ARTS WAY MANUFACTURING CO INC - Quarter Report: 2015 May (Form 10-Q)

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		(Unaudited)
		May 31, 2015				November 30, 2014
Assets
Current assets:
Cash		$	601,724			$	511,716
Accounts receivable-customers, net of allowance for doubtful accounts of $38,415 and $35,175 in 2015 and 2014, respectively			2,931,858				2,961,834
Inventories, net			15,971,257				15,089,280
Deferred taxes			1,312,855				1,259,943
Cost and Profit in Excess of Billings			85,819				17,543
Income taxes receivable			-				100,417
Other current assets			449,434				125,228
Total current assets			21,352,947				20,065,961
Property, plant, and equipment, net			11,371,871				11,680,792
Assets held for lease, net			26,591				58,500
Goodwill			993,729				993,729
Other Assets			42,890				47,360
Total assets		$	33,788,028			$	32,846,342
Liabilities and Stockholders’ Equity
Current liabilities:
Line of credit		$	3,318,878			$	2,569,106
Current portion of term debt			1,302,741				1,283,897
Accounts payable			938,959				874,653
Customer deposits			702,686				95,411
Billings in Excess of Cost and Profit			127,296				96,382
Accrued expenses			1,495,657				1,584,328
Income taxes payable			10,150				-
Total current liabilities			7,896,367				6,503,777
Long-term liabilities
Deferred taxes			1,121,580				1,141,580
Long Term debt, excluding current portion			5,292,554				5,949,329
Total liabilities			14,310,501				13,594,686
Commitments and Contingencies (Notes 6 and 7)
Stockholders’ equity:
Undesignated preferred stock - $0.01 par value. Authorized 500,000 shares in 2015 and 2014; issued and outstanding 0 shares in 2015 and 2014.			-				-
Common stock – $0.01 par value. Authorized 9,500,000 shares in 2015 and 2014; issued and outstanding 4,061,052 in 2015 and 4,048,552 in 2014			40,610				40,486
Additional paid-in capital			2,667,010				2,638,651
Retained earnings			16,769,907				16,572,519
Total stockholders’ equity			19,477,527				19,251,656
Total liabilities and stockholders’ equity		$	33,788,028			$	32,846,342

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		Three Months Ended								Six Months Ended
		May 31, 2015				May 31, 2014				May 31, 2015				May 31, 2014
Sales		$	7,804,111			$	9,468,996			$	15,093,239			$	15,706,331
Cost of goods sold			5,596,379				7,141,227				10,833,376				12,038,146
Gross profit			2,207,732				2,327,769				4,259,863				3,668,185
Expenses:
Engineering			119,540				118,361				235,216				231,899
Selling			581,211				639,893				1,145,925				1,176,043
General and administrative			1,092,837				1,125,624				2,135,429				2,111,288
Total expenses			1,793,588				1,883,878				3,516,570				3,519,230
Income from operations			414,144				443,891				743,293				148,955
Other income (expense):
Interest expense			(81,582	)			(121,222	)			(161,067	)			(175,162	)
Other			21,445				11,431				16,581				17,105
Total other income (expense)			(60,137	)			(109,791	)			(144,486	)			(158,057	)
Income (loss) before income taxes			354,007				334,100				598,807				(9,102	)
Income tax expense (benefit)			122,386				80,945				198,991				(3,943	)
Net income (loss)		$	231,621			$	253,155			$	399,816			$	(5,159	)
Net income per share:
Basic net income (loss) per share		$	0.06			$	0.06			$	0.10			$	(0.00	)
Diluted net income (loss) per share		$	0.06			$	0.06			$	0.10			$	(0.00	)
Weighted average outstanding shares used to compute basic net income per share			4,060,775				4,047,487				4,055,698				4,047,025
Weighted average outstanding shares used to compute diluted net income per share			4,062,294				4,053,747				4,057,073				4,047,025

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		Six Months Ended
		May 31, 2015				May 31, 2014
Cash flows from operations:
Net income (loss)		$	399,816			$	(5,159	)
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Stock based compensation			28,484				14,504
Loss on disposal of property, plant, and equipment			6,955				(958	)
Depreciation expense			459,412				441,230
Bad debt expense (recovery)			3,240				10,939
Deferred income taxes			(72,912	)			(25,003	)
Changes in assets and liabilities:
(Increase) decrease in:
Accounts receivable			26,736				(288,590	)
Inventories			(881,977	)			(945,760	)
Income taxes receivable			100,417				(269,169	)
Other assets			(319,737	)			(371,738	)
Increase (decrease) in:
Accounts payable			64,306				223,896
Contracts in progress, net			(37,362	)			(8,375	)
Customer deposits			607,275				908,211
Income taxes payable			10,150				-
Accrued expenses			(88,671	)			(133,590	)
Net cash provided by (used in) operating activities			306,132				(449,562	)
Cash flows from investing activities:
Purchases of property, plant, and equipment			(139,994	)			(611,211	)
Proceeds from sale of assets			14,456				958
Net cash (used in) investing activities			(125,538	)			(610,253	)
Cash flows from financing activities:
Net change in line of credit			749,772				714,740
Proceeds from term debt			-				1,000,000
Repayment of term debt			(637,931	)			(620,243	)
Proceeds from the exercise of stock options			-				7,760
Dividends paid to stockholders			(202,428	)			-
Net cash provided by (used in) financing activities			(90,586	)			1,102,257
Net increase in cash			90,008				42,442
Cash at beginning of period			511,716				207,950
Cash at end of period		$	601,724			$	250,392
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest		$	160,803			$	176,564
Income taxes			205,296				291,822

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1)	Description of the Company

 

Unless otherwise specified, as used in this Quarterly Report on Form 10-Q, the terms “we,” “us,” “our,” “Art’s-Way,” and the “Company,” refer to Art’s-Way Manufacturing Co., Inc., a Delaware corporation headquartered in Armstrong, Iowa, and its wholly-owned subsidiaries.

 

We began operations as a farm equipment manufacturer in 1956. Since that time, we have become a major worldwide manufacturer of agricultural equipment. Our principal manufacturing plant is located in Armstrong, Iowa.

 

We have organized our business into four operating segments. Management separately evaluates the financial results of each segment because each is a strategic business unit offering different products and requiring different technology and marketing strategies. Our agricultural products segment (“Manufacturing”) manufactures farm equipment under the Art’s-Way Manufacturing label and private labels. Our pressurized vessels segment (“Vessels”) manufactures pressurized vessels. Our modular buildings segment (“Scientific”) manufactures modular buildings for various uses, commonly animal containment and research laboratories and our tools segment (“Metals”) manufactures steel cutting tools and inserts. For detailed financial information relating to segment reporting, see Note 11, “Segment Information.”

 

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2)

Summary of Significant Account Policies

 

Statement Presentation

 

The foregoing condensed consolidated financial statements of the Company are unaudited and reflect all adjustments (consisting only of normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of the financial position and operating results for the interim periods. The financial statements should be read in conjunction with the financial statements and notes thereto contained in the Company’s Annual Report on Form 10-K and the amendment thereto on Form 10-K/A for the fiscal year ended November 30, 2014. The results of operations for the three and six months ended May 31, 2015 are not necessarily indicative of the results for the fiscal year ending November 30, 2015.

 

The financial books of our Canadian operation are kept in the functional currency of Canadian dollars and the financial statements are converted to U.S. Dollars for consolidation. When consolidating the financial results of the Company into U.S. Dollars for reporting purposes, the Company uses the All-Current translation method. The All-Current method requires the balance sheet assets and liabilities be translated to U.S. Dollars at the exchange rate as of quarter end. Owner’s equity is translated at historical exchange rates and retained earnings are translated at an average exchange rate for the period. Additionally, revenue and expenses are translated at average exchange rates for the periods presented. The resulting cumulative translation adjustment is carried on the balance sheet and distributed among various balance sheet accounts. The Company monitors the amount of the adjustment and considers it to be immaterial.

 

Estimates

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities and the reported amounts of revenue and expenses during the three and six months ended May 31, 2015. Actual results could differ from those estimates.

 

3)

Net Income (Loss) Per Share of Common Stock

 

Basic net income (loss) per common share has been computed on the basis of the weighted average number of common shares outstanding. Diluted net income (loss) per share has been computed on the basis of the weighted average number of common shares outstanding plus equivalent shares assuming exercise of stock options. Potential shares of common stock that have an anti-dilutive effect (i.e., those that increase income per share or decrease loss per share) are excluded from the calculation of diluted EPS.

 

 

Basic and diluted earnings (loss) per common share have been computed based on the following as of May 31, 2015 and May 31, 2014:

 

 

4)

Inventory

 

Major classes of inventory are:

 

 

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5)

Accrued Expenses

 

Major components of accrued expenses are:

 

 

6)

Product Warranty

 

The Company offers warranties of various lengths to its customers depending on the specific product and terms of the customer purchase agreement. The average length of the warranty period is one year from the date of purchase. The Company’s warranties require it to repair or replace defective products during the warranty period at no cost to the customer. The Company records a liability for estimated costs that may be incurred under its warranties. The costs are estimated based on historical experience and any specific warranty issues that have been identified. Although historical warranty costs have been within expectations, there can be no assurance that future warranty costs will not exceed historical amounts. The Company periodically assesses the adequacy of its recorded warranty liability and adjusts the balance as necessary. The accrued warranty balance is included in accrued expenses as shown in Note 5.

 

Changes in the Company’s product warranty liability for the three and six months ended May 31, 2015 and May 31, 2014 are as follows:

 

 

 

7)

Loan and Credit Agreements

 

On May 1, 2013, the Company began a banking relationship with U.S. Bank, which includes an $8,000,000 revolving line of credit (the “Line of Credit”) which was renewed in 2014 and was scheduled to mature on May 1, 2015. The Line of Credit is renewable annually with advances funding the Company’s working capital needs and is secured by real property and fixed asset collateral. On May 1, 2015, we signed an extension for the line of credit extending the maturity date to July 1, 2015; on June 23, 2015 we signed an additional extension, extending the maturity date to May 1, 2016. We expect to renew the Line of Credit prior to its maturity date. The interest rate is U.S. Bank’s prime interest rate, adjusted each time that the Federal prime rate changes, with a minimum rate of 3.50%. As of May 31, 2015, the interest rate was the minimum of 3.50%. Monthly interest-only payments are required and the unpaid principal is due on the maturity date. As of May 31, 2015, the Company had a principal balance of $3,318,878 outstanding against the Line of Credit, with $4,255,255 remaining available The Line of Credit states that the borrowing base will be an amount equal to the sum of 75% of accounts receivable (discounted for aged accounts and customer balances exceeding 20% of aggregate receivables), plus 50% of inventory (this component cannot exceed $6,000,000 and only includes finished goods and raw materials deemed to be in good condition and not obsolete), less any outstanding loan balance of the Line of Credit, and less undrawn amounts of outstanding letters of credit issued by U.S. Bank or any affiliate. The Company’s obligations under the Line of Credit are evidenced by a Revolving Credit Note effective May 1, 2013, a Revolving Credit Agreement dated May 1, 2013 and certain other ancillary documents.   

 

 

In addition to the Line of Credit, on May 1, 2013, the Company obtained four U.S. Bank loans totaling $6,319,000 at a fixed interest rate of 2.98% (the “2013 U.S. Bank Term Loans”). As detailed in the Company’s long-term debt summary below, monthly principal and interest payments in the aggregate amount of $93,850 are required, with final payments of principal and accrued interest on the four loans, in the aggregate amount of $1,372,000, due on May 1, 2018.

 

On May 29, 2014, the Company obtained $1,000,000 in long-term debt from U.S. Bank to partially pay down the Line of Credit draw from 2013 that it had used to finance the purchase of the building and property of Ohio Metal Working Products Company in Canton, Ohio. The maturity date of this loan is May 25, 2017, with a final payment of principal and accrued interest in the amount of $890,000 due May 25, 2017. This loan is secured by a mortgage on the building and property acquired from Ohio Metal Working Products Company in Canton, Ohio pursuant to a Mortgage, Security Agreement and Assignment of Rents between the Company and U.S. Bank, dated May 29, 2014.

 

Except for the U.S. Bank UHC Loan (as defined below), each of the Company’s term loans from U.S. Bank is governed by a Term Note and a Term Loan Agreement. Each Term Loan Agreement and the Revolving Credit Agreement require the Company to provide monthly internally prepared financial reports, year-end audited financial statements, and a monthly aging of accounts receivable. The Company, as of the end of each fiscal quarter, must maintain a debt to tangible net worth ratio of not more than 1.5 to 1.0 and a fixed charge coverage ratio of at least 1.15 to 1.00. The Company was in compliance with all covenants under the Term Loan Agreements and the Revolving Credit Agreement as measured on May 31, 2015. The next measurement date is August 31, 2015. The loans are secured by a first position security interest on the assets of the Company and its subsidiaries, including but not limited to, inventories, machinery, equipment and real estate, in accordance with the Business Security Agreements entered into by the Company and its subsidiaries and the Pledge Agreements entered into by the subsidiaries. Additionally, the Company has mortgaged certain real property in favor of U.S. Bank as documented by mortgage agreements dated May 1, 2013 and May 29, 2014 (together, the “Mortgages”).

 

If the Company or its subsidiaries (as guarantors pursuant to continuing guaranties) commits an event of default under the Term Loan Agreements, Business Security Agreements, Pledge Agreements, Mortgages, or Revolving Credit Agreement and fails or is unable to cure that default, the interest rate on each of the loans and Line of Credit could increase by 5.0% per annum and U.S. Bank can immediately terminate its obligation, if any, to make additional loans to the Company. In addition, U.S. Bank may collect any and all money due or to become due and shall have all other rights and remedies for default provided by the Uniform Commercial Code, as well as any other applicable law and the various loan agreements, including, without limitation, the right to repossess, render unusable and/or dispose of the collateral without judicial process. In addition, in an event of default, U.S. Bank may foreclose on mortgaged property pursuant to the terms of the Mortgages.

 

On May 10, 2012, the Company obtained $880,000 in long-term debt from U.S. Bank issued to acquire the building and property of Universal Harvester Co., Inc. located in Ames, Iowa (the “U.S. Bank UHC Loan”). The maturity date of this loan is May 10, 2017, with a final payment of principal and accrued interest in the amount of $283,500 due May 10, 2017. This loan is secured by a mortgage on the building and property acquired from Universal Harvester Co., Inc. in Ames, Iowa, pursuant to a Mortgage, Security Agreement and Assignment of Rents between the Company and U.S. Bank, dated May 10, 2012. On May 1, 2013, the U.S. Bank UHC Loan and the mortgage were amended to extend the mortgage to secure the 2013 U.S. Bank Term Loans in addition to the U.S. Bank UHC Loan.

 

 

If the Company or its subsidiaries (as guarantors) commits an event of default under the agreement governing the U.S. Bank UHC Loan and fails or is unable to cure during any applicable cure periods, the lender may cause the entire amount of the loan to be immediately due and payable, may foreclose on the property, or may increase the interest rate to 5.00% per annum, plus the interest rate otherwise payable under the U.S. Bank UHC Loan.

 

On May 1, 2010, the Company obtained a loan to finance the purchase of an additional facility located in West Union, Iowa to be used as a distribution center, warehouse facility, and manufacturing plant for certain products under the Art’s-Way brand. The funds for this loan were made available by the Iowa Finance Authority by the issuance of tax exempt bonds. This loan had an original principal amount of $1,300,000 and an interest rate of 3.5%. On February 1, 2013, the interest rate was decreased to 2.75%. The other terms of the loan remain unchanged.

 

This loan from the Iowa Finance Authority, which has been assigned to The First National Bank of West Union (n/k/a Bank 1^st), is governed by a Manufacturing Facility Revenue Note dated May 28, 2010 as amended February 1, 2013 and a Loan Agreement dated May 1, 2010 and a First Amendment to Loan Agreement dated February 1, 2013 (collectively, “the IFA Loan Agreement”), which requires the Company to provide quarterly internally prepared financial reports and year-end audited financial statements and to maintain a minimum debt service coverage ratio of 1.5 to 1.0, which is measured at November 30 of each year. Among other covenants, the IFA Loan Agreement also requires the Company to maintain proper insurance on, and maintain in good repair, the West Union Facility, and continue to conduct business and remain duly qualified to do business in the State of Iowa. The loan is secured by a mortgage on the Company’s West Union Facility, pursuant to a Mortgage, Security Agreement, Assignment of Leases and Rents and Fixture Financing Statement dated May 1, 2010 between the Company and The First National Bank of West Union (the “West Union Mortgage”).

 

If the Company commits an event of default under the IFA Loan Agreement and does not cure the event of default within the time specified by the IFA Loan Agreement, the lender may cause the entire amount of the loan to be immediately due and payable and take any other action that it is lawfully permitted to take or in equity to enforce the Company’s performance.

 

The Company was in compliance with all covenants under the IFA Loan Agreement as measured on November 30, 2014. The next measurement date is November 30, 2015.

 

A summary of the Company’s term debt is as follows:

 

 

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8)

Related Party Transactions

 

During the second quarter of fiscal 2015 the Company recognized revenues of $15,718 for transactions with a related party, compared to $9,240 in the second quarter of fiscal 2014. The accounts receivable balance as of May 31, 2015 contains $15,718 due from a related party.

 

9)	Recently Issued Accounting Pronouncements

 

 

Presentation of an Unrecognized Tax Benefit

 

In July 2013, the FASB issued ASU No. 2013-11, “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists” that clarifies how an unrecognized tax benefit should be presented in the financial statements when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists; as a reduction to a deferred tax asset or as a liability. The amendments are meant to eliminate the diversity that exists in the financial statement presentation of the unrecognized tax benefits. The amendments in this ASU do not require new recurring disclosures and are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. The amendments should be applied prospectively to all unrecognized tax benefits that exist at the effective date. The effective date for the Company is our current fiscal year, which began on December 1, 2014. The Company currently has no unrecognized tax benefits that are impacted by the amendment and the implementation of this standard has not had a material impact on our consolidated financial statements.

 

Revenue from Contracts with Customers

 

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers” which supersedes the guidance in “Revenue Recognition (Topic 605)” and requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. ASU 2014-09 is effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period and is to be applied retrospectively, with early application not permitted. We are evaluating the new standard, but do not at this time expect this standard to have a material impact on our consolidated financial statements.

 

Going Concern

 

In August 2014, the FASB issued ASU No. 2014-15, “Presentation of Financial Statements – Going Concern” which is authoritative guidance on management's responsibility to evaluate whether there is substantial doubt about an entity's ability to continue as a going concern and provide related footnote disclosures, codified in ASC 205-40, Going Concern. The guidance provides a definition of the term substantial doubt, requires an evaluation every reporting period including interim periods, provides principles for considering the mitigating effect of management’s plans, requires certain disclosures when substantial doubt is alleviated as a result of consideration of management’s plans, requires an express statement and other disclosures when substantial doubt is not alleviated, and requires an assessment for a period of one year after the date that the financial statements are issued (or available to be issued). ASU No. 2015-15 is effective for annual reporting periods ending after December 15, 2016. The Company will adopt this guidance for the fiscal year ending November 30, 2017, and it will apply to each interim and annual period thereafter. Its adoption is not expected to have a material effect on the Company's consolidated financial statements.

 

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10)	Equity Incentive Plan and Stock Based Compensation

 

On January 27, 2011, the Board of Directors of the Company authorized and approved the Art’s-Way Manufacturing Co., Inc. 2011 Equity Incentive Plan (the “2011 Plan”).  The 2011 Plan was approved by the stockholders on April 28, 2011.  It replaced the Employee Stock Option Plan and the Directors’ Stock Option Plan (collectively, the “Prior Plans”), and no further stock options will be awarded under the Prior Plans.  Awards to directors and executive officers under the 2011 Plan will be governed by the forms of agreement approved by the Board of Directors.

 

The 2011 Plan permits the plan administrator to award nonqualified stock options, incentive stock options, restricted stock awards, restricted stock units, performance awards, and stock appreciation rights to employees (including officers), directors, and consultants.  The Board of Directors has approved a director compensation policy pursuant to which non-employee directors are automatically granted non-qualified stock options to purchase 2,000 shares of common stock annually or initially upon their election to the Board, which are fully vested.

 

Stock options granted prior to January 27, 2011 are governed by the applicable Prior Plan and the forms of agreement adopted thereunder.

 

Stock-based compensation expense reflects the fair value of stock-based awards measured at the grant date and recognized over the relevant vesting period. We estimate the fair value of each stock-based award on the measurement date using the Black-Scholes option valuation model which incorporates assumptions as to stock price volatility, the expected life of the options, risk-free interest rate, and dividend yield. Expected volatility is based on historical volatility of the Company’s stock and other factors. The Company uses historical option exercise and termination data to estimate the expected term the options are expected to be outstanding. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant. The expected dividend yield is calculated using historical dividend amounts and the stock price at the option issuance date. We incurred $15,339 and $28,484 of stock-based compensation expense during the three and six months ended May 31, 2015, respectively, compared to $0 and $14,504 of stock-based compensation expense for the same respective periods of fiscal 2014.

 

11)

Disclosures About the Fair Value of Financial Instruments

 

The fair value of a financial instrument is defined as the amount at which the instrument could be exchanged in a current transaction between willing parties. At May 31, 2015, and November 30, 2014, the carrying amount approximated fair value for cash, accounts receivable, accounts payable, notes payable to bank, and other current and long-term liabilities. The carrying amounts approximate fair value because of the short maturity of these instruments. The fair value of the Company’s installment term loans payable also approximate recorded value because the interest rates charged under the loan terms are not substantially different than current interest rates.

 

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12)

Segment Information

 

There are four reportable segments: agricultural products, pressurized vessels, modular buildings and tools. The agricultural products segment fabricates and sells farming products as well as related equipment and replacement parts for these products in the United States and worldwide. The pressurized vessels segment produces and services pressurized tanks. The modular buildings segment manufactures and installs modular buildings for animal containment and various laboratory uses. The tools segment manufactures steel cutting tools and inserts.

 

The accounting policies applied to determine the segment information are the same as those described in the summary of significant accounting policies. Management evaluates the performance of each segment based on profit or loss from operations before income taxes, exclusive of nonrecurring gains and losses.

 

Approximate financial information with respect to the reportable segments is as follows.

 

 

 

 

 

 

13)

Subsequent Event

 

Management evaluated all other activity of the Company and concluded that no subsequent events have occurred that would require recognition in the condensed consolidated financial statements or disclosure in the notes to the condensed consolidated financial statements other than the extension of the U.S. Bank line of credit as previously discussed in Note 7.

 

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