ARTS WAY MANUFACTURING CO INC - Quarter Report: 2021 May (Form 10-Q)

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

☒	Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended May 31, 2021

 

or

 

☐	Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ______ to ______

 

Commission File No. 000-05131

 

ART’S-WAY MANUFACTURING CO., INC.

(Exact name of registrant as specified in its charter)

 

	DELAWARE	42-0920725
	(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

 

5556 Highway 9 Armstrong, Iowa 50514

(Address of principal executive offices) (Zip Code)

 

(712) 864-3131

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common stock $.01 par value	ARTW	The Nasdaq Stock Market LLC

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.          Yes ☒ No ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).          Yes ☒ No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer ☐	Accelerated filer ☐
Non-accelerated filer ☒	Smaller reporting company ☒
	Emerging growth company ☐

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.           ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).          Yes ☐ No ☒

 

Number of common shares outstanding as of July 1, 2021: 4,528,972

 

 

 

Art’s-Way Manufacturing Co., Inc.

Index

 

		Page No.
PART I – FINANCIAL INFORMATION		1
Item 1.	Financial Statements	1
	Condensed Consolidated Balance Sheets May 31, 2021 and November 30, 2020	1
	Condensed Consolidated Statements of Operations Three-month and six-month periods ended May 31, 2021 and May 31, 2020	2
	Condensed Consolidated Statements of Stockholders’ Equity Six-month periods ended May 31, 2021 and May 31, 2020	3
	Condensed Consolidated Statements of Cash Flows Six-month periods ended May 31, 2021 and May 31, 2020	4
	Notes to Condensed Consolidated Financial Statements	5
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	22
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	27
Item 4.	Controls and Procedures	27
PART II – OTHER INFORMATION		28
Item 1.	Legal Proceedings	28
Item 1A.	Risk Factors	28
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	28
Item 3.	Defaults Upon Senior Securities	28
Item 4.	Mine Safety Disclosures	28
Item 5.	Other Information	28
Item 6.	Exhibits	28
	SIGNATURES	29

 

 

 

 

		May 31, 2021				November 30, 2020
Assets
Current assets:
Cash		$	5,218			$	2,684
Accounts receivable-customers, net of allowance for doubtful accounts of $41,236 and $51,175 in 2021 and 2020, respectively			2,404,896				2,390,604
Inventories, net			8,996,261				7,762,400
Cost and profit in excess of billings			286,834				56,026
Net investment in sales-type leases, current			11,117				28,352
Other current assets			345,881				61,284
Total current assets			12,050,207				10,301,350
Property, plant, and equipment, net			5,232,017				5,218,662
Assets held for lease, net			521,555				521,555
Deferred income taxes			2,741,878				2,667,686
Other assets			124,603				93,760
Total assets		$	20,670,260			$	18,803,013
Liabilities and Stockholders’ Equity
Current liabilities:
Accounts payable		$	1,678,597			$	1,955,404
Customer deposits			985,210				198,225
Billings in excess of cost and profit			160,236				276,226
Income taxes payable			5,000				1,100
Accrued expenses			1,166,661				1,279,312
Line of credit			4,088,530				2,359,530
Current portion of long-term debt			92,470				94,979
Total current liabilities			8,176,704				6,164,776
Long-term liabilities
Long-term portion of finance lease liabilities			6,111				-
Long-term portion of operating lease liabilities			41,444				18,342
Long-term debt, excluding current portion			2,679,076				2,713,150
Total liabilities			10,903,335				8,896,268
Commitments and Contingencies (Notes 7, 9 and 10)
Stockholders’ equity:
Undesignated preferred stock - $0.01 par value. Authorized 500,000 shares in 2021 and 2020; issued and outstanding 0 shares in 2021 and 2020.			-				-
Common stock – $0.01 par value. Authorized 9,500,000 shares, issued 4,573,504 and 4,470,004 at May 31, 2021 and November 30, 2020, respectively			45,735				44,700
Additional paid-in capital			3,637,007				3,496,243
Retained earnings			6,192,708				6,443,856
Treasury stock, at cost (44,532 in 2021 and 35,097 in 2020 shares)			(108,525	)			(78,054	)
Total stockholders’ equity			9,766,925				9,906,745
Total liabilities and stockholders’ equity		$	20,670,260			$	18,803,013

 

			Three Months Ended								Six Months Ended
			May 31, 2021				May 31, 2020				May 31, 2021				May 31, 2020
Sales			$	5,710,228			$	5,445,732			$	11,110,800			$	10,471,656
Cost of goods sold				3,988,170				4,451,016				8,346,063				8,499,779
Gross profit				1,722,058				994,716				2,764,737				1,971,877
Expenses:
Engineering				122,127				122,593				243,518				232,445
Selling				543,958				401,224				1,016,933				856,908
General and administrative				907,192				1,395,515				1,724,028				2,276,837
Total expenses				1,573,277				1,919,332				2,984,479				3,366,190
Income (Loss) from operations				148,781				(924,616	)			(219,742	)			(1,394,313	)
Other income (expense):
Interest expense				(74,787	)			(77,246	)			(133,471	)			(160,520	)
Other				6,984				4,698				34,642				13,897
Total other income (expense)				(67,803	)			(72,548	)			(98,829	)			(146,623	)
Income (Loss) before income taxes				80,978				(997,164	)			(318,571	)			(1,540,936	)
Income tax expense (benefit)				16,888				(195,444	)			(67,423	)			(302,023	)
Net Income (Loss)				64,090				(801,720	)			(251,148	)			(1,238,913	)

 

		Common Stock								Additional								Treasury Stock
		Number of								paid-in				Retained				Number of
		shares				Par value				capital				earnings				shares				Amount				Total
Balance, November 30, 2019			4,321,087			$	43,211			$	3,250,087			$	8,547,342				18,842			$	(47,058	)		$	11,793,582
Stock based compensation			143,750				1,437				151,315				-				14,471				(26,536	)			126,216
Net (loss)			-				-				-				(1,238,913	)			-				-				(1,238,913	)
Balance, May 31, 2020			4,464,837				44,648				3,401,402				7,308,429				33,313				(73,594	)			10,680,885

		Common Stock								Additional								Treasury Stock
		Number of								paid-in				Retained				Number of
		shares				Par value				capital				earnings				shares				Amount				Total
Balance, November 30, 2020			4,470,004			$	44,700			$	3,496,243			$	6,443,856				35,097			$	(78,054	)		$	9,906,745
Stock based compensation			103,500				1,035				140,764				-				9,435				(30,471	)			111,328
Net (loss)			-				-				-				(251,148	)			-				-				(251,148	)
Balance, May 31, 2021			4,573,504				45,735				3,637,007				6,192,708				44,532				(108,525	)			9,766,925

 

		Six Months Ended
		May 31, 2021				May 31, 2020
Cash flows from operations:
Net (loss)		$	(251,148	)		$	(1,238,913	)
Adjustments to reconcile net (loss) to net cash provided by (used in) operating activities:
Stock based compensation			141,799				152,752
Decrease in obsolete inventory reserves			(144,933	)			(191,997	)
Gain on disposal of property, plant, and equipment			(7,998	)			8,306
Depreciation and amortization expense			308,267				459,436
Accrued interest on deferred debt payments			8,416				-
Change in allowance for doubtful accounts			9,939				10,478
Deferred income taxes			(74,192	)			(332,417	)
Changes in assets and liabilities:
(Increase) decrease in:
Accounts receivable			(24,231	)			(483,894	)
Inventories			(1,088,928	)			(562,207	)
Net investment in sales-type leases			17,235				76,180
Other assets			(284,598	)			(142,341	)
Increase (decrease) in:
Accounts payable			(276,807	)			(8,121	)
Contracts in progress, net			(346,797	)			744,382
Customer deposits			786,985				119,949
Income taxes payable			3,900				-
Accrued expenses			(116,948	)			69,630
Net cash (used in) operating activities			(1,340,039	)			(1,318,777	)
Cash flows from investing activities:
Purchases of property, plant, and equipment			(318,958	)			(412,294	)
Net proceeds from sale of assets			8,000				5,000
Net cash used in investing activities			(310,958	)			(407,294	)
Cash flows from financing activities:
Net change in line of credit			1,729,000				552,000
Proceeds from term debt			-				1,242,900
Repayment of term debt			(44,998	)			(42,490	)
Repurchases of common stock			(30,471	)			(26,536	)
Net cash provided by financing activities			1,653,531				1,725,874
Net increase in cash			2,534				(197	)
Cash at beginning of period			2,684				3,145
Cash at end of period		$	5,218			$	2,948
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest		$	110,180			$	138,280
Income taxes			2,869				30,394

 

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.

 

The Company began operations as a farm equipment manufacturer in 1956. Since that time, it has become a major worldwide manufacturer of agricultural equipment. Its principal manufacturing plant is located in Armstrong, Iowa.

 

The Company has organized its business into three 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. The Agricultural Products segment manufactures and sells farm equipment and related replacement parts under the Art’s-Way Manufacturing label and private labels. The Modular Buildings segment manufactures and installs modular buildings for animal containment and various laboratory uses, and the Tools segment manufactures steel cutting tools and inserts.

 

2)

Summary of Significant Accounting Policies

 

Statement Presentation

 

The foregoing condensed consolidated financial statements of the Company are unaudited and reflect all adjustments (consisting only of normal recurring adjustments) that are, in the opinion of management, necessary for a fair presentation of the Company’s 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 for the fiscal year ended November 30, 2020. The results of operations for the three and six months ended May 31, 2021 are not necessarily indicative of the results to be expected for the fiscal year ending November 30, 2021.

 

Impact of COVID-19

 

The COVID-19 pandemic created some new challenges for the Company through the first half of fiscal 2021. The Company has experienced results consistent with that of a strengthening economy including increased demand in all three segments compared to fiscal 2020. With increased demand, material prices have been skyrocketing, while labor availability has been scarce. These factors will be a challenge for the Company as it works to fulfill its strong backlog over the remainder of fiscal 2021. The COVID-19 pandemic may continue to impact the Company’s business operations and financial operating results and there is uncertainty in the nature and degree of its continued effects over time. Refer to Management’s Discussion and Analysis of Financial Condition and Results of Operations (Part I, Item 2 of this Form 10-Q) for further discussion.

 

Reclassification of Prior Year Presentation

 

Certain prior year amounts have been reclassified for consistency with the current year presentation. These reclassifications had no effect on the reported results of operations. An adjustment has been made to the Condensed Consolidated Statements of Cash Flows for the six months ended May 31, 2020, to identify the non-cash expense related to changes in the Company’s obsolete inventory reserve in the amount of $191,997. This change in classification does not affect previously reported cash flows from operating activities in the Condensed Consolidated Statements of Cash Flows.

 

 

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, 2021. Actual results could differ from those estimates.

 

Revenue Recognition

 

The Company’s revenues primarily result from contracts with customers. The major sources of revenue for the Agricultural Products and Tools segments are farm equipment, service parts related to farm equipment and steel cutting tools and inserts. The Agricultural Products and Tools segments generally execute short-term contracts that contain a single performance obligation – the delivery of product to the common carrier. The Company recognizes revenue for the production and sale of farm equipment, service parts and cutting tools upon shipment of the goods. Risk of ownership and title pass to the customer upon shipment of the goods. The Tools segment has an OEM agreement with one customer for which sales are recognized FOB destination – when the goods hit the customer’s dock. All sales are made to authorized dealers whose application for dealer status has been approved and who have been informed of general sales policies. Any changes in the Company’s terms are documented in the most recently published price lists. Pricing is fixed and determinable according to the Company’s published equipment and parts price lists. Title to all equipment and parts sold passes to the customer upon delivery to the carrier and is not subject to a customer acceptance provision. Proof of the passing of title is documented and retained by the Company. Post shipment obligations are limited to any claim with respect to the condition of the equipment or parts. The Agricultural Products and Tools segments each typically require payment in full 30 days after the ship date. To take advantage of program discounts, some customers pay deposits up front. Any deposits received increase contract liabilities.

 

In certain circumstances, upon the customer’s written request, the Company may recognize revenue when production is complete and the goods are ready for shipment. At the customer’s request, the Company will bill the customer upon completing all performance obligations, but before shipment. The customer dictates that the Company ship the goods per the customer’s direction from the Company’s manufacturing facility, as is customary with this type of agreement, in order to minimize shipping costs. The written agreement with the customer specifies that the goods will be delivered on a schedule to be determined by the customer, with a final specified delivery date, and that the Company will segregate the goods from its inventory, such that they are not available to fill other orders. This agreement also specifies that the customer is required to purchase all goods manufactured under this agreement. Title of the goods will pass to the customer when the goods are complete and ready for shipment, per the customer agreement. At the transfer of title, all risks of ownership have passed to the customer, and the customer agrees to maintain insurance on the manufactured items that have not yet been shipped. The Company has operated using bill and hold agreements with certain customers for many years, with consistent satisfactory results for both the customer and the Company. The credit terms on these agreements are consistent with the credit terms on all other sales. All risks of loss are shouldered by the customer, and there are no exceptions to the customer’s commitment to accept and pay for these manufactured goods.

 

 

The Modular Buildings segment is in the construction industry with its major source of revenue arising from modular building sales. Sales of modular buildings are generally recognized using input methods to measure progress towards the satisfaction of a performance obligation using the percentage of completion method. Revenue and gross profit are recognized as work is performed based on the relationship between actual costs incurred and total estimated costs at completion. Contract costs consist of direct costs on contracts, including labor, materials, amounts payable to subcontractors and those indirect costs related to contract performance, such as equipment costs, insurance and employee benefits. Contract cost is recorded as incurred, and revisions in contract revenues and cost estimates are reflected in the accounting period when known. Provisions for estimated losses on uncompleted contracts are made in the period in which such losses are determined. Contract losses are recognized when current estimates of total contract revenue and contract cost indicate a loss. Estimated contract costs include any and all costs appropriately allocable to the contract. The provision for these contract losses will be the excess of estimated contract costs over estimated contract revenues. Changes in job performance, job conditions and estimated profitability, including those changes arising from contract change orders, penalty provisions and final contract settlements may result in revisions to costs and income and are recognized in the period in which the revisions are determined. The Company uses significant judgements in determining estimated contract costs and completion percentages throughout the life of the project. Stock modular building sales also occur and are recognized at a point in time when the performance obligation is fulfilled through substantial completion. Substantial completion is achieved through customer acceptance of the completed building. The Modular Buildings segment executes contracts with customers that can be short- or long-term in nature. These contracts can have multiple performance obligations and revenue from these can be recognized over time or at a point in time depending on the nature of the contracts. Payment terms for the Modular Buildings segment vary by contract, but typically utilize money down and progress payments throughout the life of the contract. The payment terms of the Modular Buildings segment have the most impact on the Company’s contract receivables, contract assets and contract liabilities. Project invoicing from the Modular Buildings segment increases contract receivables and has an effect on contract liabilities through billings in excess of costs and estimated gross profit and advanced payments. The balance of contract assets is typically made up of the balance of costs and estimated gross profit in excess of billings. Costs and profit in excess of amounts billed are classified as current assets and billings in excess of cost and profit are classified as current liabilities.

 

The Agricultural Products segment offers variable consideration in the form of discounts depending on participation in yearly early order programs. This variable consideration is allocated to the transaction price of all products in a sales arrangement and is not contingent on future outcomes. The Agricultural Products segment does not offer rebates or credits. The Tools segment offers quantity discounts that are allocated to the transaction price of each product once the quantity break is achieved. The Tools segment does not offer rebates or credits. The Modular Buildings segment does not offer discounts, rebates or credits.

 

The Company’s returns policy allows for new and saleable parts to be returned, subject to inspection and a restocking charge, which is included in net sales. Whole goods are not returnable. Shipping costs charged to customers are included in net sales. Freight costs incurred are included in cost of goods sold. Customer deposits consist of advance payments from customers, in the form of cash, for revenue to be recognized in future periods.

 

For information on product warranty as it applies to ASC 606, refer to Note 9 “Product Warranty.”

 

 

Recently Issued Accounting Pronouncements

 

Recently Adopted Accounting Guidance

 

Leases

 

In February 2016, the Financial Accounting Standards Board (the “FASB”) issued ASU 2016-02, “Leases (Topic 842),” which requires a lessee to recognize a right-of-use asset and a lease liability on its balance sheet for all leases with terms of twelve months or greater. The Company adopted this guidance for fiscal 2020 using the modified retrospective approach, including interim periods within that reporting period. Under the modified retrospective approach, the Company did not adjust prior comparative periods. The Company has a moderate amount of leasing activity mainly as the lessee of office equipment and as the lessor of modular rental buildings. As a result of adoption, the Company recognized $34,316 as a right-of-use asset and $34,316 of lease liabilities on the balance sheet in the first quarter of fiscal 2020 for office equipment it leases. The Company’s activity as a lessor will remain mostly unaffected by this guidance.

 

Accounting Pronouncements Not Yet Adopted

 

Measurement of Credit Losses on Financial Instruments

 

In June 2016, the FASB issued ASU 2016-13, “Measurement of Credit Losses on Financial Instruments.” ASU 2016-13 adds a current expected credit loss (“CECL”) impairment model to U.S. GAAP that is based on expected losses rather than incurred losses. Modified retrospective adoption is required with any cumulative-effect adjustment recorded to retained earnings as of the beginning of the period of adoption. ASU 2016-13 is effective for fiscal years beginning after December 15, 2022 for smaller reporting entities, including interim periods within the year of adoption. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company will adopt ASU 2016-13 in fiscal 2024. The Company does not expect the application of the CECL impairment model to have a significant impact on its allowance for uncollectible amounts for accounts receivable.                  

 

 

 

3)

Disaggregation of Revenue

 

The following table displays revenue by reportable segment from external customers, disaggregated by major source. The Company believes disaggregating by these categories depicts how the nature, amount, timing, and uncertainty of revenue and cash flows are affected by economic factors.

 

 

 

 

 

 

 

4)

Contract Receivables, Contract Assets and Contract Liabilities

 

The following table provides information about contract receivables, contract assets, and contract liabilities from contracts with customers included on the Condensed Consolidated Balance Sheets.

 

 

 

The amount of revenue recognized in the first six months of fiscal 2021 that was included in a contract liability on November 30, 2020 was approximately $276,000 compared to $89,000 in the same period of fiscal 2020. Contract receivables remained comparable to the Company’s fiscal year end on May 31, 2021 due to steady demand and shipment of the Company’s products through the first six months of fiscal 2021. Contract assets increased during the six months ended May 31, 2021 as costs in contract exceeded billings on projects in progress in the Modular Buildings segment. Contract liabilities increased during the six months ended May 31, 2021 as the Company completed progress on construction contracts in the Modular Buildings segment and received deposits on equipment in the Agricultural Products segment.

 

The Company utilizes the practical expedient exception for these contracts and will report only on performance obligations greater than one year. As of May 31, 2021, the Company has no performance obligations with an original expected duration greater than one year.

 

5)

Net Income (Loss) Per Share of Common Stock

 

Basic net income (loss) per share of common stock 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 net income (loss) per share.

 

Basic and diluted net income (loss) per share have been computed based on the following as of May 31, 2021, and May 31, 2020:

 

 

 

 

6)

Inventory

 

Major classes of inventory are:

 

 

 

7)

Accrued Expenses

 

Major components of accrued expenses are:

 

 

 

8)

Assets Held for Lease

 

Major components of assets held for lease are:

 

 

 

There were no rents recognized from assets held for lease included in sales on the Condensed Consolidated Statements of Operations during the three and six months ended May 31, 2021, compared to $162,719 and $318,227 for the three and six months ended May 31, 2020, respectively. Rents recognized in sales were related to the leasing of modular buildings as a part of the normal course of business operations of the Modular Buildings segment.

 

There were no future minimum lease receipts from assets held for lease as of May 31, 2021.

 

9)

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. Product warranty is included in the price of the product and provides assurance that the product will function in accordance with agreed-upon specifications. It does not represent a separate performance obligation under ASC 606. 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 7 “Accrued Expenses.” Changes in the Company’s product warranty liability for the three and six months ended May 31, 2021 and May 31, 2020 are as follows:

 

 

 

 

10)

Loan and Credit Agreements

 

The Company maintains two revolving lines of credit and one term loan with Bank Midwest. The Company also has three term loans with the U.S. Small Business Administration under the Economic Injury Disaster Loan program.

 

 

Bank Midwest Revolving Lines of Credit and Term Loan

 

The Company maintains a credit facility with Bank Midwest consisting of a $5,000,000 revolving line of credit (the “2017 Line of Credit”) used for working capital purposes, and a $2,600,000 term loan due October 1, 2037 (the “Term Loan”). On May 31, 2021, the balance of the 2017 Line of Credit was $4,088,530 with $911,470 remaining available, as may be limited by the borrowing base calculation. The 2017 Line of Credit borrowing base is an amount equal to 75% of accounts receivable balances (discounted for aged receivables), plus 50% of inventory, less any outstanding loan balance on the 2017 Line of Credit. On May 31, 2021, the 2017 Line of Credit was not limited by the borrowing base calculation. Any unpaid principal amount borrowed on the 2017 Line of Credit accrues interest at a floating rate per annum equal to 1.00% above the Wall Street Journal rate published in the money rates section of the Wall Street Journal. The interest rate floor is set at 4.75% per annum and the current interest rate is 4.75% per annum. The 2017 Line of Credit was most recently renewed on February 11, 2021. The 2017 Line of Credit matures on March 30, 2022 and requires monthly interest-only payments.

 

The Term Loan accrues interest at a rate of 5.00% for the first sixty months. Thereafter, the Term Loan will accrue interest at a floating rate per annum equal to 0.75% above the Wall Street Journal rate published in the money rates section of the Wall Street Journal. The interest rate floor is set at 4.15% per annum and the interest rate may only be adjusted by Bank Midwest once every five years. Monthly payments of $17,271 for principal and interest are required. The Term Loan is also guaranteed by the United States Department of Agriculture (“USDA”), which required an upfront guarantee fee of $62,400 and requires an annual fee of 0.5% of the unpaid balance. As part of the USDA guarantee requirements, shareholders owning more than 20% are required to personally guarantee a portion of the Term Loan, in an amount equal to their stock ownership percentage. J. Ward McConnell, Jr., the former Vice Chairman of the Board of Directors and a shareholder owning more than 20% of the Company’s outstanding stock, guaranteed approximately 38% of the Term Loan, for an annual fee of 2% of the personally guaranteed amount. J. Ward McConnell, Jr. passed away on May 31, 2021, and his shares are currently held in trust. The USDA will require any shareholders owning 20% once the trust assets are distributed to guarantee a portion of the Term Loan. The initial guarantee fee will be amortized over the life of the Term Loan, and the annual fees and personally guaranteed amounts are expensed monthly.

 

On February 13, 2019, the Company opened a $4,000,000 revolving line of credit (the “2019 Line of Credit”) with Bank Midwest in connection with bonding obligations for the Company’s performance of a large modular laboratory construction project. Funds under the 2019 Line of Credit will be undisbursed to the Company and will be held by Bank Midwest in connection with an Irrevocable Letter of Credit issued by Bank Midwest for the project. The 2019 Line of Credit accrues interest at a floating rate per annum equal to 1.00% above the Wall Street Journal rate published in the money rates section of the Wall Street Journal. The interest rate floor is set at 4.25% per annum and the current interest rate is 4.75% per annum. The 2019 Line of Credit was most recently renewed on February 2, 2021. The 2019 Line of Credit is payable upon demand by Bank Midwest. If no earlier demand is made, the unpaid principal and accrued interest will be payable in one payment, due on February 13, 2022. As of May 31, 2021, the funds on the 2019 Line of Credit remain undisbursed and are held by Bank Midwest. The Company expects to close the 2019 Line of Credit in the second half of fiscal 2021 as the Company’s bonding obligations are met.

 

The Term Loan is governed by the terms of a Promissory Note, dated September 28, 2017, entered into between the Company and Bank Midwest. Each of the 2017 and 2019 Lines of Credit is governed by the terms of a Promissory Note, dated February 11, 2021 and February 2, 2021, respectively, entered into between the Company and Bank Midwest.

 

 

In connection with the 2017 Line of Credit, the Company, Art’s-Way Scientific Inc. and Ohio Metal Working Products/Art’s-Way Inc. each entered into a Commercial Security Agreement with Bank Midwest, dated September 28, 2017, pursuant to which each granted to Bank Midwest a first priority security interest in certain inventory, equipment, accounts, chattel paper, instruments, letters of credit and other assets to secure the obligations of the Company under the line of credit. Each of Art’s-Way Scientific Inc. and Ohio Metal Working Products/Art’s-Way Inc. also agreed to guarantee the obligations of the Company pursuant to the 2017 Line of Credit, as set forth in Commercial Guaranties, each dated September 28, 2017. The 2019 Line of Credit is also secured by these existing security documents.

 

To further secure the 2017 Line of Credit, the Company granted Bank Midwest a mortgage on its Canton, Ohio property held by Ohio Metal Working Products/Art’s-Way Inc. The 2019 Line of Credit is also secured by the mortgage on the Canton, Ohio property. The Term Loan is secured by a mortgage on the Company’s Armstrong, Iowa and Monona, Iowa properties. Each mortgage is governed by the terms of a separate Mortgage, dated September 28, 2017, and each property is also subject to a separate Assignment of Rents, dated September 28, 2017.

 

If the Company or its subsidiaries (as guarantors pursuant to the Commercial Guaranties) commits an event of default with respect to the promissory notes and fails or is unable to cure that default, Bank Midwest may immediately terminate its obligation, if any, to make additional loans to the Company and may accelerate the Company’s obligations under the promissory notes. Bank Midwest shall also 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. In addition, in an event of default, Bank Midwest may foreclose on the mortgaged property.

 

Compliance with Bank Midwest covenants is measured annually on November 30. A maximum debt to worth ratio of 1 to 1 must be maintained, with a minimum of 40% tangible balance sheet equity, with variations subject to mutual agreement. The Company is also required to maintain a minimum debt service coverage ratio of 1.25, with a 0.10 tolerance. The Company also must receive bank approval for purchases or sales of equipment over $100,000 annually and maintain reasonable salaries and owner compensation. The Company received the necessary approvals for purchases of equipment over $100,000 for the six months ended May 31, 2021. The Company was out of compliance with its debt service coverage ratio and the prior minimum working capital requirements covenants in place under the Bank Midwest loans as of November 30, 2020. Bank Midwest issued a waiver forgiving the noncompliance, and in turn waived the event of default. The next measurement date is November 30, 2021.

 

On January 12, 2021, Bank Midwest amended the Company’s working capital requirement of maintaining a minimum working capital ratio of 1.75, while also maintaining $5,100,000 of working capital. The new covenant requires the Company to maintain a working capital requirement of $4,000,000 and drops the requirement to maintain a minimum working capital ratio of 1.75. The $4,000,000 working capital level serves as a trigger point for Bank Midwest and the Company to continue discussion of capital raising strategies to support additional capital injection. This new covenant is measured monthly. As of February 28, 2021, the Company was out of compliance with the working capital covenant by $240,885. On March 22, 2021, Bank Midwest issued a letter to the Company allowing correction of the noncompliance by May 31, 2021. As of May 31, 2021, the Company was out of compliance with the working capital requirement by $126,496, which triggered communication with Bank Midwest to evaluate the Company’s strategy to get back into compliance with the covenant. The Company and Bank Midwest determined that the Company’s strategy to utilize additional funds available under the Economic Injury Disaster Loans (“EIDL”) was acceptable. On May 31, 2021, the Company had $1,050,000 of Economic Injury Disaster Loans (“EIDL”) pending with the U.S. Small Business Administration (“SBA”), which, once received, are expected to put the Company back in compliance.

 

 

SBA Economic Injury Disaster Loans

 

On June 18, 2020, and again on June 24, 2020, the Company executed the standard loan documents required for securing loans offered by the SBA under its EIDL assistance program in light of the impact of the COVID-19 pandemic on the Company’s business. Two loans were executed on June 18, 2020, with principal amounts of $150,000 each, with a third loan executed on June 24, 2020, with a principal amount of $150,000. Proceeds from these EIDLs are being used for working capital purposes. Interest accrues at the rate of 3.75% per annum and will accrue from the date of inception. Installment payments, including principal and interest, are due monthly, twelve months from the date of the EIDLs, in the amount of $731 per EIDL. The balance of principal and interest is payable 30 years from the date of the EIDL. The EIDLs are secured by a security interest on all of the Company’s assets. Each EIDL is governed by the terms of a separate Promissory Note, dated either June 18, 2020, or June 24, 2020, as applicable, entered into by the Company or the applicable subsidiary.

 

On March 11, 2021, the American Rescue Plan Act of 2021 was enacted, which extends the first due date for repayment of EIDLs made in 2020 to 24 months from the date of the note. This act also increased the maximum loan amount from $150,000 to $500,000 per entity. The Company has requested increases up to the maximum of $500,000 for all three segments.

 

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

 

 

A summary of the minimum maturities of term debt follows for the years ending November 30, 2021:

 

 

 

 

11)

Income Taxes

 

Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating losses.

 

12)

Related Party Transactions

 

During the three and six months ended May 31, 2021, and May 31, 2020, the Company did not recognize any revenues from transactions with a related party, and no amounts in accounts receivable balances were due from a related party. From time to time, the Company purchases various supplies from related parties, which are companies owned by the late J. Ward McConnell, Jr., the former Vice Chairman of the Company’s Board of Directors and father to Marc McConnell, the Chairman of the Company’s Board of Directors, who also serves as President of these companies. J. Ward McConnell, Jr., as a shareholder owning more than 20% of the Company’s outstanding stock, was required to guarantee a portion of the Company’s Term Loan in accordance with the USDA guarantee on the Company’s Term Loan. J. Ward McConnell, Jr. was paid a monthly fee for his guarantee. In the three and six months ended May 31, 2021, the Company recognized $7,992 and $12,661 of expense for transactions with related parties, respectively, compared to $5,314 and $9,902 for the three and six months ended May 31, 2020. As of May 31, 2021, accrued expenses contained a balance of $1,483 owed to a related party compared to $1,540 on May 31, 2020.

 

13)

Leases

 

The Company accounts for leases of modular buildings to certain customers as sales-type leases. These leases have terms of up to 36 months and are collateralized by a security interest in the related modular building. The lessee has a bargain purchase option available at the end of the lease term. A minimum lease receivable is recorded net of unearned interest income and profit on sale at the time the Company’s obligation to the lessee is complete. Profit related to the sale of the building is recorded upon fulfillment of the Company’s obligation to the lessee.

 

Modular buildings held for lease by the Modular Buildings segment are recorded at cost. Amortization of each modular building is calculated over the useful life of the building. Estimated useful life is three to five years. Lease revenue is accounted for on a straight-line basis over the term of the related lease agreement. Lease income for modular buildings is included in sales on the consolidated statements of operations.

 

The components related to sales-type leases on May 31, 2021, and November 30, 2020, are as follows:

 

 

 

There was no sales activity related to sales-type leases for the three and six months ended May 31, 2021, and May 31, 2020.

 

Future minimum lease receipts from sales-type leases are as follows:

 

 

 

The Company determines if an arrangement is a lease at inception of a contract. The nature of the Company’s finance and operating leases at this time are office equipment, mainly copiers, with terms of 12 to 60 months. Finance and operating leases are included in other assets as finance or operating lease right-of-use (“ROU”) assets on the Condensed Consolidated Balance Sheets while current lease liabilities are included accrued expenses. The long-term portion of finance and operating lease liabilities are shown as long-term liabilities on the Condensed Consolidated Balance Sheets.

 

ROU assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation to make lease payments arising from the lease. Finance and operating lease ROU assets and liabilities are recognized at the commencement date based on the present value payments over the lease term. As most of the Company’s leases do not provide an implicit rate, the Company generally uses its incremental borrowing rate based on the estimated rate of interest for collateralized borrowing over a similar term of the lease payments at commencement date. The lease terms may include options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option. For operating leases, lease expense for lease payments is recognized on a straight-line basis over the lease term. For finance leases, the ROU asset is amortized on a straight-basis over the shorter of the useful life or lease term and interest expense is recorded using the effective interest method.

 

The Company has copier lease agreements with lease and non-lease components and has elected the practical expedient not to separate lease and non-lease components for this asset class. The Company has also elected not to recognize lease liabilities and ROU assets for short-term leases. The Company recognizes variable costs that depend on usage in profit or loss as they are incurred.

 

The components of operating leases on the Condensed Consolidated Balance Sheets on May 31, 2021 are as follows:

 

 

 

The components of finance leases on the Condensed Consolidated Balance Sheets on May 31, 2021 are as follows:

 

 

The Company included $53,983 of operating and $7,392 of finance lease right-of-use assets net of amortization in other assets on May 31, 2021, compared to $27,879 and $0, on November 30, 2020, respectively. Current portion of operating lease liabilities of $12,539 and $1,296 of finance lease liabilities were included in accrued expenses on May 31, 2021 compared to $9,537 and $0 on November 30, 2020, respectively. $41,444 of long-term operating lease liabilities and $6,111 of long-term finance lease liabilities were included in the long-term liability portion of the Condensed Consolidated Balance Sheets as of May 31, 2021, compared to $18,342 and $0, respectively, on November 30, 2020. The Company recorded $5,909 and $11,989 of operating lease costs in the three and six months ended May 31, 2021, respectively, which included variable costs tied to usage, compared to $5,481 and $13,632 for the three and six months ended May 31, 2020. The Company recorded $119 of amortization and $30 of interest expense in the three and six months ended May 31, 2021 compared to $0 for the same periods of fiscal 2021. The Company’s operating leases carry a weighted average lease term of 54 months and have a weighted average discount rate of 5.50%. The Company’s finance lease carries a lease term of 62 months and uses a discount rate of 4.75%.

 

Future maturities of operating lease liabilities are as follows:

 

 

Future maturities of finance lease liabilities are as follows:

 

 

 

 

14)

Equity Incentive Plan and Stock Based Compensation

 

On February 25, 2020, the Board of Directors of the Company (the “Board”) authorized and approved the Art’s-Way Manufacturing Co., Inc. 2020 Equity Incentive Plan (the “2020 Plan”). The 2020 Plan was approved by the stockholders on April 30, 2020. The 2020 Plan replaced the Art’s-Way Manufacturing Co., Inc. 2011 Equity Incentive Plan (the “2011 Plan”) and added an additional 500,000 shares to the number of shares reserved for issuance pursuant to equity awards. No further awards will be made under the 2011 Plan or other prior plans. Awards to directors and executive officers under the 2020 Plan are governed by the forms of agreement approved by the Board of Directors. Stock options or other awards granted prior to February 25, 2020, are governed by the applicable prior plan and the forms of agreement adopted thereunder.

 

The 2020 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 has approved a director compensation policy pursuant to which non-employee directors are automatically granted restricted stock awards of 1,000 shares of fully vested common stock annually or initially upon their election to the Board and another 1,000 shares of fully vested common stock on the last business day of each fiscal quarter. During the six months ended May 31, 2020, restricted stock awards of 88,500 shares were issued to various employees, directors, and consultants, which vest over the next three years, and restricted stock awards of 15,000 shares were issued to directors as part of the director compensation policy, which vested immediately upon grant. In comparison, during the first six months of fiscal 2020, restricted stock awards of 128,750 shares were issued to various employees, directors, and consultants, which vest over three years from the date of issuance, and restricted stock awards of 15,000 were issued to directors as part of the director compensation policy.

 

Stock-based compensation expense reflects the fair value of stock-based awards measured at the grant date and recognized over the relevant vesting period. The Company estimates the fair value of each stock-based option 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. No stock options were granted during the six months ended May 31, 2021, or in the same respective period of fiscal 2020. The Company incurred a total of $79,745 and $141,799 of stock-based compensation expense for restricted stock awards during the three and six months ended May 31, 2021, respectively, compared to $115,172 and $152,752 of stock-based compensation expense for restricted stock awards for the same respective periods of fiscal 2020. The Company repurchased 3,865 shares and 9,435 shares from employees in the form of treasury stock as consideration for payroll taxes paid on the employee’s behalf for the three and six months ended May 31, 2021, respectively, compared to 3,954 and 14,471 for the same periods in fiscal 2020. Stock compensation net of treasury shares repurchased for the six months ended May 31, 2021, was $111,328 compared to $126,216 for the same period in fiscal 2020.

 

 

 

15)

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. On May 31, 2021, and November 30, 2020, the carrying amount approximated fair value for cash, accounts receivable, net investment in sales-type leases, accounts payable, notes payable to bank, and other current and long-term liabilities. The carrying amounts of current assets and liabilities approximate fair value because of the short maturity of these instruments. The fair value of the net investment in sales-type leases also approximates recorded value as that is based on discounting future cash flows at rates implicit in the lease. The rates implicit in the lease do not materially differ from current market rates. The fair value of the Company’s term loans payable also approximates recorded value because the interest rates charged under the loan terms are not substantially different from current interest rates.

 

16)

Segment Information

 

The Company has three reportable segments: Agricultural Products, Modular Buildings and Tools. The Agricultural Products segment manufactures and sells farm equipment and related replacement parts under the Art’s-Way Manufacturing label and private labels. The Modular Buildings segment manufactures and installs modular buildings for various uses, commonly animal containment and research laboratories. 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.

 

 

 

 

 

 

 

*The consolidated total in the tables is a sum of segment figures and may not tie to actual figures in the condensed consolidated financial statements due to rounding.

 

17)

Subsequent Events

 

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.