan
may be forgiven by the SBA for costs the Company incurs for payroll, rent, utilities and other allowable expenses during the 24-week
period beginning April 13, 2020. The Company intends to use all proceeds from the loan to maintain payroll and make payments for
lease, utility and other allowable expenses. Included in the accompanying consolidated statements of operations for the three and
six months ended July 5, 2020 was $2,183,676 of loan forgiveness that the Company expects to receive from the SBA. Although the
Company has not been legally released from this amount of the loan, management concluded that there was reasonable assurance that
the Company had substantially met the terms for forgiveness and therefore recognized this amount as income. As of July 5, 2020,
the remaining balance of the loan ($33,824) was expected to be recognized as forgiven debt during the third quarter of 2020.
Additionally during the
second quarter of 2020, the Company recorded reimbursed costs of approximately $1,086,000 under the Coronavirus Job Retention
Scheme (“CJRS”) set up by the U.K. government to help employers pay the wages of those employees who would
otherwise have been laid off during the coronavirus outbreak but under the CJRS were furloughed instead. This program
reimbursed the Company for 80% of the compensation expense plus national insurance and certain benefits paid to the
furloughed employees, resulting in lower salary expense for the Company. While the employees were on furlough, the
compensation paid to them was limited to the amount reimbursed by the CJRS. The Company recorded the reimbursed amounts as
offsets to the related expense categories.
While the closures and limitations
on movement, domestically and internationally, are expected to be temporary due to the COVID-19 outbreak, the duration of the supply
chain disruption and related financial impact cannot be estimated at this time. Should the closures continue for an extended period
of time or should the effects of the coronavirus continue to spread, the impact could have a material adverse effect on the Company’s
financial position, results of operations and cash flows which may require that the Company obtain additional financing.
Three Months Ended July 5,
2020 Compared to the Three Months Ended June 30, 2019
The following table sets forth, for the
three months ended July 5, 2020 (“three months 2020”) and June 30, 2019 (“three months 2019”), certain
operational data including their respective percentage of net sales:
|
|
|
Three Months Ended
|
|
|
|
July 5, 2020
|
|
June 30, 2019
|
|
Change
|
|
|
%
Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
7,216,371
|
|
|
100.0%
|
|
$
|
24,095,783
|
|
|
100.0%
|
|
$
|
(16,879,412
|
)
|
|
-70.1%
|
|
Cost of Goods Sold
|
|
|
7,506,718
|
|
|
104.0%
|
|
|
19,883,392
|
|
|
82.5%
|
|
|
(12,376,674
|
)
|
|
-62.2%
|
|
Gross Profit (Loss)
|
|
|
(290,347
|
)
|
|
-4.0%
|
|
|
4,212,391
|
|
|
17.5%
|
|
|
(4,502,738
|
)
|
|
<-100%
|
|
Operating Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling
|
|
|
507,133
|
|
|
7.0%
|
|
|
1,183,803
|
|
|
4.9%
|
|
|
(676,670
|
)
|
|
-57.2%
|
|
General and administrative
|
|
|
1,272,808
|
|
|
17.6%
|
|
|
1,449,060
|
|
|
6.0%
|
|
|
(176,252
|
|
|
-12.2%
|
|
Research and development
|
|
|
157,655
|
|
|
2.2%
|
|
|
447,754
|
|
|
1.9%
|
|
|
(290,099
|
)
|
|
-64.8%
|
|
Total Operating Expenses
|
|
|
1,937,596
|
|
|
26.9%
|
|
|
3,080,617
|
|
|
12.8%
|
|
|
(1,143,021
|
)
|
|
-37.1%
|
|
Operating Income (Loss)
|
|
|
(2,227,943
|
)
|
|
-30.9%
|
|
|
1,131,774
|
|
|
4.7%
|
|
|
(3,359,717
|
)
|
|
<-100%
|
|
Interest expense
|
|
|
(380,834
|
)
|
|
-5.3%
|
|
|
(523,218
|
)
|
|
-2.2%
|
|
|
142,384
|
|
|
-27.2%
|
|
Funding from Paycheck Protection Program
|
|
|
2,183,676
|
|
|
30.3%
|
|
|
-
|
|
|
0.0%
|
|
|
2,183,676
|
|
|
-
|
|
Other expense
|
|
|
(80,281
|
)
|
|
-1.1%
|
|
|
(224,950
|
)
|
|
-0.9%
|
|
|
144,669
|
|
|
-64.3%
|
|
Income (Loss) before Tax Provision
|
|
|
(505,382
|
)
|
|
-7.0%
|
|
|
383,606
|
|
|
1.6%
|
|
|
(888,988
|
)
|
|
<-100%
|
|
Tax provision (benefit)
|
|
|
(240,193
|
)
|
|
-3.3%
|
|
|
20,559
|
|
|
0.1%
|
|
|
(260,752
|
)
|
|
<-100%
|
|
Net Income (Loss)
|
|
|
(265,189
|
)
|
|
-3.7%
|
|
|
363,047
|
|
|
1.5%
|
|
|
(628,236
|
)
|
|
<-100%
|
|
Preferred stock dividend
|
|
|
(795,006
|
)
|
|
-11.0%
|
|
|
(779,946
|
)
|
|
-3.2%
|
|
|
(15,060
|
)
|
|
1.9%
|
Net Loss Allocable to Common
Shareholders
|
|
$
|
(1,060,195
|
)
|
|
-14.7%
|
|
$
|
(416,899
|
)
|
|
-1.7%
|
|
$
|
(643,296
|
)
|
|
>100%
|
Revenue:
Total revenue for the three months 2020
decreased $16,879,412 or 70.1% to $7,216,371 from $24,095,783 for the three months 2019. The currency effect on total revenue was
a positive amount of approximately $15,000.
For the three months 2020 compared to the three months 2019,
U.S. automotive sales decreased 78.9% and European automotive sales decreased 85.1% (excluding the currency adjustment). This significant
decrease was principally due to the COVID-19 pandemic, where most of the Company’s customers in this market and the OEMs
of the automobiles that use the Company’s products, shut down production lines or their entire production facilities at the
end of the first quarter 2020 and continued into the second quarter 2020 as the pandemic continued. The automotive market was improving
at the end of the second quarter as most of the customers and OEMs were restarting their production facilities. The Company’s
sales activity increased significantly in June 2020 as compared to the prior two months. However, they had not yet reached the
run-rate of the period prior to the onset of COVID-19.
Additionally, sales for the industrial sector decreased 43.0% (the same as before the currency effect) primarily due
to a decline in the U.S. contract market. The negative impact of COVID-19 on the global economy was a major factor in the overall
decline in sales.
Also impacting 2020 revenue to a
lesser degree, the Company in August 2019, decommissioned and shut down equipment in the U.K. that manufactured calender product
for both the automotive and industrial market. The Company had built sufficient inventory of this product to service its
customers for several months after the shutdown. Shortly before the shutdown, the Company entered into agreements with
another company to provide some of the calender film it originally produced. Once the film was further processed by the
Company, it was able to continue offering certain products to one of its customers. During the three months 2020, the Company
sold $64,744 of calender product principally using the purchased film compared to $1,441,559 for the three months 2019. Of
these amounts, all were in the automotive market for the three months 2020 and $1,053,890 were in the automotive market for
the three months 2019.
Gross Profit (Loss):
Total gross loss for the three months
2020 was $290,347 compared to gross profit of $4,212,391 for the three months 2019, a decrease of $4,502,738. The gross loss
percentage was -4.0% of sales for the three months 2020 compared to the gross profit percentage of 17.5% for the three months
2019. The negative amount and percentage for the three months 2020 were primarily due to the impact of COVID-19. Despite
reducing manufacturing costs in the three months 2020, which included approximately $934,000 of costs reimbursed through the
CJRS for the salaries of furloughed employees, total revenue for the quarter was not enough to offset fixed costs which were
disproportionately high relative to total sales. The currency effect on gross loss was a positive amount of approximately
$66,000.
Operating Expenses:
Selling expenses for the three months
2020 decreased $676,670 or 57.2% to $507,133 from $1,183,803 for the three months 2019. As previously mentioned, the Company
operates in an industry and market that was significantly impacted by the COVID-19 pandemic. As a result, sales were
significantly less than the prior year due to plant closures of many of its customers. To respond to the lower sales
activity, selling expenses such as travel and entertainment were lower in 2020. In addition, most of the staff in the U.K.
were on furlough and receiving 80% of their normal wages. The Company was reimbursed approximately $56,000 for these wages
through the CJRS resulting in lower salary expense. Also contributing to the lower selling expenses in 2020 was the 2019
closure of the calender product line and the elimination of its applicable employment and commission costs. There was a
favorable currency effect that slightly contributed to the decrease in selling expenses also.
General and administrative expenses
for the three months 2020 decreased $176,252 or 12.2% to $1,272,808 from $1,449,060 for the three months 2019. This decrease
was primarily attributable to the COVID-19 pandemic and lower employment related and other administrative costs, including
wages of approximately $20,000 that were reimbursed through the CJRS. Partially offsetting the decrease was
the unfavorable currency effect of $43,000.
Research and development expenses for
the three months 2020 decreased $290,099 or 64.8% to $157,655 from $447,754 for the three months 2019. The decrease was
principally decreased activities attributable to the COVID-19 pandemic and lower development costs for new trials and wages
of approximately $76,000 that were reimbursed through the CJRS. There was an unfavorable currency effect that slightly offset
the decrease in research and development expenses.
Operating Income (Loss):
Operating loss for the three months
2020 was $2,227,943 compared to operating income of $1,131,774 for the three months 2019, a decrease of $3,359,717. The
decrease was due to the decline in gross profit, which was partially offset by the decrease in operating expenses both a
result of COVID-19. The operating loss percentage was -30.9% of sales for the three months 2020 compared to the operating income
percentage of 4.7% for the three months 2019.
Interest Expense:
Interest expense for the three months 2020
decreased $142,384 or 27.2% to $380,834 from $523,218 for the three months 2019. The decrease was primarily due to lower interest
rates on LIBOR and prime during the three months 2020 and debt repayments compared to the three months 2019.
Funding from Paycheck Protection Program:
For the three months 2020, the
$2,183,676 funding from the PPP is the amount of debt forgiveness that the Company expects to receive from the SBA under the
CARES Act for eligible costs incurred by the Company as of July 5, 2020, as previously discussed.
Other Expense:
Other expense for the three months 2020
was $80,281 compared to $224,950 for the three months 2019. Included in other expense are the currency gains and losses recognized
on foreign currency transactions and the change in the fair value of financial assets and liabilities that are denominated in Euros
as these currencies fluctuated during the period. Also included in other expense are gains and losses from the change in fair values
on the Company’s foreign currency exchange contracts.
Tax Provision (Benefit):
The Company files income tax returns in
the United States as a C-Corporation, and in several state jurisdictions and in the United Kingdom. The Company’s U.S. operating
subsidiary, Uniroyal, is a limited liability company (LLC) for federal and state income tax purposes and as such, its income, losses,
and credits are allocated to its members. The Company made the acquisition of Uniroyal through UEPH, a limited liability company,
which issued preferred ownership interests to the sellers that provide for quarterly dividends. Uniroyal’s taxable income
is allocated entirely to UEPH as its sole member and since it is a pass-through entity, this income less the dividends paid to
the sellers of Uniroyal is reported on the Company’s tax return. The taxable income applicable to the dividends for the preferred
ownership interests is reported to the sellers who report it on their respective individual tax returns.
The Company does not have a history of
repatriating a significant portion of its foreign cash. However, if it decided to repatriate these foreign amounts to fund U.S.
operations, the Company would not be required to pay any additional U.S. tax related to these amounts since the Company previously
recorded a one-time transition tax on deemed repatriation of deferred foreign income.
The tax benefit for the three months 2020
was $240,193 compared to a tax provision of $20,559 for the three months 2019. Both the tax benefit for the three months 2020 and
the tax provision for the three months 2019 were principally attributable to the results of the U.S. operations.
Preferred Stock Dividend:
The terms of the acquisitions in November
2014 resulted in the issuance of preferred ownership units/stock of UEP Holdings, LLC and UGEL (formerly EPAL) to the sellers.
These preferred units have carried quarterly dividend requirements on a total value of $55,000,000 at rates ranging from 5.0% to
8.0%. The dividend rate on the Series B UEP Holdings preferred units which started at 5.5% increases by 0.5% on the anniversary
of the issuance up to a maximum of 8.0%. The payment of dividends for the three months ended July 5, 2020, April 5, 2020 and December
29, 2019 was deferred to preserve cash and provide additional liquidity. As of July 5, 2020 and December 29, 2019, accrued dividends
of $2,386,812 and $788,599, respectively, were included in accrued expenses and other liabilities in the accompanying consolidated
balance sheets.
Six Months Ended July 5,
2020 Compared to the Six Months Ended June 30, 2019
The following table sets forth, for the
six months ended July 5, 2020 (“six months 2020”) and June 30, 2019 (“six months 2019”), certain operational
data including their respective percentage of net sales:
|
|
|
Six Months Ended
|
|
|
|
July 5, 2020
|
|
June 30, 2019
|
|
Change
|
|
|
%
Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
28,356,495
|
|
|
100.0%
|
|
$
|
49,489,643
|
|
|
100.0%
|
|
$
|
(21,133,148
|
)
|
|
-42.7%
|
|
Cost of Goods Sold
|
|
|
24,816,260
|
|
|
87.5%
|
|
|
40,963,050
|
|
|
82.8%
|
|
|
(16,146,790
|
)
|
|
-39.4%
|
|
Gross Profit
|
|
|
3,540,235
|
|
|
12.5%
|
|
|
8,526,593
|
|
|
17.2%
|
|
|
(4,986,358
|
)
|
|
-58.5%
|
|
Operating Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling
|
|
|
1,499,580
|
|
|
5.3%
|
|
|
2,286,841
|
|
|
4.6%
|
|
|
(787,261
|
)
|
|
-34.4%
|
|
General and administrative
|
|
|
2,876,525
|
|
|
10.1%
|
|
|
2,959,860
|
|
|
6.0%
|
|
|
(83,335
|
)
|
|
-2.8%
|
|
Research and development
|
|
|
506,057
|
|
|
1.8%
|
|
|
924,718
|
|
|
1.9%
|
|
|
(418,661
|
)
|
|
-45.3%
|
|
Other operating expenses
|
|
|
-
|
|
|
0.0%
|
|
|
343,003
|
|
|
0.7%
|
|
|
(343,003
|
)
|
|
-100.0%
|
|
Total Operating Expenses
|
|
|
4,882,162
|
|
|
17.2%
|
|
|
6,514,422
|
|
|
13.2%
|
|
|
(1,632,260
|
)
|
|
-25.1%
|
|
Operating Income (Loss)
|
|
|
(1,341,927
|
)
|
|
-4.7%
|
|
|
2,012,171
|
|
|
4.1%
|
|
|
(3,354,098
|
)
|
|
<-100%
|
|
Interest expense
|
|
|
(848,317
|
)
|
|
-3.0%
|
|
|
(1,037,514
|
)
|
|
-2.1%
|
|
|
189,197
|
|
|
-18.2%
|
|
Funding from Paycheck Protection Program
|
|
|
2,183,676
|
|
|
7.7%
|
|
|
-
|
|
|
0.0%
|
|
|
2,183,676
|
|
|
-
|
|
Other income (expense)
|
|
|
(271,170
|
)
|
|
-1.0%
|
|
|
3,183
|
|
|
0.0%
|
|
|
(274,353
|
)
|
|
<-100%
|
|
Income (Loss) before Tax Provision
|
|
|
(277,738
|
)
|
|
-1.0%
|
|
|
977,840
|
|
|
2.0%
|
|
|
(1,255,578
|
)
|
|
<-100%
|
|
Tax benefit
|
|
|
(292,823
|
)
|
|
-1.0%
|
|
|
(18,309
|
)
|
|
0.0%
|
|
|
(274,514
|
)
|
|
>100%
|
|
Net Income
|
|
|
15,085
|
|
|
0.1%
|
|
|
996,149
|
|
|
2.0%
|
|
|
(981,064
|
)
|
|
-98.5%
|
|
Preferred stock dividend
|
|
|
(1,587,841
|
)
|
|
-5.6%
|
|
|
(1,562,490
|
)
|
|
-3.2%
|
|
|
(25,351
|
)
|
|
1.6%
|
Net Loss Allocable to Common
Shareholders
|
|
$
|
(1,572,756
|
)
|
|
-5.5%
|
|
$
|
(566,341
|
)
|
|
-1.1%
|
|
$
|
(1,006,415
|
)
|
|
>100%
|
Revenue:
Total revenue for the six months 2020 decreased
$21,133,148 or 42.7% to $28,356,495 from $49,489,643 for the six months 2019. The currency effect on total revenue was a negative
amount of approximately $308,000.
For the six months 2020 compared to the six months 2019, U.S.
automotive sales decreased 49.9% and European automotive sales decreased 50.4% (excluding the currency adjustment). This significant
decrease was principally due to the COVID-19 pandemic, where most of the Company’s customers in this market and the OEMs
of the automobiles that use the Company’s products, shut down production lines or their entire production facilities at the
end of the first quarter 2020 and continued into the second quarter 2020 as the pandemic continued. The automotive market was improving
at the end of the second quarter as most of the customers and OEMs were restarting their production facilities. The Company’s
sales activity increased significantly in June 2020 as compared to the prior two months. However, they had not yet reached the
run-rate of the period prior to the onset of COVID-19.
Additionally, sales for the industrial sector decreased 27.0% (26.8% before currency effect) primarily due to a decline in the
U.S. contract market. The negative impact of COVID-19 on the global economy was a major factor in the overall decline in sales
which principally began during the latter part of March 2020.
Also impacting 2020 revenue to a
lesser degreee, the Company in August 2019, decommissioned and shut down equipment in the U.K. that manufactured calender
product for both the automotive and industrial market. The Company had built sufficient inventory of this product to service
its customers for several months after the shutdown. Shortly before the shutdown, the Company entered into agreements with
another company to provide some of the calender film it originally produced. Once the film was further processed by the
Company, it was able to continue offering certain products to one of its customers. During the six months 2020, the Company
sold $745,882 of calender product principally using the purchased film compared to $2,821,250 for the six months 2019. Of
these amounts, $691,351 and $1,986,529 were in the automotive market for the six months 2020 and 2019, respectively.
Gross Profit:
Total gross profit for the six months
2020 decreased $4,986,358 or 58.5% to $3,540,235 from $8,526,593 for the six months 2019. The gross profit percentage was
12.5% of sales for the six months 2020 compared to 17.2% for the six months 2019. Gross profit amount and percentage were
negatively impacted by the effect of COVID-19. Despite reducing manufacturing costs in the six months 2020, which included
approximately $934,000 of costs reimbursed through the CJRS for the salaries of furloughed employees, fixed costs were
disproportionately high relative to total sales. The decrease in gross profit included a negative net currency effect of
$17,000.
Operating Expenses:
Selling expenses for the six months
2020 decreased $787,261 or 34.4% to $1,499,580 from $2,286,841 for the six months 2019. As previously mentioned, the Company
operates in an industry and market that was significantly impacted by the COVID-19 pandemic. As a result, sales were
significantly less than the prior year due to plant closures of many of its customers. To respond to the lower sales
activity, selling expenses such as travel and entertainment were lower in 2020. In addition, most of the staff in the U.K.
were on furlough and receiving 80% of their normal wages. The Company was reimbursed approximately $56,000 for these wages
through the CJRS resulting in lower salary expense. Also contributing to the lower selling expenses in 2020 was the 2019
closure of the calender product line and the elimination of its applicable employment and commission costs. Additionally
contributing to the decrease was the favorable currency effect of $16,000.
General and administrative expenses
for the six months 2020 decreased $83,335 or 2.8% to $2,876,525 from $2,959,860 for the six months 2019. This decrease was
primarily attributable to the COVID-19 pandemic and lower employment related and other administrative costs, including wages
of approximately $20,000 that were reimbursed through the CJRS. Partially offsetting the decrease was the
unfavorable currency effect of $9,000.
Research and development expenses for
the six months 2020 decreased $418,661 or 45.3% to $506,057 from $924,718 for the six months 2019. The decrease was
principally decreased activities attributable to the COVID-19 pandemic and lower development costs for new trials and wages
of approximately $76,000 that were reimbursed through the CJRS. Partially offsetting the decrease was the unfavorable
currency effect of $5,000.
There were no other operating expenses
for the six months 2020 and $343,003 for 2019. The amount for 2019 was cost incurred by the Company as part of a restructuring
plan to reduce inefficiencies at its U.K. facility.
Operating Income (Loss):
Operating loss for the six months 2020
was $1,341,927 compared to operating income of $2,012,171 for the six months 2019, a decrease of $3,354,098. The decrease was due
to the decline in gross profit, which was partially offset by the decrease in operating expenses, which included the $343,003 non-recurring
restructuring charge in 2019. The operating loss percentage was -4.7% of sales for the six months 2020 compared to the operating
income percentage of 4.1% for the six months 2019.
Interest Expense:
Interest expense for the six months 2020
decreased $189,197 or 18.2% to $848,317 from $1,037,514 for the six months 2019. The decrease was primarily due to lower interest
rates on LIBOR and prime during the six months 2020 and debt repayments compared to the six months 2019.
Funding from Paycheck Protection Program:
For the six months 2020, the
$2,183,676 funding from the PPP is the amount of debt forgiveness that the Company expects to receive
from the SBA under the CARES Act for eligible costs incurred by the Company as of July 5, 2020, as previously discussed.
Other Income (Expense):
Other expense for the six months 2020 was
$271,170 compared to other income of $3,183 for the six months 2019. Included in other income (expense) are the currency gains
and losses recognized on foreign currency transactions and the change in the fair value of financial assets and liabilities that
are denominated in Euros as these currencies fluctuated during the period. Also included in other income (expense) are gains and
losses from the change in fair values on the Company’s foreign currency exchange contracts.
Tax Benefit:
The Company files income tax returns in
the United States as a C-Corporation, and in several state jurisdictions and in the United Kingdom. The Company’s U.S. operating
subsidiary, Uniroyal, is a limited liability company (LLC) for federal and state income tax purposes and as such, its income, losses,
and credits are allocated to its members. The Company made the acquisition of Uniroyal through UEPH, a limited liability company,
which issued preferred ownership interests to the sellers that provide for quarterly dividends. Uniroyal’s taxable income
is allocated entirely to UEPH as its sole member and since it is a pass-through entity, this income less the dividends paid to
the sellers of Uniroyal is reported on the Company’s tax return. The taxable income applicable to the dividends for the preferred
ownership interests is reported to the sellers who report it on their respective individual tax returns.
The Company does not have a history of
repatriating a significant portion of its foreign cash. However, if it decided to repatriate these foreign amounts to fund U.S.
operations, the Company would not be required to pay any additional U.S. tax related to these amounts since the Company previously
recorded a one-time transition tax on deemed repatriation of deferred foreign income.
The tax benefit for the six months 2020
was $292,823, principally attributable to the results of the U.S. operations, compared to $18,309 for the six months 2019, principally
attributable to the results of the U.K. operations.
Preferred Stock Dividend:
The terms of the acquisitions in November
2014 resulted in the issuance of preferred ownership units/stock of UEP Holdings, LLC and UGEL (formerly EPAL) to the sellers.
These preferred units have carried quarterly dividend requirements on a total value of $55,000,000 at rates ranging from 5.0% to
8.0%. The dividend rate on the Series B UEP Holdings preferred units which started at 5.5% increases by 0.5% on the anniversary
of the issuance up to a maximum of 8.0%. The payment of dividends for the six months ended July 5, 2020 and the three months ended
December 29, 2019 was deferred to preserve cash and provide additional liquidity. As of July 5, 2020 and December 29, 2019, accrued
dividends of $2,386,812 and $788,599, respectively, were included in accrued expenses and other liabilities in the accompanying
consolidated balance sheets.
Liquidity and Sources of Capital
Cash, as it is needed, is provided by using
the Company’s lines of credit. These lines provide for a total borrowing commitment in excess of $33,000,000 subject to the
underlying borrowing base specified in the agreements. Of the total outstanding borrowings of $15,404,849 at July 5, 2020, $10.8
million of the lines bears interest at LIBOR or the Eurodollar rate plus a range of 1.95% to 2.45%, depending on the underlying
borrowing base and $4.6 million bears interest at the bank’s prime or base lending rate which was 3.25% at July 5, 2020.
The lines provided additional availability of approximately $1.8 million and, combined with UEP’s and UGL’s total cash
balances, liquidity was approximately $3.0 million at July 5, 2020. We plan to use this availability and cash provided by operating
activities to finance our cash needs for the remaining months of fiscal 2020 and future periods. The balances due under the lines
of credit are recorded as current liabilities on the consolidated balance sheets.
As a result of the COVID-19 pandemic,
sales of the Company’s products are lower than expected. This has had a negative impact on the Company’s working
capital which could affect its ability to borrow using the Company’s lines of credit. To increase its liquidity, as previously
discussed, the Company has applied for loans under programs offered by the governmental agencies in the United States and in
the United Kingdom. Early in the second quarter of 2020, the Company received $2,217,500 in funds through the Paycheck
Protection Program administered by the United States Small Business Administration, of which $2,183,676 of this debt is
expected to be forgiven as of July 5, 2020. In the U.K., the Company has also recorded £875,000 ($1,086,000) in funding
available under the Coronavirus Job Retention Scheme which reimbursed the Company for the compensation expense paid to
furloughed employees.
The Company continues to attempt to manage its operating costs
to match the reduced sales volume. Although sales activities are increasing, this may not be sufficient to provide the funds needed
particularly for the U.K. operations where the sales reduction was more significant. The Company is seeking additional funding
through programs established by the U.K. government. There is no guarantee that the Company will be successful in obtaining this
funding. The Company also approached its U.K. automotive customers and other stakeholders to provide additional working capital
to meet various short-term cash needs. As of July 29, 2020, it received approximately $1.5 million in loans from these sources
and an additional $800,000 loan from its principal shareholder.
The ratio of current assets to current liabilities, including
the amount due under our lines of credit, was 0.80 at July 5, 2020 and 0.89 at December 29, 2019.
Cash balances increased $747,939, before
the effects of currency translation of $(22,799), to $1,238,728 at July 5, 2020 from $513,588 at December 29, 2019. Of the above
noted amounts, $334,243 and $498,007 were held outside the U.S. by our foreign subsidiaries as of July 5, 2020 and December 29,
2019, respectively.
Cash provided by operations was $5,752,683
for the six months 2020 compared to $805,473 for the six months 2019. For the six months 2020, cash provided by operations was
primarily due to changes in working capital of $7,017,139 and net income of $15,085 offset by adjustments for non-cash items of
$(957,162) and changes in other assets and liabilities of $(322,379). For the six months 2019, cash provided by operations was
primarily due to adjustments for non-cash items of $1,109,420, net income of $996,149 and changes in other assets and liabilities
of $41,131 offset by changes in working capital of $(1,341,227).
Cash used in investing activities was $919,610
for the six months 2020 compared to $826,643 for the six months 2019. During 2020 and 2019, cash used in investing activities was
principally for purchases of machinery and equipment at our manufacturing locations and payments made for company-owned key man
life insurance premiums.
For the six months 2020, cash used in financing
activities was $4,085,134 compared to $288,174 for the six months 2019. Impacting cash flows from financing activities for the
six months 2020 and 2019 were net payments on lines of credit of $4,685,592 and net advances on lines of credit of $1,879,227,
respectively. The changes in the lines of credit reflect the funding of working capital. There were no preferred dividend payments
during the six months 2020 compared to $1,560,822 during the six months 2019, which impacted cash flows from financing activities.
As previously stated, the dividends for the six months 2020 were deferred to preserve cash and provide additional liquidity. During
the six months 2020, payments of $775,000 were made on subordinated secured promissory notes to our majority shareholder. There
were no similar payments made during the six months 2019.
Our credit agreements contain customary
affirmative and negative covenants. We were in compliance with our debt covenants as of July 5, 2020 and through the date of filing
of this report.
We currently have several on-going capital
projects that are important to our long-term strategic goals. Machinery and equipment will also be added as needed to increase
capacity or enhance operating efficiencies in our manufacturing plants. We will use a combination of financing arrangements to
provide the necessary capital. We believe that our existing resources, including cash on hand and our credit facilities, together
with cash generated from operations and additional bank borrowings, will be sufficient to fund our cash flow requirements through
at least the next twelve months. However, there can be no assurance that additional financing will be available on favorable terms,
if at all.
We have no material off balance sheet arrangements.
