INTERFACE INC - Quarter Report: 2017 July (Form 10-Q)

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		JULY 2, 2017				JANUARY 1, 2017
		(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and Cash Equivalents		$	66,783			$	165,672
Accounts Receivable, net			136,609				126,004
Inventories			182,808				156,083
Prepaid Expenses and Other Current Assets			24,155				23,123
TOTAL CURRENT ASSETS			410,355				470,882
PROPERTY AND EQUIPMENT, less accumulated depreciation			208,725				204,508
DEFERRED TAX ASSET			32,522				33,117
GOODWILL			66,172				61,218
OTHER ASSETS			66,170				65,714
TOTAL ASSETS		$	783,944			$	835,439
LIABILITIES AND SHAREHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts Payable		$	49,799			$	45,380
Current Portion of Long-Term Debt			15,000				15,000
Accrued Expenses			92,068				98,703
TOTAL CURRENT LIABILITIES			156,867				159,083
LONG-TERM DEBT			215,425				255,347
DEFERRED INCOME TAXES			5,195				4,728
OTHER			74,522				75,552
TOTAL LIABILITIES			452,009				494,710
Commitments and Contingencies
SHAREHOLDERS’ EQUITY:
Preferred Stock			0				0
Common Stock			6,158				6,424
Additional Paid-In Capital			305,331				359,451
Retained Earnings			167,980				140,238
Accumulated Other Comprehensive Income (Loss) – Foreign Currency Translation Adjustment			(89,692	)			(110,522	)
Accumulated Other Comprehensive Income (Loss) – Pension Liability			(57,842	)			(54,862	)
TOTAL SHAREHOLDERS’ EQUITY			331,935				340,729
		$	783,944			$	835,439

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		THREE MONTHS ENDED								SIX MONTHS ENDED
		JULY 2, 2017				JULY 3, 2016				JULY 2, 2017				JULY 3, 2016
NET SALES		$	251,700			$	248,207			$	472,802			$	470,761
Cost of Sales			153,803				149,081				287,103				285,003
GROSS PROFIT ON SALES			97,897				99,126				185,699				185,758
Selling, General and Administrative Expenses			64,852				67,328				130,027				132,933
Restructuring and Asset Impairment Charges			0				0				7,299				0
OPERATING INCOME			33,045				31,798				48,373				52,825
Interest Expense			1,682				1,590				3,299				3,109
Other Expense (Income)			232				(116	)			1,165				333
INCOME BEFORE INCOME TAX EXPENSE			31,131				30,324				43,909				49,383
Income Tax Expense			10,193				9,667				14,424				15,832
NET INCOME		$	20,938			$	20,657			$	29,485			$	33,551
Earnings Per Share – Basic		$	0.33			$	0.32			$	0.46			$	0.51
Earnings Per Share – Diluted		$	0.33			$	0.32			$	0.46			$	0.51
Common Shares Outstanding – Basic			62,789				65,367				63,432				65,526
Common Shares Outstanding – Diluted			62,832				65,405				63,474				65,564

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		THREE MONTHS ENDED								SIX MONTHS ENDED
		JULY 2, 2017				JULY 3, 2016				JULY 2, 2017				JULY 3, 2016
Net Income		$	20,938			$	20,657			$	29,485			$	33,551
Other Comprehensive Income (Loss), Foreign Currency Translation Adjustment			9,800				(8,311	)			20,830				1,068
Other Comprehensive Income (Loss), Pension Liability Adjustment			(2,048	)			2,190				(2,980	)			2,798
Comprehensive Income		$	28,690			$	14,536			$	47,335			$	37,417

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		SIX MONTHS ENDED
		JULY 2, 2017				JULY 3, 2016
OPERATING ACTIVITIES:
Net Income		$	29,485			$	33,551
Adjustments to Reconcile Net Income to Cash Provided by Operating Activities:
Depreciation and Amortization			14,422				14,960
Stock Compensation Amortization Expense			1,821				2,349
Deferred Income Taxes and Other			2,870				4,490
Working Capital Changes:
Accounts Receivable			(6,288	)			1,668
Inventories			(21,087	)			(6,169	)
Prepaid Expenses and Other Current Assets			(667	)			(574	)
Accounts Payable and Accrued Expenses			1,389				(15,731	)
CASH PROVIDED BY OPERATING ACTIVITIES:			21,945				34,544
INVESTING ACTIVITIES:
Capital Expenditures			(15,352	)			(12,752	)
Other			306				1,585
CASH USED IN INVESTING ACTIVITIES:			(15,046	)			(11,167	)
FINANCING ACTIVITIES:
Repayments of Long-Term Debt			(54,675	)			(10,000	)
Borrowing of Long-Term Debt			10,000				20,167
Tax withholding payments for share-based compensation			(1,406	)			(4,629	)
Repurchase of Common Stock			(55,667	)			(10,443	)
Dividends Paid			(7,575	)			(6,547	)
CASH USED IN FINANCING ACTIVITIES:			(109,323	)			(11,452	)
Net Cash Provided by (Used in) Operating, Investing and Financing Activities			(102,424	)			11,925
Effect of Exchange Rate Changes on Cash			3,535				743
CASH AND CASH EQUIVALENTS:
Net Change During the Period			(98,889	)			12,668
Balance at Beginning of Period			165,672				75,696
Balance at End of Period		$	66,783			$	88,364

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NOTE 1 – CONDENSED FOOTNOTES

 

As contemplated by the Securities and Exchange Commission (the “Commission”) instructions to Form 10-Q, the following footnotes have been condensed and, therefore, do not contain all disclosures required in connection with annual financial statements. Reference should be made to the Company’s year-end audited consolidated financial statements and notes thereto contained in its Annual Report on Form 10-K for the fiscal year ended January 1, 2017, as filed with the Commission.

 

The financial information included in this report has been prepared by the Company, without audit. In the opinion of management, the financial information included in this report contains all adjustments (all of which are normal and recurring) necessary for a fair presentation of the results for the interim periods. Nevertheless, the results shown for interim periods are not necessarily indicative of results to be expected for the full year. The January 1, 2017, consolidated condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States.

 

Certain prior period amounts have been reclassified to conform to the current period presentation.

NOTE 2 – INVENTORIES

 

Inventories are summarized as follows:

 

 

NOTE 3 – EARNINGS PER SHARE

 

The Company computes basic earnings per share (“EPS”) by dividing net income by the weighted average common shares outstanding, including participating securities outstanding, during the period as discussed below.  Diluted EPS reflects the potential dilution beyond shares for basic EPS that could occur if securities or other contracts to issue common stock were exercised, converted into common stock or resulted in the issuance of common stock that would have shared in the Company’s earnings.

 

 

The Company includes all unvested stock awards which contain non-forfeitable rights to dividends or dividend equivalents, whether paid or unpaid, in the number of shares outstanding in our basic and diluted EPS calculations when the inclusion of these shares would be dilutive. Unvested share-based awards of restricted stock are paid dividends equally with all other shares of common stock. As a result, the Company includes all outstanding restricted stock awards in the calculation of basic and diluted EPS. Distributed earnings include common stock dividends and dividends earned on unvested share-based payment awards. Undistributed earnings represent earnings that were available for distribution but were not distributed. The following tables show distributed and undistributed earnings:

 

 

The following tables present net income that was attributable to participating securities:

 

 

The weighted average shares outstanding for basic and diluted EPS were as follows:

 

 

For all periods presented, there were no options or participating securities excluded from the computation of diluted EPS.

NOTE 4 – LONG-TERM DEBT

 

Syndicated Credit Facility

 

The Company has a syndicated credit facility (the “Facility”) pursuant to which the lenders provide to the Company and certain of its subsidiaries a multicurrency revolving credit facility and provide to the Company a term loan. Interest on base rate loans is charged at varying rates computed by applying a margin depending on the Company’s consolidated net leverage ratio as of the most recently completed fiscal quarter. Interest on LIBOR-based loans and fees for letters of credit are charged at varying rates computed by applying a margin over the applicable LIBOR rate, depending on the Company’s consolidated net leverage ratio as of the most recently completed fiscal quarter. In addition, the Company pays a commitment fee per annum (depending on the Company’s consolidated net leverage ratio as of the most recently completed fiscal quarter) on the unused portion of the Facility.

 

As of July 2, 2017, the Company had outstanding $177.5 million of term loan borrowings and $52.9 million of revolving loan borrowings under the Facility, and had $2.6 million in letters of credit outstanding under the Facility. As of July 2, 2017, the weighted average interest rate on borrowings outstanding under the Facility was 2.6%.

 

The Company is required to make quarterly amortization payments of the term loan borrowing. The amortization payments are due on the last day of the calendar quarter. The quarterly amortization payment amount was $3.75 million for the second quarter of 2017 and will remain this amount for all future quarters until maturity.

 

 

The Company is currently in compliance with all covenants under the Facility and anticipates that it will remain in compliance with the covenants for the foreseeable future.

 

On August 8, 2017, subsequent to the end of the second quarter of 2017, the Company amended and restated the syndicated credit facility. The terms and conditions of the amended and restated credit facility (the “Amended Facility”) are substantially similar to the preceding Facility, with the following key changes:

 

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The Amended Facility matures in August of 2022;

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The restricted payments covenant in the Amended Facility has been liberalized (and now allows for, among other things, the repurchase of the full amount of the new share repurchase program described above); and

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Permits the potential release of the lenders’ liens on certain real property and equipment in connection with an anticipated property tax abatement transaction in Georgia.

 

Other Lines of Credit

 

Subsidiaries of the Company have an aggregate of the equivalent of $9.8 million of other lines of credit available at interest rates ranging from 2.5% to 6.5%. As of July 2, 2017, there were no borrowings outstanding under these lines of credit. 

NOTE 5 – STOCK-BASED COMPENSATION

 

Stock Option Awards

 

In accordance with accounting standards, the Company measures the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. That cost will be recognized over the period in which the employee is required to provide the services – the requisite service period (usually the vesting period) – in exchange for the award.

 

There were no stock options granted during 2015-2017. All outstanding stock options vested prior to the end of 2013, and therefore there was no stock option compensation expense in the first six months of 2016 or 2017.

 

As of July 2, 2017, there were 82,500 stock options outstanding and exercisable, at an average exercise price of $8.53 per share. There were 5,000 stock options exercised in the first six months of 2017. There were no forfeitures during the 2017 period. There were no exercises or forfeitures of stock options in the first six months of 2016. The aggregate intrinsic value of the outstanding and exercisable stock options was $0.9 million as of July 2, 2017.

 

Restricted Stock Awards

 

During the six months ended July 2, 2017 and July 3, 2016, the Company granted restricted stock awards for 244,000 and 266,500 shares of common stock, respectively. Awards of restricted stock (or a portion thereof) vest with respect to each recipient over a one to three-year period from the date of grant, provided the individual remains in the employment or service of the Company as of the vesting date. Additionally, certain awards (or a portion thereof) could vest (or vest earlier) upon the attainment of certain performance criteria, in the event of a change in control of the Company, or upon involuntary termination without cause.

 

Compensation expense related to restricted stock grants was $1.3 million and $1.7 million for the six months ended July 2, 2017 and July 3, 2016, respectively. Accounting standards require that the Company estimate forfeitures for restricted stock and reduce compensation expense accordingly. The Company has reduced its expense by the assumed forfeiture rate and will evaluate experience against this forfeiture rate going forward.

 

 

The following table summarizes restricted stock outstanding as of July 2, 2017, as well as activity during the six months then ended:

 

 

As of July 2, 2017, the unrecognized total compensation cost related to unvested restricted stock was $5.7 million. That cost is expected to be recognized by the end of 2020.

 

Performance Share Awards

 

In 2017 and 2016, the Company issued awards of performance shares to certain employees. These awards vest based on the achievement of certain performance-based goals over a performance period of one to three years, subject to the employee’s continued employment through the last date of the performance period, and will be settled in shares of our common stock or in cash at the Company’s election. The number of shares that may be issued in settlement of the performance shares to the award recipients may be greater (up to 200%) or lesser than the nominal award amount depending on actual performance achieved as compared to the performance targets set forth in the awards.

 

The following table summarizes the performance shares outstanding as of July 2, 2017, as well as the activity during the six months then ended:

 

 

Compensation expense related to performance shares was $0.5 million and $0.6 million for the six months ended July 2, 2017, and July 3, 2016, respectively. Unrecognized compensation expense related to these performance shares was approximately $8.2 million as of July 2, 2017.

NOTE 6 – EMPLOYEE BENEFIT PLANS

 

The following tables provide the components of net periodic benefit cost for the three-month and six-month periods ended July 2, 2017 and July 3, 2016, respectively:

 

 

 

 

NOTE 7 – SEGMENT INFORMATION

 

Based on applicable accounting standards, the Company has determined that it has three operating segments – namely, the Americas, Europe and Asia-Pacific geographic regions. Pursuant to accounting standards, the Company has aggregated the three operating segments into one reporting segment because they have similar economic characteristics, and the operating segments are similar in all of the following areas: (a) the nature of the products and services; (b) the nature of the production processes; (c) the type or class of customer for their products and services; (d) the methods used to distribute their products or provide their services; and (e) the nature of the regulatory environment.

 

While the Company operates as one reporting segment for the reasons discussed, included below is selected information on our operating segments.

 

 

A reconciliation of the Company’s total operating segment depreciation and amortization, and assets, to the corresponding consolidated amounts follows:

 

 

 

 

 

 

 

NOTE 8 – SUPPLEMENTAL CASH FLOW INFORMATION

 

Cash payments for interest amounted to $3.2 million and $2.5 million for the six months ended July 2, 2017 and July 3, 2016, respectively. Income tax payments amounted to $11.5 million and $7.3 million for the six months ended July 2, 2017 and July 3, 2016, respectively.

NOTE 9 – RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

 

In May 2014, the Financial Accounting Standards Board (“FASB”) issued an accounting standard regarding recognition of revenue from contracts with customers. In summary, the core principle of this standard is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance for this standard was initially effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. However, in August of 2015, the FASB delayed the effective date of the standard for one full year. Nearly 95% of the Company’s revenue is produced from the sale of carpet, hard surface flooring and related products (TacTiles installation system, etc.) and the revenue from sales of these products is recognized upon shipment. There does not exist any performance or any other obligation after the sale of these products outside of the product warranty, which has not historically been of significance compared to total product sales. There is a small portion of the Company’s revenues (less than 6%) that is for the sale and installation of carpet and related products. Of these projects, the overwhelming majority are completed in less than 48 hours and therefore the Company does not anticipate a significant shift in the timing of revenue recognition for these sales either. While the Company is currently continuing its review of this new standard, and the method by which it will be adopted, given the nature of the Company’s sales it does not believe that the adoption of this standard will have a material impact on its revenues, financial condition or results of operations.

 

In July 2015, the FASB issued an accounting standard to simplify the accounting for inventory. This standard requires all inventories to be measured at the lower of cost and net realizable value, except for inventory that is accounted for using the LIFO or the retail inventory method, which will be measured under existing accounting standards. The new guidance must be applied on a prospective basis and is effective for fiscal years beginning after December 15, 2016, with early adoption permitted. The adoption of this new standard did not have any significant impact on the Company’s consolidated financial statements.

 

In November 2015, the FASB issued an accounting standard which requires deferred tax assets and liabilities, as well as any related valuation allowance, be classified as noncurrent on the balance sheet. As a result, each jurisdiction will only have one net noncurrent deferred tax asset or liability. This standard does not change the existing requirement that only permits offsetting within a jurisdiction. The amendments in the standard may be applied either prospectively or retrospectively to all prior periods presented. The new guidance is effective for annual periods beginning after December 15, 2016, and interim periods within those annual periods, with early adoption permitted. The Company adopted this standard in the first quarter of 2017, and recorded a reduction of current assets of $10.0 million and a corresponding increase in long term assets of $5.9 million as well as a reduction of long term liabilities of $4.1 million. The Company applied this standard retrospectively and as a result has adjusted the balance sheet as of the end of 2016 by these amounts as well.

 

 

In March 2016, the FASB issued an accounting standard update to simplify several aspects of accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and the classification on the statement of cash flows. In addition, an entity can make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest, which is the current U.S. GAAP practice, or account for forfeitures when they occur.  This update will be effective for fiscal periods beginning after December 15, 2016, including interim periods within that reporting period. The element of the new standard that will have the most impact on the Company’s financial statements will be income tax consequences. Excess tax benefits and tax deficiencies on stock-based compensation awards will now be included in the tax provision within the consolidated statement of operations as discrete items in the reporting period in which they occur, rather than the current accounting of recording them in additional paid-in capital on the consolidated balance sheet. The adoption of this standard resulted in an increase in deferred tax assets of approximately $5.8 million, with a corresponding increase to equity accounts, as of implementation in the first quarter of 2017. There was an impact of this standard on the consolidated statement of cash flows upon adoption, as under the standard when an employer withholds shares for tax withholding purposes those related tax payments will be treated as financing activities, not as operating activities. Upon adoption in the first quarter of 2017, this resulted in a reclassification of $4.6 million of such tax payments in the first quarter of 2016 from operating activities to financing activities. The Company has elected to continue our current policy of estimating forfeitures of stock-based compensation awards at the time of grant and revising in subsequent periods to reflect actual forfeitures, which is allowable under the new standard.

 

In February 2016, the FASB issued a new accounting standard regarding leases. The new standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The Company is currently evaluating the impact of our pending adoption of the new standard on our consolidated financial statements.

NOTE 10 – INCOME TAXES

 

Accounting standards require that all tax positions be analyzed using a two-step approach. The first step requires an entity to determine if a tax position is more-likely-than-not to be sustained upon examination. In the second step, the tax benefit is measured as the largest amount of benefit, determined on a cumulative probability basis, that is more-likely-than-not to be realized upon ultimate settlement. In the first six months of 2017, the Company increased its liability for unrecognized tax benefits by $0.5 million. As of July 2, 2017, the Company had accrued approximately $28.4 million for unrecognized tax benefits. In accordance with applicable accounting standards, the Company’s deferred tax asset as of July 2, 2017 reflects a reduction for $5.0 million of these unrecognized tax benefits.

NOTE 11 – ITEMS RECLASSIFIED FROM OTHER COMPREHENSIVE INCOME

 

During the first six months of 2017, the Company did not reclassify any significant amounts out of accumulated other comprehensive income. The reclassifications that occurred in that period were primarily comprised of $0.8 million related to the Company’s defined benefit retirement plan and salary continuation plan. These reclassifications were included in the selling, general and administrative expenses line item of the Company’s consolidated condensed statement of operations.

NOTE 12 – REPURCHASE OF COMMON STOCK

 

In the fourth quarter of 2014, the Company announced a program to repurchase up to 500,000 shares of common stock per fiscal year, commencing with the 2014 fiscal year. In the second quarter of 2016, the Company amended the share purchase program to authorize the repurchase of up to $50 million of common stock, with no specific expiration date. During the first three months of 2017, the Company repurchased and retired 1,601,896 shares of common stock at a weighted average purchase price of $19.36 per share. These repurchases completed the $50 million repurchase plan.

 

In the second quarter of 2017, the Company adopted a new share repurchase program in which the Company is authorized to repurchase up to $100 million of its outstanding shares of common stock. The program has no specific expiration date. During the second quarter of 2017, pursuant to this new program, the Company repurchased and retired 1,244,735 shares of common stock at a weighted average price of $19.74 per share.

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NOTE 13 – RESTRUCTURING AND ASSET IMPAIRMENT CHARGES

 

In the fourth quarter of 2016, the Company committed to a new restructuring plan in its continuing efforts to improve efficiencies and decrease costs across its worldwide operations, and more closely align its operating structure with its business strategy. The plan involves (i) a substantial restructuring of the FLOR business model that includes closure of its headquarters office and most retail FLOR stores, (ii) a reduction of approximately 70 FLOR employees and a number of employees in the commercial carpet tile business, primarily in the Americas and Europe regions, and (iii) the write-down of certain underutilized and impaired assets that include information technology assets, intellectual property assets, and obsolete manufacturing, office and retail store equipment.

 

As a result of this plan, the Company incurred a pre-tax restructuring and asset impairment charge in the fourth quarter of 2016 of $19.8 million. In the first quarter of 2017, the Company recorded an additional charge of $7.3 million, primarily related to exit costs associated with the closure of most FLOR retail stores in the first quarter of 2017. The charge in the first quarter of 2017 was comprised of lease exit costs of $3.4 million, asset impairment charges of $3.3 million and severance charges of $0.6 million.

 

A summary of these restructuring activities is presented below:

 

 

 

 

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