ARTS WAY MANUFACTURING CO INC - Quarter Report: 2022 August (Form 10-Q)

Art’s-Way Manufacturing Co., Inc.

Index

Page No.

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

Notes to Unaudited Condensed Consolidated Financial Statements

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.

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, 2021. The results of operations for the three and nine months ended August 31, 2022 are not necessarily indicative of the results to be expected for the fiscal year ending November 30, 2022.

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 months and nine months ended August 31, 2022. Actual results could differ from those estimates.

Recently Issued Accounting Pronouncements

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, 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.                  

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.

The Company offered floorplan terms in its Agricultural Products segment during its Fall 2021 early order program to incentivize customers to stock farm equipment on their lots. Floorplan terms allow customers to pay the Company at the earliest of retail date or 180 days. This program has an effect on the timing of the Company’s fiscal 2022 cash flows compared with historical cash flows.

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 nine months of fiscal 2022 that was included in a contract liability on November 30, 2021 was approximately $559,000. $276,000 of revenue was recognized in the first nine months of fiscal 2021 while the contract liability balance on November 30, 2020 was $276,000.

The Company utilizes the practical expedient exception for these contracts and will report only on performance obligations greater than one year. As of August 31, 2022, the Company has no performance obligations with an original expected duration greater than one year.

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 August 31, 2022 and August 31, 2021:

Major classes of inventory are:

Major components of accrued expenses are:

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 nine months ended August 31, 2022 and August 31, 2021.

The Company has two of the seven rental buildings under lease agreements as of the date of this report. The Company has approximately $30,000 in rents held in customer deposits for rental buildings not in service as of August 31, 2022.

The future minimum lease receipts from assets held for lease for periods after August 31, 2022 are as follows:

On June 14, 2022, the Company received a purchase order in the amount of $383,904 for the purchase of two rental buildings in the Company’s fleet. The Company expects the sale of these units to occur in Q4 of fiscal 2022.

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 August 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 nine months ended August 31, 2022 and August 31, 2021 are as follows:

The Company carried a larger warranty accrual than historically reported in fiscal 2021 due to a large construction project in the Modular Buildings segment. The warranty period for this project closed on April 9, 2022.

Bank Midwest Revolving Lines of Credit

The Company maintains a $5,000,000 revolving line of credit (the “Line of Credit”) and a $550,000 revolving line of credit (the “Reserve Line of Credit”), both used for working capital purposes. The Reserve Line of Credit funds will remain undisbursed until all funds on the Line of Credit are used. On August 31, 2022, the combined balance of the Line of Credit and Reserve Line of Credit was $4,559,000with $991,000remaining available, as may be limited by the borrowing base calculation. The Line of Credit borrowing base is an amount equal to 75% of accounts receivable balances (discounted for aged receivables), plus 50% of net inventory, less any outstanding loan balance on the Line of Credit. On August 31, 2022, the Line of Credit was not limited by the borrowing base calculation. Any unpaid principal amount borrowed on the Line of Credit accrues interest at a floating rate per annum equal to 1.50% 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 (as of filing date) interest rate is 7.750% per annum following several increases in fiscal 2022. The Line of Credit was most recently renewed on March 28, 2022. The Line of Credit matures on March 30, 2023 and requires monthly interest-only payments. Any unpaid principal amount borrowed on the Reserve Line of Credit accrues interest at a floating rate per annum equal to 2.0% above the Wall Street Journal rate published in the money rates section of the Wall Street Journal. The interest rate floor is set at 4.00% per annum and the current interest rate is 8.250% per annum. The Reserve Line of Credit matures on November 30, 2022 and any unpaid balance must be repaid at that time. The Line of Credit is governed by the terms of a Promissory Note, dated February 11, 2021, entered into between the Company and Bank Midwest. The Reserve Line of Credit is governed by the terms of a Promissory Note, dated August 17, 2022, entered into between the Company and Bank Midwest.

In connection with the 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 Line of Credit, as set forth in Commercial Guaranties, each dated September 28, 2017.

To further secure the 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 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.

The Reserve Line of Credit is secured by any and all security documents between the Company and Bank Midwest.

Bank Midwest Term Loans

The Company carries a $2,600,000 term loan due October 1, 2037 (the “Term Loan”), and a $350,000 term loan (the “Roof Term Loan”) due on August 15, 2027. The Term Loan accrues interest at a rate of 5.00% for the first ninety months, which will end on September 28, 2022. 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 $17,271in 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 $62,400and 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. The J. Ward McConnell Jr. Living Trust, the estate of the former Vice Chairman of the Board of Directors and a shareholder owning more than 20% of the Company’s outstanding stock, is guaranteeing approximately 38% of the Term Loan, for an annual fee of 2% of the personally guaranteed amount. 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. The Company also entered into the Roof Term Loan of $350,000on August 17, 2022. The Roof Term Loan’s proceeds were used to fix sections of the Armstrong facility’s roof. The Roof Term Loan requires 59regular payments of $2,972and an estimated balloon payment of $268,176on the maturity date of August 15, 2027. Any unpaid principal amount borrowed on the Roof Term Loan accrues interest at a floating rate per annum equal to 2.00% above the Wall Street Journal rate published in the money rates section of the Wall Street Journal. The interest rate floor is set at 5.00% per annum and the current interest rate is 8.25% per annum. The Term Loan is governed by the terms of a Promissory Note, dated September 28, 2017, entered into between the Company and Bank Midwest. The Roof Term Loan is governed by the terms of a Promissory Note, dated August 17, 2022, entered into between the Company and Bank Midwest.

Compliance

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 the following 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 0.10tolerance. The Company also must receive bank approval for purchases or sales of individual equipment over $50,000individually and maintain reasonable salaries and owner compensation. The Company was out of compliance with its debt to worth ratio covenant in place under the Bank Midwest loan agreements as of November 30, 2021. Bank Midwest issued a waiver forgiving the noncompliance, and in turn waived the event of default. The next measurement date is November 30, 2022.

The Company also has a minimum working capital requirement of $4,000,000 that is measured monthly. 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. As of August 31, 2022, the Company was in compliance with its working capital requirement.

SBA Economic Injury Disaster Loans

The Company secured three loans in the amount of $150,000 each in June of 2021 with the U.S. Small Business Administration under its Economic Injury Disaster Loan (“EIDL”) program. Proceeds from the EIDLs were 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, thirty months from the date of disbursement, in the amount of $731 per loan. The balance of principal and interest is payable 30 years from the date of disbursement. 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.

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

A summary of the minimum maturities of term debt follows for the twelve months ending August 31:

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.

During the three and nine months ended August 31, 2022, and August 31, 2021, 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 in which Marc McConnell, the Chairman of the Company’s Board of Directors, has an ownership interest and also serves as President. J. Ward McConnell Jr.’s estate, the J. Ward McConnell, Jr. Living Trust, is paid a monthly fee to guarantee a portion of the Company’s term debt in accordance with the USDA guarantee obtained on the Company’s term debt. In the three and nine months ended August 31, 2022, the Company recognized $4,209and $19,762of expense for transactions with related parties, respectively, compared to $6,539and $19,200for the three and nine months ended August 31, 2021. As of August 31, 2022, accrued expenses contained a balance of $1,408owed to a related party compared to $1,469on August 31, 2021.

The Company recorded $4,333and $14,368of operating lease costs in the three and nine months ended August 31, 2022, respectively, which included variable costs tied to usage, compared to $5,547and $17,536for the three and nine months ended August 31, 2021. The Company’s operating leases carry a weighted average lease term of 42months and have a weighted average discount rate of 4.86%

Future maturities of operating lease liabilities are as follows:

The components of finance leases on the Consolidated Balance Sheets on August 31, 2022 and November 30, 2021 were as follows:

The Company received $224,513 of grant funds from the Iowa Economic Development’s Manufacturing 4.0 program in Q3 of fiscal 2022. These funds were for 75% reimbursement of three robotic welders that were later financed under a capital lease. These funds have reduced the right-of-use asset account and will reduce amortization over the life of the asset.

Future maturities of finance lease liabilities as of August 31, 2022 are as follows:

The weighted average lease term of the Company’s finance leases are 52 months while the weighted average rate of finance leases is 4.18%. The Company incurred $40,140 and $87,284 of amortization expense from ROU assets related to finance leases in three- and nine-months ending August 31, 2022, respectively compared to $0 for the same periods in 2021.

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 prior plans. The 2020 Plan 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.

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 three- and nine-month periods ended August 31, 2022 or in the same respective period of fiscal 2021.

The Company’s repurchased treasury shares are related to the vesting of employee’s stock compensation. Employees are given the option to pay their share of payroll tax or the Company will buy back the shares and pay the tax on their behalf.

On March 29, 2022, Art’s-Way Manufacturing Co., Inc. (the “Company”) entered into a Common Stock Purchase Agreement (the “Purchase Agreement”) with Alumni Capital LP, a Delaware limited partnership (“Alumni Capital”), pursuant to which the Company agreed to sell, and Alumni Capital agreed to purchase, upon request of the Company in one or more transactions, a number of shares of the Company’s common stock, par value $0.01 per share (the “Common Stock”) providing aggregate gross proceeds to the Company of up to $3,000,000 (the “Maximum”). The Purchase Agreement expires upon the earlier of the aggregate gross proceeds from the sale of shares meeting the Maximum or June 30, 2023.

Among other limitations, unless otherwise agreed upon by Alumni Capital, each sale of shares will be limited to 50,000 shares and further limited to no more than the number of shares that would result in the beneficial ownership by Alumni Capital and its affiliates, at any single point in time, of more than 9.99% of the then-outstanding shares of Common Stock. Alumni Capital will purchase the shares of Common Stock under the Agreement at a discount ranging from 3-5% of the lowest traded price of the Common Stock in the five business days preceding the Company delivering notice of the required purchase of shares to Alumni Capital.

In exchange for Alumni Capital entering into the Purchase Agreement, the Company issued 20,000 shares of Common Stock to Alumni Capital upon execution of the Purchase Agreement (the “Initial Commitment Shares”) and will issue another 20,000 shares in connection with the first closing under the Purchase Agreement (with the Initial Commitment Shares, the “Commitment Shares”). Alumni Capital represented to the Company, among other things, that it was an “accredited investor” (as such term is defined in Rule 501(a) of Regulation D under the Securities Act of 1933, as amended (the “Securities Act”)). The Company shares of Common Stock, including the Commitment Shares, are being offered and sold under the Purchase Agreement in reliance upon an exemption from the registration requirements of the Securities Act afforded by Section 4(a)(2) of the Securities Act and Rule 506(b) of Regulation D promulgated thereunder. The securities sold may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements.

The Purchase Agreement provided that the Company will file a registration statement under the Securities Act covering the resale of the shares issued to Alumni Capital. Alumni Capital’s obligation to purchase shares of Common Stock under the Purchase Agreement is conditioned upon, among other things, the registration statement having been declared effective by the Securities and Exchange Commission. The Company filed a registration statement on Form S-3 (the “Registration Statement”) April 27, 2022 which was declared effective on August 9, 2022 by the SEC.

The Company evaluated the embedded options and believe they should not be bifurcated from the agreement and accounted for separately as it is indexed to the Company’s stock and would qualify for equity treatment on the balance sheet.

The Company incurred approximately $203,000 of expense related to equity issuance in the nine months ended August 31, 2022 in the form of 40,000 commitment shares valued at approximately $160,000, attorney fees for the negotiation and execution of the Purchase Agreement and the preparation and filing of the registration statement. These equity issuance costs have reduced proceeds received under the common stock purchase agreement in additional paid in capital.

Below is a summary of shares purchased by Alumni Capital under this agreement as of the filing date of this report:

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 August 31, 2022 and November 30, 2021, the carrying amount approximated fair value for cash, accounts receivable, accounts payable, notes payable to bank, finance lease liabilities 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 finance lease liabilities also approximate 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.

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. 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.

Management evaluated all other activity of the Company and concluded no other events have occurred that would require recognition in the condensed consolidated financial statements other than the shares sold to Alumni Capital as discussed in Note 15.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

The following discussion and analysis should be read in conjunction with the condensed consolidated financial statements and notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q (this “report”) and the audited consolidated financial statements and related notes thereto included in Part II, Item 8, “Financial Statements and Supplementary Data,” as well as Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” of our Annual Report on Form 10-K for the fiscal year ended November 30, 2021. Some of the statements in this report may be forward-looking statements that reflect our current view on future events, future business, industry and other conditions, our future performance, and our plans and expectations for future operations and actions. In some cases you can identify forward-looking statements by the use of words such as “may,” “should,” “anticipate,” “believe,” “expect,” “plan,” “future,” “intend,” “could,” “estimate,” “predict,” “hope,” “potential,” “continue,” or the negative of these terms or other similar expressions. Many of these forward-looking statements are located in this report under Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” but they may appear in other sections as well. Forward-looking statements in this report generally relate to: (i) our warranty costs and order backlog; (ii) our beliefs regarding the sufficiency of working capital and cash flows; (iii) our expectation that we will continue to be able to renew or obtain financing on reasonable terms when necessary as well as our continued positive relationship with our creditors and lenders; (iv) the impact of recently issued accounting pronouncements; (v) our intentions and beliefs relating to our costs, business strategies, and future performance; (vi) our beliefs concerning our ability to attract and maintain an adequate workforce in a competitive labor market (vii) our expected financial results; (viii) our expectations concerning our primary capital and cash flow needs; and (ix) our expectations regarding the impact of COVID-19 on our business condition and results of operations.

You should read this report thoroughly with the understanding that our actual results may differ materially from those set forth in the forward-looking statements for many reasons, including events beyond our control and assumptions that prove to be inaccurate or unfounded. We cannot provide any assurance with respect to our future performance or results. Our actual results or actions could and likely will differ materially from those anticipated in the forward-looking statements for many reasons, including but not limited to: (i) the impact of changing credit markets on our ability to continue to obtain financing on reasonable terms; (ii) our ability to repay current debt, continue to meet debt obligations and comply with financial covenants; (iii) the effect of inflation as well as general economic conditions, including consumer and governmental spending, on the demand for our products and the cost of our supplies and materials; (iv) the ongoing COVID-19 pandemic; (v) fluctuations in seasonal demand and our production cycle; (vi) the ability of our suppliers to meet our demands for raw materials and component parts; (vii) fluctuations in the price of raw materials, especially steel; (viii) our ability to predict and meet the demands of each market in which our segments operate; and (ix) other factors described from time to time in our Securities and Exchange Commission filings. We do not intend to update the forward-looking statements contained in this report other than as required by law. We caution you not to put undue reliance on any forward-looking statements, which speak only as of the date of this report. You should read this report and the documents that we reference in this report and have filed as exhibits completely and with the understanding that our actual future results may be materially different from what we currently expect. We qualify all of our forward-looking statements by these cautionary statements.

Critical Accounting Policies

Our critical accounting policies involving the more significant judgments and assumptions used in the preparation of our financial statements as of August 31, 2022 remain unchanged from November 30, 2021. Disclosure of these critical accounting policies is incorporated by reference from Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the fiscal year ended November 30, 2021.

Results of Operations

Net Sales and Cost of Sales

Our consolidated corporate sales for the three- and nine-month periods ended August 31, 2022 were $8,140,000 and $21,029,000, respectively, compared to $6,592,000 and $17,703,000 during the same respective periods in fiscal 2021, a $1,548,000, or a 23.5% increase for the three months and a $3,326,000, or 18.8% increase for the nine months. We saw increased sales in both our Agricultural Products and Tools segments for the quarter and year to date as discussed more below. Consolidated gross margin for the three-month period ended August 31, 2022 was 25.1% compared to 26.4% for the same period in fiscal 2021. Consolidated gross margin for the nine-month period ended August 31, 2022 was 25.8% compared to 25.4% for the same period in fiscal 2021.

Our third quarter sales in the Agricultural Products segment were $6,345,000 compared to $4,660,000 during the same period in fiscal 2021, an increase of $1,685,000, or 36.2%. Our year-to-date Agricultural Product sales were $15,823,000 compared to $12,017,000 during the same period in fiscal 2021, an increase of $3,806,000, or 31.7%. We attribute the large increase in revenue to an improved fiscal 2022 agricultural economy that produced five-to-ten-year highs in commodity and livestock prices along with government assistance programs that provided farmers with much needed government assistance during the COVID-19 pandemic. We also saw an increase in orders from offering a floor plan program to allow dealers extended terms in return for stocking inventory. Compared to the nine months ending August 30, 2021, we have sold 20% more grinder mixers, shipped 170% more beet equipment, and had a 30% increase in manure spreader sales. Our backlog moving into Q4 of fiscal 2022 is expected to keep our production line full until our fall 2022 early order program is released to build up our fiscal 2023 backlog. We continue to face supplier delays mainly for hydraulics, cylinders, and other components. We have managed to keep our production line going through our diverse product offering despite these supplier delays and continue to place purchase orders out further into 2023 to avoid part shortages. While the job market has been tough for most employers through COVID-19 we have fared well in hiring and retaining an adequate workforce. Gross margin for our Agricultural Products segment for the three-month period ended August 31, 2022 was 29.7% compared to 27.4% for the same period in fiscal 2021. Gross margin for our Agricultural Products segment for the nine-month period ended August 31, 2022 was 30.6% compared to 29.6% for the same period in fiscal 2021. We took steps to automate production tasks in fiscal 2022 by bringing in three robotic welders. A high-definition plasma cutter is scheduled to be delivered in Q4 of fiscal 2022 that we expect will alleviate production bottlenecks and improve quality. While component prices continue to rise, we have seen steel prices start to level off in Q3 of fiscal 2022. With the help of price increases we believe we can see improved margins beginning in Q4 of fiscal 2022 and Q1 of fiscal 2023.

Our third quarter sales in the Modular Buildings segment were $1,131,000 compared to $1,313,000 for the same period in fiscal 2021, a decrease of $182,000, or 13.9%. Sales in our Modular Buildings segment for the nine months ended August 31, 2022 were $3,208,000 compared to $3,798,000 for the same period in fiscal 2021, a decrease of $590,000, or 15.5%. The decrease for the quarter is due to our workforce focusing on readying rental buildings for sale and lease to be deployed in Q4 of fiscal 2022. The decrease for the year is due to contract delays, mainly slowed by funding approvals for large, quoted projects this segment was working to close at the end of fiscal 2021. Two of these large projects are under engineering contracts and could provide approximately $7 million to our fiscal 2023 backlog upon closing. We have experienced record demand and sales for our agricultural buildings in this segment in fiscal 2022. Gross margin for the three- and nine-month periods ended August 31, 2022 was 6.5% and 9.5%, respectively, compared to 25.8% and 14.8% for the same respective periods in fiscal 2021. We have seen margins erode in fiscal 2022 due to rising material costs on contracts which pricing was fixed. Due to competitive job markets, we maintained higher staffing levels despite a slow first six months of backlog with expectations a few large projects would be contracted in Q1 of fiscal 2022.

Our Tools segment had sales of $664,000 and $1,998,000 during the three- and nine-month periods ended August 31, 2022, respectively, compared to $619,000 and $1,888,000 for the same respective periods in fiscal 2021, a 7.3% increase and a 5.8% increase, respectively. The increase for the quarter and year to date is due to price increases to cover rising costs and continued demand for our products. Our backlog remains strong and labor constraints will be the largest challenge for this segment heading into Q4 of 2022. Gross margin was 12.2% for the three- and 13.6% nine-month periods ended August 31, 2022, compared to 20% for the same respective periods in fiscal 2021. Rising material and overhead costs have decreased our gross margin for the quarter and year to date periods. We increased prices near the end of Q3 of fiscal 2022 to help with margin quality moving forward. We put a Haas milling machine in service in Q3 of fiscal 2022 to improve efficiency and increase output.

Expenses

Our third quarter consolidated selling expenses were $477,000 compared to $532,000 for the same period in fiscal 2021. Our year-to-date selling expenses were $1,595,000 in fiscal 2022 compared to $1,549,000 for the same period in fiscal 2021. Selling expenses as a percentage of sales were 5.9% and 7.6% for the three- and nine-month periods ended August 31, 2022, respectively, compared to 8.1% and 8.7% for the same respective periods in fiscal 2021. The decrease in selling expenses as a percentage of sales for the fiscal 2022 periods is due largely to less commissionable sales in our Agricultural Products and Tools segments. We also underwent a rebranding effort in fiscal 2021 that resulted in increased expenses.

Consolidated engineering expenses were $168,000 and $446,000 for the three- and nine-month periods ended August 31, 2022, respectively, compared to $144,000 and $387,000 for the same respective periods in fiscal 2021. The increase in engineering expenses was related to ongoing employee education and new product development. Engineering expenses as a percentage of sales were 2.1% for the three- and nine-month periods ended August 31, 2022, respectively, compared to 2.2% for the same respective periods in fiscal 2021.

Consolidated administrative expenses for the three- and nine-month periods ended August 31, 2022 were $964,000 and $3,070,000, respectively, compared to $902,000 and $2,627,000 for the same respective periods in fiscal 2021. Administrative expenses as a percentage of sales were 11.8% and 14.6% for the three- and nine-month periods ended August 31, 2022, respectively, compared to 13.7% and 14.8% for the same respective periods in fiscal 2021. As a percentage of sales our administrative expenses are down for both reported periods. However, our actual dollars spent are up due recruitment costs of a key new employee and from increased IT costs as we started the planning phase of an ERP upgrade.

Net Income (Loss)

Consolidated net income was $238,000 for the three-month period ended August 31, 2022 compared to net loss of $56,000 for the same period in fiscal 2021. Our consolidated net income for the nine months ended August 31, 2022 was $6,000 compared to $(195,000). The strong earnings of our Agricultural Segment are being overshadowed by struggles in our Modular Building and Tools segments. Contract delays in the Modular Building segment led to an overstaffed plant for the first six months of fiscal 2022 while construction costs on projects under contract continued to rise. While we are carrying a record backlog in the Tools segment, we struggled with staffing to produce our products. We are taking steps to reinvest in our business with automation and improved processes to put us in a position to provide greater earnings going forward.

Order Backlog

The consolidated order backlog net of discounts as of October 5, 2022, was $9,078,000 compared to $6,097,000 as of October 5, 2021, an increase of $2,980,000 or 49%. The Agricultural Products segment order backlog was $4,719,000 as of October 5, 2022, compared to $3,681,000 in fiscal 2021 an increase of $1,038,0000 or 28%. We continue to see strong demand in our Agricultural Products segment due to high commodity prices and quality product offering. The backlog for the Modular Buildings segment was $3,705,000 as of October 5, 2022, compared to $2,063,000 in fiscal 2021, an increase of $1,642,000 or 80%. Strong demand for modular ag buildings boosted our backlog in Q4 of fiscal 2022. The backlog for the Tools segment was $653,000 as of October 5, 2022, compared to $353,000 in fiscal 2021, an increase of $300,000 or 85%. Demand for our products remains to be high for all three of our business segments. We are focused on delivering for our customers despite supply chain and labor challenges as we finish out fiscal 2022. Our order backlog is not necessarily indicative of future revenue to be generated from such orders due to the possibility of order cancellations and dealer discount arrangements we may enter into from time to time.

Liquidity and Capital Resources

Our primary source of funds for the nine months ended August 31, 2022 was cash generated by financing activities. We used term debt to finance a roof repair for our Armstrong facility. We also used financing from our line of credit, proceeds from a stock purchase agreement and customer deposits to fund heightened inventory needs to keep up with demand and to invest in capital equipment that improves our operational efficiency. We expect our primary capital needs for the remainder of fiscal 2022 to relate to operating costs, fulfillment of customer deposits, purchases of equipment that improve our operations, and the retirement of debt. The Company has $2,454,472 available to draw from Alumni Capital on our common stock purchase agreement. The $545,528 drawn so far has been used for capital improvements and to help with initial cash needs for our floor plan program.

We have $5,550,000 combined availability on revolving lines of credit with Bank Midwest that, as of August 31, 2022, had an outstanding principal balance of $4,559,000. The $5,000,000 line of credit is scheduled to mature on March 30, 2023 while the additional $550,000 of line availability is scheduled to mature on November 30, 2022. The Company secured the additional line of credit to help address increased inventory needs during our beet season and to help with cash outlay needed for an initial floorplan program.

Our 2022 early order program affected cash inflows from accounts receivable as we allowed our customers a floorplan option which allows them to pay us the sooner of retail date or 180 days. As of August 31, 2022, there is approximately $588,000 in our accounts receivable on extended floorplan terms that would have typically been collected by the balance sheet date.

We received approximately $369,000 from Iowa Economic Development’s Manufacturing 4.0 program in Q3 of fiscal 2022. $244,000 of the funds have reduced the right-of-use asset as discussed in Note 13 above. The roughly $144,000 remaining reduced deposits paid in other current assets for a high-definition plasma cutter and crane that is scheduled to be installed in Q4 of fiscal 2022. The funds for this award are provided by the State and Local Fiscal Recovery Fund, part of the American Rescue Plan. The total amount of award available to the Company is $500,000 for which the Iowa Economic Development reimburses the Company for 75% of eligible capital expenditures that increase automation or increase operational efficiency. The Company is required to submit quarterly reports to the Iowa Economic Development through April 30, 2027 under this program and the funds are available for purchases through December 31, 2024.

We believe our current operations and financing arrangements will provide sufficient cash to finance operations and pay debt when due during the next twelve months. We expect to continue to be able to procure financing upon reasonable terms.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

As a smaller reporting company, we are not required to provide disclosure pursuant to this item.

Item 4. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures

The persons serving as our principal executive officer and principal financial officer have evaluated the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) and Rule 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period subject to this report. Based on this evaluation, the persons serving as our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of August 31, 2022. Our management has concluded that the consolidated financial statements included in this report present fairly, in all material respects, our financial position, results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the United States.

Changes in Internal Control over Financial Reporting

There were no changes in our internal controls over financial reporting that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

PART II – OTHER INFORMATION

Item 1. Legal Proceedings.

We are currently not a party to any material pending legal proceedings.

Item 1A. Risk Factors.

As a smaller reporting company, we are not required to provide disclosure pursuant to this item.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

The following table presents the information with respect to purchases made by us of our common stock during the third quarter of fiscal 2022:

⁽¹⁾ Reflects shares withheld pursuant to the terms of restricted stock awards under our 2020 Plan to offset tax withholding obligations that occur upon vesting and release of shares. The value of the shares withheld is the closing price of our common stock on the date the relevant transaction occurs.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

Not applicable.

Item 5. Other Information.

None.         

Item 6. Exhibits.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.