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STARRETT L S CO - Quarter Report: 2014 September (Form 10-Q)

scx20140930_10q.htm

 

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

September 30, 2014

  

  

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 number

1-367

 

THE L. S. STARRETT COMPANY

(Exact name of registrant as specified in its charter)

 

MASSACHUSETTS

  

04-1866480

(State or other jurisdiction of incorporation or organization)

  

(I.R.S. Employer Identification No.)

 

121 CRESCENT STREET, ATHOL, MASSACHUSETTS

01331-1915

(Address of principal executive offices)

(Zip Code)

 

Registrant's telephone number, including area code

978-249-3551

  

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 and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files). 

YES ☒     NO ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.  (Check One):

 

Large Accelerated Filer ☐       Accelerated Filer ☒       Non-Accelerated Filer ☐       Smaller Reporting Company ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

  

YES ☐    NO ☒

 

 

Common Shares outstanding as of

 

October 31, 2014

  

  

 

  

Class A Common Shares

 

6,188,480

  

  

 

  

Class B Common Shares

 

784,058

  

 

 
1

 

  

 THE L. S. STARRETT COMPANY

 

CONTENTS

 

 

 

 

 

Page No.

 

 

 

 

Part I.

Financial Information:

 

 

 

 

 

 

Item 1.

Financial Statements

 

 

 

 

 

 

 

Consolidated Balance Sheets – September 30, 2014 (unaudited) and June 30, 2014

3

 

 

 

 

 

 

Consolidated Statements of Operations – three months ended September 30, 2014 and September 30, 2013 (unaudited)

4

 

 

 

 

 

 

Consolidated Statements of Comprehensive Income (Loss) – three months ended September 30, 2014 and September 30, 2013 (unaudited)

5

 

 

 

 

 

 

Consolidated Statements of Stockholders' Equity – three months ended September 30, 2014 and September 30, 2013 (unaudited)

6

 

 

 

 

 

 

Consolidated Statements of Cash Flows - three months ended September 30, 2014 and September 30, 2013 (unaudited)

7

 

 

 

 

 

 

Notes to Unaudited Consolidated Financial Statements

8-12

 

 

 

 

 

Item 2.

Management's Discussion and Analysis of Financial Condition and Results of Operations

13-14

 

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

14

 

 

 

 

 

Item 4.

Controls and Procedures

14

 

 

 

Part II.

Other Information:

 

 

 

 

 

 

Item 1A.

Risk Factors

15

 

 

 

 

 

Item 6.

Exhibits

15

 

 

 

 

SIGNATURES

16

 

 
2

 

 

PART I.                      FINANCIAL INFORMATION

 

ITEM 1.                      FINANCIAL STATEMENTS

 

THE L. S. STARRETT COMPANY

Consolidated Balance Sheets

(in thousands except share data)

   

September 30,

2014

(unaudited)

   

June 30,

2014

 
                 

ASSETS

               

Current assets:

               

Cash

  $ 18,323     $ 16,233  

Short-term investments

    8,295       8,723  

Accounts receivable (less allowance for doubtful accounts of $700 and $704, respectively)

    35,298       43,712  

Inventories

    65,968       65,582  

Current deferred income tax assets

    4,671       6,037  

Prepaid expenses and other current assets

    8,236       6,615  

Total current assets

    140,791       146,902  
                 

Property, plant and equipment, net

    48,876       51,537  

Long-term taxes receivable

    3,776       3,775  

Long-term deferred income tax assets, net of current portion

    16,322       16,537  

Intangible assets, net

    7,565       7,760  

Goodwill

    3,034       3,034  

Other assets

    1,945       1,898  

Total assets

  $ 222,309     $ 231,443  
                 

LIABILITIES AND STOCKHOLDERS’ EQUITY

               

Current liabilities:

               

Notes payable and current maturities of long-term debt

  $ 11,485     $ 10,548  

Accounts payable

    11,298       9,980  

Accrued expenses

    6,384       8,516  

Accrued compensation

    5,160       6,642  

Total current liabilities

    34,327       35,686  
                 

Long-term debt, net of current portion

    10,408       10,804  

Other tax obligations

    2,863       3,013  

Deferred tax liabilities

    2,027       2,037  

Postretirement benefit and pension obligations

    42,934       43,589  

Total liabilities

    92,559       95,129  
                 

Stockholders' equity:

               

Class A Common stock $1 par (20,000,000 shares authorized; 6,182,016 outstanding at September 30, 2014 and 6,165,838 outstanding at June 30, 2014)

    6,182       6,166  

Class B Common stock $1 par (10,000,000 shares authorized; 787,109 outstanding at September 30, 2014 and 794,990 outstanding at June 30, 2014)

    787       795  

Additional paid-in capital

    54,235       54,063  

Retained earnings

    95,941       95,715  

Accumulated other comprehensive loss

    (27,395

)

    (20,425

)

Total stockholders' equity

    129,750       136,314  

Total liabilities and stockholders’ equity

  $ 222,309     $ 231,443  

 

 

See Notes to Unaudited Consolidated Financial Statements

 

 
3

 

 

THE L. S. STARRETT COMPANY

Consolidated Statements of Operations

(in thousands except per share data) (unaudited)

 

   

3 Months Ended

 
   

9/30/2014

   

9/30/2013

 
                 

Net sales

  $ 60,172     $ 57,487  

Cost of goods sold

    41,029       39,678  

Gross margin

    19,143       17,809  

% of Net sales

    31.8

%

    31.0

%

                 
                 

Selling, general and administrative expenses

    18,077       17,073  
                 

Operating income

    1,066       736  
                 

Other income

    675       109  
                 

Income before income taxes

    1,741       845  
                 

Income tax expense

    818       629  
                 

Net income

  $ 923     $ 216  
                 
                 

Basic and diluted income per share

  $ 0.13     $ 0.03  
                 

Weighted average outstanding shares used in per share calculations:

               

Basic

    6,965       6,895  

Diluted

    6,999       6,931  
                 
                 

Dividends per share

  $ .10     $ .10  

 

 

See Notes to Unaudited Consolidated Financial Statements

 

 
4

 

  

THE L. S. STARRETT COMPANY

Consolidated Statements of Comprehensive Income (Loss)

 (in thousands) (unaudited)

  

   

3 Months Ended

 
   

9/30/2014

   

9/30/2013

 
                 

Net income

  $ 923     $ 216  

Other comprehensive income (loss), net of tax:

               

Translation (loss) gain

    (6,948

)

    1,175  

Pension and postretirement plans

    (22

)

    (15

)

Other comprehensive (loss) income

    (6,970

)

    1,160  
                 

Total comprehensive (loss) income

  $ (6,047

)

  $ 1,376  

 

 
5

 

 

THE L. S. STARRETT COMPANY

Consolidated Statements of Stockholders' Equity

For the Three Months Ended September 30, 2014 and September 30, 2013

(in thousands except per share data) (unaudited)

 

   

Common Stock

Outstanding

   

Additional

Paid-in

   

Retained

   

Accumulated

Other Comprehensive

         
   

Class A

   

Class B

   

Capital

   

Earnings

   

Loss

   

Total

 

Balance June 30, 2013

  $ 6,077     $ 750     $ 52,613     $ 91,778     $ (24,476

)

  $ 126,742  

Total comprehensive income

                            216       1,160       1,376  

Dividends ($0.10 per share)

                            (691

)

            (691

)

Issuance of stock under 1984 ESOP

    7               62                       69  

Issuance of stock under 2013 ESOP

            76       697                       773  

Issuance of stock for length of service awards

    5               54                       59  

Stock-based compensation

                    55                       55  

Conversion of class B to class A

    10       (10

)

                               

Balance September 30, 2013

  $ 6,099     $ 816     $ 53,481     $ 91,303     $ (23,316

)

  $ 128,383  
                                                 

Balance June 30, 2014

  $ 6,166     $ 795     $ 54,063     $ 95,715     $ (20,425

)

  $ 136,314  

Total comprehensive income (loss)

                            923       (6,970

)

    (6,047

)

Dividends ($0.10 per share)

                            (697

)

            (697

)

Repurchase of shares

            (1

)

    (10

)

                    (11

)

Issuance of stock under 1984 ESOP

    4               62                       66  

Issuance of stock for length of service awards

    5               71                       76  

Stock-based compensation

                    49                       49  

Conversion of class B to class A

    7       (7

)

                            -  

Balance September 30, 2014

  $ 6,182     $ 787     $ 54,235     $ 95,941     $ (27,395

)

  $ 129,750  
                                                 

Accumulated balance consists of:

                                               

Translation loss

                                  $ (25,259

)

       

Pension and postretirement plans, net of taxes

                                    (2,136

)

       
                                    $ (27,395

)

       


 

See Notes to Unaudited Consolidated Financial Statements

 

 
6

 

 

THE L. S. STARRETT COMPANY

Consolidated Statements of Cash Flows

(in thousands of dollars) (unaudited)

 

   

3 Months Ended

 
   

9/30/2014

   

9/30/2013

 
                 

Cash flows from operating activities:

               

  Net income

  $ 923     $ 216  

Non-cash operating activities:

               

Depreciation

    1,996       2,023  

Amortization

    317       289  

Stock-based compensation

    49       55  

Issuance of stock for length of service awards

    76       59  

Deferred taxes

    1,343       480  

Unrealized transaction gain

    (1

)

    (5

)

Income on equity method investment

    (47

)

    (94

)

Working capital changes:

               

Accounts receivable

    5,825       4,481  

Inventories

    (3,457

)

    (1,133

)

Other current assets

    (1,970

)

    (1,074

)

Other current liabilities

    (1,012

)

    (733

)

Postretirement benefit and pension obligations

    (6

)

    443  

Other

    799       230  

Net cash provided by operating activities

    4,835       5,237  
                 

Cash flows from investing activities:

               

Additions to property, plant and equipment

    (1,584

)

    (1,451

)

Purchase of investments

    (28

)

    (26

)

Net cash used in investing activities

    (1,612

)

    (1,477

)

                 

Cash flows from financing activities:

               

Proceeds from short-term borrowings

    921       -  

Short-term debt repayments

    -       (15

)

Long-term debt repayments

    (379

)

    (1,887

)

Proceeds from common stock issued

    66       69  

Shares purchased

    (11

)

    -  

Dividends paid

    (697

)

    (691

)

Net cash used in financing activities

    (100

)

    (2,524

)

                 

Effect of exchange rate changes on cash

    (1,033

)

    157  
                 

Net increase in cash

    2,090       1,393  

Cash, beginning of period

    16,233       19,755  

Cash, end of period

  $ 18,323     $ 21,148  
                 

Supplemental cash flow information:

               

Interest paid

  $ 187     $ 239  

Income taxes paid, net

    897       1,840  
                 

Supplemental disclosure of non-cash activities:

               

Issuance of stock under 2013 ESOP

  $ -     $ 773  

 

 

See Notes to Unaudited Consolidated Financial Statements

 

 
7

 

 

THE L. S. STARRETT COMPANY

Notes to Unaudited Consolidated Financial Statements

September 30, 2014

 

Note 1:   Basis of Presentation and Summary of Significant Account Policies

 

The balance sheet as of June 30, 2014, which has been derived from audited financial statements, and the unaudited interim financial statements have been prepared by The L.S. Starrett Company (the “Company”) in accordance with accounting principles generally accepted in the United States of America for interim financial reporting.  Accordingly, they do not include all of the information and notes required by generally accepted accounting principles for complete financial statements.  These unaudited financial statements, which, in the opinion of management, reflect all adjustments (including normal recurring adjustments) necessary for a fair presentation, should be read in conjunction with the financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended June 30, 2014.  Operating results are not necessarily indicative of the results that may be expected for any future interim period or for the entire fiscal year.

 

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires management to make judgments, assumptions and estimates that affect amounts reported in the consolidated financial statements and accompanying notes.  Note 2 to the Company’s Consolidated Financial Statements included in the Annual Report on Form 10-K for the year ended June 30, 2014 describes the significant accounting policies and methods used in the preparation of the consolidated financial statements.

 

Note 2: Recent Accounting Pronouncements

 

In May 2014, the FASB issued a new standard related to the “Revenue from Contracts with Customers” which amends the existing accounting standards for revenue recognition. The standard requires entities to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration the entity expects to be entitled to in exchange for those goods or services. This standard is applicable for fiscal years beginning after December 15, 2016 and for interim periods within those years and early adoption is not permitted. The Company expects to adopt this standard on July 1, 2017. The Company is currently evaluating the impact of the adoption of this standard on its consolidated financial statements.

 

Accounting Standards Update 2013-11, Income Taxes: Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists was approved by the FASB in July 2013 and requires that companies report their tax reserves net of the impact of tax loss and credit carryforwards by its year beginning after December 15, 2013. The Company has implemented this pronouncement in the first quarter of fiscal 2015 with retrospective application as permitted by the standard. Amounts presented for prior periods have been reclassified to conform. There is no effect on tax expense and net income. On the balance sheet, there is a reduction in deferred tax assets of $7.8 million and a reduction in Other Tax Obligations of $7.8M for all periods presented.

 

Note 3:  Stock-based Compensation

 

On September 5, 2012, the Board of Directors adopted The L.S. Starrett Company 2012 Long Term Incentive Plan (the “2012 Stock Plan”). The 2012 stock plan was approved by shareholders October 17, 2012. The 2012 Stock Plan permits the granting of the following types of awards to officers, other employees and non-employee directors: stock options; restricted stock awards; unrestricted stock awards; stock appreciation rights; stock units including restricted stock units; performance awards; cash-based awards; and awards other than previously described that are convertible or otherwise based on stock. The 2012 Stock Plan provides for the issuance of up to 500,000 shares of common stock. 

 

Options granted vest in periods ranging from one year to three years and expire ten years after the grant date. Restricted stock units (“RSU”) granted generally vest from one year to three years. Vested restricted stock units will be settled in shares of common stock. As of September 30, 2014, there were 20,500 stock options and 44,967 restricted stock units outstanding. In addition, there were 431,800 shares available for grant under the 2012 Stock Plan as of September 30, 2014.

 

For the stock option grant the fair value of each grant was estimated at the date of grant using the Binomial Options pricing model. The Binomial Options pricing model utilizes assumptions related to stock volatility, the risk-free interest rate, the dividend yield and employee exercise behavior. Expected volatilities utilized in the model are based on the historic volatility of the Company’s stock price. The risk free interest rate is derived from the U.S. Treasury Yield curve in effect at the time of the grant. The expected life is determined using the average of the vesting period and contractual term of the options (Short-cut method).

 

 
8

 

 

The fair value of stock options issued during the 3 months ended September 30, 2014 of $3.82 was estimated using the following assumptions:

 

Risk-free interest rate

    1.0

%

Expected life (years)

    6.0  

Expected stock volatility

    52.3

%

Expected dividend yield

    4.0

%

 

The weighted average contractual term for stock options outstanding as of September 30, 2014 was 8.25 years.  The aggregate intrinsic value of stock options outstanding as of September 30, 2014 was $0.1 million. Stock options exercisable as of September 30, 2014 were 6,833.

 

The Company accounts for RSU awards by recognizing the expense of the fair value ratably over vesting periods generally ranging from one year to three years. The related expense is included in selling, general and administrative expenses. 

 

There were 39,500 RSU awards issued during the three months ended September 30, 2014. No RSUs vested during the three months ended September 30, 2014. The aggregate intrinsic value of RSU awards outstanding as of September 30, 2014 was $0.8 million. RSU awards granted and vested as of September 30, 2014 were 2,733.

 

On February 5, 2013, the Board of Directors adopted The L.S. Starrett Company 2013 Employee Stock Ownership Plan (the “2013 ESOP”). The purpose of the plan is to supplement existing Company programs through an employer funded individual account plan dedicated to investment in common stock of the Company, thereby encouraging increased ownership of the Company while providing an additional source of retirement income.  The plan is intended as an employee stock ownership plan within the meaning of Section 4975 (e) (7) of the Internal Revenue Code of 1986, as amended. U.S. employees who have completed a year of service as of December 31, 2012 were eligible to participate.

 

Compensation expense related to all stock based plans for the three month period ended September 30, 2014 and September 30, 2013 was $0.1 million and $0.1 million respectively.  As of September 30, 2014, there was $0.7 million of total unrecognized compensation costs related to outstanding stock-based compensation arrangements. The cost is expected to be recognized over a weighted average period of 2.34 years.

 

Note 4:   Inventories

 

Inventories consist of the following (in thousands):

 

   

9/30/2014

   

6/30/2014

 

Raw material and supplies

  $ 31,960     $ 31,303  

Goods in process and finished parts

    19,400       19,148  

Finished goods

    42,075       42,459  
      93,435       92,910  

LIFO Reserve

    (27,467

)

    (27,328

)

Inventories

  $ 65,968     $ 65,582  

 

LIFO inventories were $14.9 million and $14.1 million at September 30, 2014 and June 30, 2014, respectively, or approximately $ 27.5 million and $ 27.3 million, respectively, less than their balances accounted for on a FIFO basis.  The use of LIFO, as compared to FIFO, resulted in a $0.1 million increase in cost of sales for the three months ended September 30, 2014 compared to a $0.2 million decrease in the three months ended September 30, 2013.

 

Note 5:   Goodwill and Intangible Assets

 

The Company’s acquisition of Bytewise in 2011 gave rise to a goodwill asset balance. The Company performed a qualitative analysis in accordance with ASU 2011-08 for its October 1, 2013 annual assessment of goodwill (commonly referred to as “Step Zero”). From a qualitative perspective, in evaluating whether it is more likely than not that the fair value of the reporting unit exceeds its respective carrying amount, relevant events and circumstances were taken into account, with greater weight assigned to events and circumstances that most affect the fair value or the carrying amounts of its assets. Items that were considered included, but were not limited to, the following: macroeconomic conditions, industry and market conditions, cost factors, overall financial performance, changes in management or key personnel. After assessing these and other factors the Company determined that it was more likely than not that the fair value of the reporting unit exceeded its carrying amount as of October 1, 2013.

 

 
9

 

 

Amortizable intangible assets consist of the following (in thousands):

 

   

9/30/2014

   

6/30/2014

 

Non-compete agreement

  $ 600     $ 600  

Trademarks and trade names

    1,480       1,480  

Completed technology

    2,358       2,358  

Customer relationships

    4,950       4,950  

Software development

    1,129       1,007  

Other intangible assets

    325       325  

Total

    10,842       10,720  

Accumulated amortization

    (3,277

)

    (2,960

)

Total net balance

  $ 7,565     $ 7,760  

 

Amortizable intangible assets are being amortized on a straight-line basis over the period of expected economic benefit.

 

The estimated useful lives of the intangible assets subject to amortization are 14 years for trademarks and trade names, 8 years for non-compete agreements, 10 years for completed technology,  8 years for customer relationships and 5 years for software development.

 

The estimated aggregate amortization expense for the remainder of fiscal 2015 and for each of the next five years and thereafter, is as follows (in thousands):

 

2015 (Remainder of year)

  $ 996  

2016

    1,328  

2017

    1,327  

2018

    1,258  

2019

    1,180  

2020

    626  

Thereafter

    850  

 

Note 6:  Pension and Post-retirement Benefits

 

Net periodic benefit costs for the Company's defined benefit pension plans consist of the following (in thousands):

 

   

Three Months Ended

 
   

9/30/2014

   

9/30/2013

 

Service cost

  $ 694     $ 709  

Interest cost

    1,690       1,715  

Expected return on plan assets

    (1,740

)

    (1,562

)

Amortization of prior service cost

    -       29  

Amortization of net loss

    7       3  
    $ 651     $ 894  

 

 
10

 

 

Net periodic benefit costs for the Company's postretirement medical plan and life insurance consists of the following (in thousands): 

 

   

Three Months Ended

 
   

9/30/2014

   

9/30/2013

 

Service cost

  $ 28     $ 88  

Interest cost

    61       133  

Amortization of prior service credit

    (200

)

    (126

)

    $ (111 )   $ 95  

 

The Company’s pension plans use fair value as the market-related value of plan assets and recognize net actuarial gains or losses in excess of ten percent (10%) of the greater of the market-related value of plan assets or of the plans’ projected benefit obligation in net periodic (benefit) cost as of the plan measurement date, which is the same as the fiscal year end of the Company. Net actuarial gains or losses that are less than 10% of the thresholds noted above are accounted for as part of the accumulated other comprehensive income (loss).

 

Effective December 31, 2013, the Company terminated the eligibility of employees ages 55 -64 years old to enter into the Postretirement Medical Plan.

 

Note 7:   Debt

 

Debt, including capitalized lease obligations, is comprised of the following (in thousands):

 

   

9/30/2014

   

6/30/2014

 

Notes payable and current maturities of long term debt

               

Loan and Security Agreement

  $ 11,326     $ 10,410  

Capitalized leases

    159       138  
      11,485       10,548  

Long-term debt

               

Loan and Security Agreement

    10,364       10,726  

Capitalized leases

    44       78  
      10,408       10,804  
    $ 21,893     $ 21,352  

 

The Company executed an amendment to its Loan and Security Agreement (Line of Credit) as of April 25, 2012.  The Line of Credit is effective for three years commencing April 25, 2012 and expires on April 30, 2015 at which time the Company intends to negotiate an extension of the agreement.  The agreement continues the previous line of $23.0 million, of which $12.2 million is available as of September 30, 2014, and interest rate of LIBOR plus 1.5%.  

 

On May 9, 2013, the Company further amended the agreement to adjust the covenant for the current funded debt to EBITDA ratio from 1.45 to 1, to 2.25 to 1 for the fourth quarter of fiscal 2013 and the first quarter of fiscal 2014. Thereafter, and through the end of the agreement on April 30, 2015, the funded debt to EBITDA covenant returned to 1.45 to 1.

 

On December 23, 2013, the Company amended the loan agreement to reverse the portion of the May 9, 2013 agreement that called for the funded debt to EBITDA ratio to revert back to 1.45 to 1 from 2.25 to 1, beginning with the second quarter of fiscal 2014. Under this new agreement the maximum ratio of funded debt to EBITDA will remain 2.25 to 1 for the remaining term of the loan.

 

The material financial covenants of the amended Loan and Security Agreement are now: 1) funded debt to EBITDA, excluding non-cash and retirement benefit expenses (“maximum leverage”), not to exceed 2.25 to 1, 2) annual capital expenditures not to exceed $15.0 million, 3) maintain a Debt Service Coverage Rate of a minimum of 1.25 to 1 and 4) maintain consolidated cash plus liquid investments of not less than $10.0 million at any time.

 

The effective interest rate on the Line of Credit under the Loan and Security Agreement for the three months ended September 30, 2014 and 2013 was 2.0% and 2.0%, respectively.

 

On November 22, 2011, in conjunction with the Bytewise acquisition, the Company entered into a $15.5 million term loan (the “Term Loan”) under the existing Loan and Security Agreement with TD Bank N.A.  The term loan is a ten year loan bearing a fixed interest rate of 4.5% and is payable in fixed monthly payments of principal and interest of $160,640.  The term loan, which had a balance of $11.8 million at September 30, 2014, is subject to the same financial covenants as the Loan and Security Agreement.

 

 
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The Company was in compliance with its debt covenants as of September 30, 2014.

 

Note 8:   Income Tax

 

The Company is subject to U.S. federal income tax and various state, local and foreign income taxes in numerous jurisdictions.  The Company’s domestic and foreign tax liabilities are subject to the allocation of revenues and expenses in different jurisdictions and the timing of recognizing revenues and expenses.  Additionally, the amount of income taxes paid is subject to the Company’s interpretation of applicable tax laws in the jurisdictions in which it files.

 

The Company provides for income taxes on an interim basis based on an estimate of the effective tax rate for the year. This estimate is reassessed on a quarterly basis. Discrete tax items are accounted for in the quarterly period in which they occur.

 

The tax expense for the first quarter of fiscal 2015 was $818,000 on a profit before tax of $1,741,000 (an effective tax rate of 47.0%). The tax expense for the first quarter of fiscal 2014 was $629,000 on a profit before tax for the quarter of $845,000 (an effective tax rate of 74.4%). The tax rate is higher than the U.S. statutory rate in part due to losses in some foreign jurisdictions for which no tax benefit is recognized. In the first quarter of fiscal 2015, there was a discrete reduction to tax expense of $75,000 related to use of tax loss carryforwards and the reduction of the tax liability for audits related to the expiration of the statute of limitations. In the first quarter of fiscal 2014 there was a discrete tax expense of $278,000 for the effect of a tax rate change in the UK applied to the net deferred tax assets in that jurisdiction.

 

U.S. Federal tax returns through fiscal 2010 are generally no longer subject to review by tax authorities; however, tax loss carryforwards from years before fiscal 2011 are still subject to adjustment. As of September 30, 2014, the Company has substantially resolved all open income tax audits and there were no other local or federal income tax audits in progress. In international jurisdictions including Australia, Brazil, Canada, China, Germany, Mexico, New Zealand, Singapore and the UK, which comprise a significant portion of the Company’s operations, the years that may be examined vary by country. The Company’s most significant foreign subsidiary in Brazil is subject to audit for the years 2009 – 2014. The Company has identified no new uncertain tax positions during the three month period ended September 30, 2014 for which it is currently likely that the total amount of unrecognized tax benefits will significantly increase or decrease within the next twelve months.

 

Accounting for income taxes requires estimates of future benefits and tax liabilities. Due to the temporary differences in the timing of recognition of items included in income for accounting and tax purposes, deferred tax assets or liabilities are recorded to reflect the impact arising from these differences on future tax payments. With respect to recorded tax assets, the Company assesses the likelihood that the asset will be realized by addressing the positive and negative evidence to determine whether realization is more likely than not to occur. If realization is in doubt because of uncertainty regarding future profitability, the Company provides a valuation allowance related to the asset to the extent that it is more likely than not that the deferred tax asset will not be realized. Should any significant changes in the tax law or the estimate of the necessary valuation allowance occur, the Company would record the impact of the change, which could have a material effect on our financial position.

 

No valuation allowance has been recorded for the Company’s domestic federal net operating loss (NOL) carry forwards. The Company continues to believe that due to forecasted future taxable income and certain tax planning strategies available, it is more likely than not that it will be able to utilize the U.S. federal NOL carryforwards. In certain other countries where company operations are in a loss position, the deferred tax assets for tax loss carryforwards and other temporary differences are fully offset by a valuation allowance.

 

Note 9:  Contingencies

 

The Company is involved in certain legal matters which arise in the normal course of business. These matters are not expected to have a material impact on the Company’s financial condition, results of operations or cash flows.

 

 
12

 

 

ITEM 2.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

 

RESULTS OF OPERATIONS

 

Three months Ended September 30, 2014 and September 30, 2013

 

Overview

 

The Company experienced strong revenue growth in North America and modest improvement in Europe while economic and political issues resulted in declines in South America. The Company is a multi-national whose financial performance is impacted by the geopolitical and economic issues around the world The Company’s diverse product lines and dispersed geographic locations tend to minimize the financial volatility in any one specific region or market. Net sales increased $2.7 million or 5%. Operating income improved $0.3 million as a $1.3 million gross margin improvement was partially offset by a $1.0 million increase in selling, general and administrative expenses. Net income improved from a $0.2 million or $0.03 per share to income of $0.9 million or $0.13 per share.

 

Net Sales

 

North American sales increased $3.4 million or 11% from $30.9 million in fiscal 2014 to $34.3 million in fiscal 2015. A 17% increase in precision measuring tools coupled with continued growth in vision, optical and laser system equipment shipments were the principal drivers for the North American sales performance. International sales declined $0.7 million or 3% from $26.6 million in fiscal 2014 to $25.9 million in fiscal 2015. An economic slowdown in Brazil and a weakening Brazilian Real more than offset gains in Europe and Asia.

 

Gross Margin

 

Gross margin improved $1.4 million with higher revenue representing growth of $0.8 million and margin improvement accounting for $0.6 million. North American fiscal 2015 gross margin of $10.5 million was a $1.6 million gain compared with fiscal 2014 principally due to lower costs for precision tools and a favorable product mix related to sales growth in higher margin metrology systems. International gross margins declined $0.2 million to $8.7 million primarily due to a weakening Brazilian Real.

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses increased $1.0 million or 6% as a result of strategic investments in selling and marketing expenses in key growth markets. North American expenses increased $0.3 million due to the addition of sales personnel to support the growth in our laser systems business. International selling expenses increased $0.7 million to support continued growth in our capital equipment and saw product lines in the domestic Chinese market.

 

Other Income

 

Other Income improved $0.6 million from $0.1 million in fiscal 2014 to $0.7 million in fiscal 2015 principally due to the stronger U. S. dollar as foreign subsidiaries dollar denominated assets, primarily accounts receivables related to export sales, translated higher balances in local currency.

 

Net Income (loss)

 

The Company recorded net income of $0.9 million or $0.13 per share in the first quarter of fiscal 2015 compared to a net income of $0.2 million or $0.03 per share in fiscal 2014 principally due to higher revenue and improved gross margins offsetting increased selling, general and administrative expenses.

 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash flows (in thousands)

 

Three months Ended

 

  

 

9/30/2014

 

 

9/30/2013

 

  

 

 

 

 

 

 

Cash provided by operating activities

 

$

4,835

 

 

$

5,237

 

Cash used in investing activities

 

 

(1,612

)

 

 

(1,477

)

Cash used in financing activities

 

 

(100

)

 

 

(2,524

Effect of exchange rate changes on cash

 

 

(1,033

)

 

 

157

 

  

 

 

   

 

 

 

 

Net increase in cash

 

$

2,090

 

 

$

1,393

 

 

 
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Net cash increased $2.1 million as profits and improved working capital management were sufficient to offset outflows for capital equipment, debt, dividends and unfavorable currency exchanges rates. The $0.7 million improvement in cash flow compared to the same period one year ago was primarily due to improved profitability and reduced debt repayments.

 

Liquidity and Credit Arrangements

 

The Company believes it has sufficient liquidity and has the resources to fund its operations.  In addition to its cash and investments, the Company maintains a $23 million line of credit in connection with its Loan and Security Agreement, of which, $9.9 million was outstanding as of September 30, 2014.  Availability under the agreement is further reduced by open letters of credit totaling $0.6 million. The Loan and Security Agreement matures in April of 2015.  The Loan and Security Agreement contains financial covenants with respect to leverage, tangible net worth, and interest coverage, and also contains customary affirmative and negative covenants, including limitations on indebtedness, liens, acquisitions, asset dispositions and fundamental corporate changes, and certain customary events of default.  As of September 30, 2014, the Company was in compliance with all debt covenants related to its loan and Security Agreement. The Loan and Security Agreement expires on April 30, 2015 and the Company plans to negotiate an extension to the Agreement.

 

The effective interest rate on the short term borrowings under the Loan and Security Agreement during the three months ended September 30, 2014 was 2.0%.

 

OFF-BALANCE SHEET ARRANGEMENTS

 

The Company has no off-balance sheet arrangements, other than operating leases, that have or are reasonably likely to have a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources.

 

ITEM 3.             QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

 

There have been no material changes in qualitative and quantitative disclosures about market risk from what was reported in the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2014.

 

ITEM 4.             CONTROLS AND PROCEDURES

 

The Company's management, under the supervision and with the participation of the Company's President and Chief Executive Officer and Chief Financial Officer, has evaluated the Company's disclosure controls and procedures as of September 30, 2014, and they have concluded that our disclosure controls and procedures were effective as of such date. All information required to be filed in this report was recorded, processed, summarized and reported within the time period required by the rules and regulations of the Securities and Exchange Commission, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

 

Based on management’s evaluation of controls at our Bytewise subsidiary at June 30, 2014, management concluded that the Company did not design and maintain effective controls over revenue transactions and information technology system at that subsidiary. Therefore, material weaknesses in the design and operating effectiveness of the internal control over revenue transactions and information technology system at Bytewise exist. As a result, management has concluded that the Company’s internal control over financial reporting was not effective as of June 30, 2014 and continues to be not effective as of September 30, 2014. 

  

Management’s remediation of the material weakness that existed as of June 30, 2014, and which was noted in Item 9A of the Company’s 2014 Annual Report on Form 10-K filed on September 10, 2014, is not complete as of September 30, 2014.

 

 
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PART II.            OTHER INFORMATION

 

ITEM 1A.          RISK FACTORS

 

SAFE HARBOR STATEMENT

UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995

 

This Quarterly Report on Form 10-Q contains forward-looking statements about the Company’s business, competition, sales, expenditures, foreign operations, plans for reorganization, interest rate sensitivity, debt service, liquidity and capital resources, and other operating and capital requirements. In addition, forward-looking statements may be included in future Company documents and in oral statements by Company representatives to securities analysts and investors.  The Company is subject to risks that could cause actual events to vary materially from such forward-looking statements.  You should carefully review and consider the information regarding certain factors which could materially affect our business, financial condition or future results set forth under Item 1A. “Risk Factors” in our Form 10-K for the year ended June 30, 2014. There have been no material changes from the factors disclosed in our Form 10-K for the year ended June 30, 2014.

  

ITEM 6.             EXHIBITS

  

31a

Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.

 

31b

Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.

 

32

Certifications of the Principal Executive Officer and the Principal Financial Officer pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

10.1

The L.S. Starrett Company 2012 Long-Term Incentive Plan (incorporated by reference to Exhibit 4.2 to The L.S. Starrett Company’s Registration Statement on Form S-8 (File No. 333-184934) filed November 14, 2012).

 

10.2

Form of Restricted Stock Unit Agreement under The L.S. Starrett Company 2012 Long-Term Incentive Plan

 

101

The following materials from The L. S. Starrett Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2014 are furnished herewith, formatted in XBRL (Extensible Business Reporting Language): (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Operations, (iii) the Consolidated Statements of Comprehensive Income (Loss), (iv) the Consolidated Statements of Stockholders' Equity, (v)the Consolidated Statements of Cash Flows, and (vi) Notes to Consolidated Financial Statements, tagged as blocks of text.

 

 
15

 

 

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.

 

  

  

  

THE L. S. STARRETT COMPANY

(Registrant)

  

  

  

  

  

  

  

  

Date

November 5, 2014

  

/S/R. Douglas A. Starrett

  

  

  

Douglas A. Starrett - President and CEO (Principal Executive Officer)

  

  

  

  

Date

November 5, 2014

  

/S/R. Francis J. O’Brien

  

  

  

Francis J. O’Brien - Treasurer and CFO (Principal Accounting Officer)

 

 

 

 

 

 

 

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