UNIROYAL GLOBAL ENGINEERED PRODUCTS, INC. - Quarter Report: 2020 April (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

Commission file number: 000-50081

UNIROYAL GLOBAL ENGINEERED PRODUCTS, INC.

(Name of registrant as specified in its charter)

1800 2nd Street, Suite 970

Sarasota, FL 34236

(Address of principal executive offices)

(941) 906-8580

(Issuer’s telephone number)

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

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

Yes ☑   No ☐

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

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

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

Securities registered under Section 12(b) of the Act: None.

As of May 1, 2020, the issuer had 3,412,186 shares of ordinary Common Stock, $0.001 par value, and 323,820 shares of Class B Common Stock, $0.001 par value, outstanding.

UNIROYAL GLOBAL ENGINEERED PRODUCTS, INC.

Form 10-Q

Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

Except for statements of historical fact, certain information contained herein constitutes forward-looking statements including, without limitation, statements containing the words “believes,” “anticipates,”  “intends,” “expects,” and words of similar import, as well as all references to future results. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results or achievements of Uniroyal Global Engineered Products, Inc. to be materially different from any future results or achievements expressed or implied by such forward-looking statements. Such factors include, but are not limited to, the following: risks involved in implementing our business strategy, our ability to obtain financing on acceptable terms, competition, our ability to manage growth, pricing and availability of equipment, materials and inventories, performance issues with suppliers, economic growth, the Company’s ability to successfully integrate acquired operations, currency fluctuations, risks of technological change, the effectiveness of cost-reduction plans, our dependence on key personnel, our ability to protect our intellectual property rights, risks of new technology and new products, and government regulation. All forward-looking statements are qualified in their entirety by this cautionary statement, and the Company undertakes no obligation to revise or update any such forward-looking statements to reflect events, developments or circumstances after the date hereof.

Part 1 - FINANCIAL INFORMATION

Item 1 - Financial Statements

Uniroyal Global Engineered Products, Inc.

Consolidated Balance Sheets

See accompanying notes to the consolidated financial statements.

Uniroyal Global Engineered Products, Inc.

Consolidated Statements of Operations

(Unaudited)

See accompanying notes to the consolidated financial statements.

Uniroyal Global Engineered Products, Inc.

Consolidated Statements of Comprehensive Income (Loss)

(Unaudited)

See accompanying notes to the consolidated financial statements.

Uniroyal Global Engineered Products, Inc.

Consolidated Statements of Changes in Stockholders' Equity

For the Three Months Ended April 5, 2020 and March 31, 2019

(Unaudited)

See accompanying notes to the consolidated financial statements.

Uniroyal Global Engineered Products, Inc.

Consolidated Statements of Cash Flows

(Unaudited)

See Note 2 for noncash transactions and supplemental disclosure of cash flow information.

See accompanying notes to the consolidated financial statements.

UNIROYAL GLOBAL ENGINEERED PRODUCTS, INC.

Notes to Consolidated Financial Statements

April 5, 2020

(Unaudited) 

The accompanying unaudited interim consolidated financial statements have been prepared based upon U.S. Securities and Exchange Commission rules that permit reduced disclosure for interim periods. Therefore, they do not include all information and footnote disclosures necessary for a complete presentation of Uniroyal Global Engineered Products, Inc.’s financial position, results of operations and cash flows, in conformity with generally accepted accounting principles. Uniroyal Global Engineered Products, Inc. (the “Company,” “Uniroyal Global,” “we,” or “us”) filed audited consolidated financial statements as of and for the fiscal years ended December 29, 2019 and December 30, 2018 which included all information and notes necessary for such complete presentation in conjunction with its 2019 Annual Report on Form 10-K.

The results of operations for the interim period ended April 5, 2020 are not necessarily indicative of the results to be expected for any future period or the entire fiscal year. These interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 29, 2019, which are contained in the Company’s 2019 Annual Report on Form 10-K.

The Company owns all of the ownership interests in Uniroyal Engineered Products, LLC (“Uniroyal”) and its holding company UEP Holdings, LLC (“UEPH”), a U.S. manufacturer of textured coatings, and all of the ordinary common stock of Uniroyal Global (Europe) Limited (“UGEL”) formerly known as Engineered Products Acquisition Limited (“EPAL”), the holding company for Uniroyal Global Limited (“UGL”) formerly Wardle Storeys (Earby) Limited (“Wardle Storeys”), a European manufacturer of textured coatings and polymer films. 

The Company and its subsidiaries use a 52/53-week fiscal year ending on the Sunday nearest to December 31. The current year ending January 3, 2021 is a 53-week year whereas the prior year ended December 29, 2019 was a 52-week year. The Company’s U.K. subsidiaries use the calendar year end of December 31. The activity of the U.K. subsidiaries that occurs on the days that do not coincide with the Company’s year-end is not material since there generally is no production or sales during that period. The three months ended April 5, 2020 was a 14-week period and the three months ended March 31, 2019 was a 13-week period.

The accompanying unaudited interim consolidated financial statements contain all adjustments (consisting of normal recurring items) which are, in the opinion of management, necessary for a fair presentation of the Company’s financial position as of April 5, 2020 and the results of operations, comprehensive loss and cash flows for the interim periods ended April 5, 2020 and March 31, 2019.

The unaudited interim consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany transactions and balances have been eliminated in consolidation. The Company uses the U.S. dollar as the reporting currency for financial reporting. The financial position and results of operations of the Company’s U.K.-based operations are measured using the British Pound Sterling as the functional currency. See Note 4, Foreign Currency Translation. 

For purposes of comparability, certain reclassifications have been made to amounts previously reported to conform with the current period presentation.

One-for-Five Reverse Stock Split

On January 27, 2020, the Company announced a one-for-five reverse stock split (“reverse stock split”) on its common stock that became effective on February 24, 2020. The amounts in common stock and additional paid-in capital as of April 5, 2020 have been adjusted to reflect the reverse stock split. Share and per share amounts for the three months ended March 31, 2019 have been restated to give effect to the reverse stock split.

Coronavirus (COVID-19)

Subsequent to year-end 2019, the World Health Organization declared the novel coronavirus (“COVID-19”) outbreak a public health emergency. There have been mandates from international, federal, state and local authorities requiring forced closures of various schools, businesses and other facilities and organizations. These forced closures have negatively impacted the Company’s business. Primarily due to the negative impact that COVID-19 is having on the global economy, the Company began to experience a decline in sales during the latter part of March 2020. In order to mitigate the effect of the decrease in revenue, the Company is managing its costs, which includes temporarily reducing staff at its manufacturing facilities with production at one-third capacity at the U.S. facility and the entire production staff furloughed at the U.K. facility since late March and it will remain so until sales increase.

Additionally, the Company has applied for loans under programs offered by the governmental agencies in the United States and in the United Kingdom and is exploring options for other supplementary cash flow opportunities to provide further liquidity. During the second quarter of 2020, the Company received $2.2 million in funds through the Paycheck Protection Program administered by the U.S. Small Business Administration (“SBA”) under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (“the CARES Act”).

The loan matures on April 13, 2022 and bears an interest rate of 1.0%. The Company is required to make monthly payments of principal and interest beginning November 13, 2020 based on the amount that is outstanding on October 13, 2020 in order to fully amortize the loan by April 13, 2022. The loan may be prepaid by the Company at any time prior to maturity with no prepayment penalties.

All or a portion of the loan may be forgiven by the SBA for costs the Company incurs for payroll, rent, and utilities during the eight-week period beginning April 13, 2020. The Company intends to use all proceeds from the loan to maintain payroll and make lease and utility payments.

While the closures and limitations on movement, domestically and internationally, are expected to be temporary due to the COVID-19 outbreak, the duration of the supply chain disruption and related financial impact cannot be estimated at this time. Should the closures continue for an extended period of time or should the effects of the coronavirus continue to spread, the impact could have a material adverse effect on the Company’s financial position, results of operations and cash flows.

The payment of dividends for the three months ended April 5, 2020 and December 29, 2019 was deferred to preserve cash and provide additional liquidity. As of April 5, 2020 and December 29, 2019, accrued dividends of $1,569,066 and $788,599, respectively, were included in accrued expenses and other liabilities in the accompanying consolidated balance sheets.

During the three months ended March 31, 2019, the Company entered into several equipment financing obligations with fair values of $448,227, which are accounted for as capital assets. The fair values were added to property and equipment and a corresponding amount to long-term debt or related party lease financing obligation. 

The Company adopted Accounting Standards Update (“ASU”) No. 2016-02, “Leases” on December 31, 2018. Under this new standard, the Company was required to record on its balance sheet previously unrecorded operating leases based on the present value of remaining lease payments. Per this new standard, the Company recorded operating lease right-of-use assets of $7,022,948 and operating lease liabilities of $7,022,948 on its consolidated balance sheet as of December 31, 2018. During the three months ended March 31, 2019, the Company recorded $143,104 in amortization of its operating lease right-of-use assets and $215,381 in amortization of its operating lease liabilities.

Supplemental disclosure of cash paid for the three months ended:

The Company’s short-term financial instruments consist of cash and cash equivalents, accounts receivable, accounts payable and lines of credit. The Company adjusts the carrying value of financial instruments denominated in other currencies such as cash, accounts receivable, accounts payable and lines of credit using the appropriate exchange rates at the balance sheet date. The Company believes that the carrying values of these short-term financial instruments approximate their estimated fair values.

The fair value of the Company’s long-term debt is estimated based on current rates for similar instruments with the same remaining maturities. In determining the current interest rates for similar instruments, the Company takes into account its risk of nonperformance. The Company believes that the carrying value of its long-term debt approximates its estimated fair value.

The Company uses foreign currency exchange contracts which are recorded at their estimated fair values in the accompanying consolidated balance sheets. The fair values of the currency exchange contracts are based upon observable market transactions of spot and forward rates.

For the three months ended April 5, 2020, there have been no changes in the application of valuation methods applied to similar assets and liabilities.

The financial position and results of operations of the Company’s foreign subsidiaries are measured using the local currency as the functional currency. Assets and liabilities of operations denominated in foreign currencies are translated into U.S. dollars at exchange rates in effect at the balance sheet date, while the capital accounts are translated at the historical rate for the date they were recognized. Revenues and expenses are translated at the weighted average exchange rates during the reporting period. The resulting translation gains and losses on assets and liabilities are recorded in accumulated other comprehensive loss and are excluded from net income until realized through a sale or liquidation of the investment. Transaction gains and losses generated from the remeasurement of assets and liabilities denominated in currencies other than the functional currency of the Company’s foreign operations are included in other income (expense) in the accompanying consolidated statements of operations.

Inventories consist of the following:

Other long-term assets consist of the following:

Other long-term liabilities consist of the following:

The Company’s Uniroyal subsidiary has available a $30,000,000 revolving line of credit financing agreement with Wells Fargo Capital Finance, LLC (“Uniroyal Line of Credit”), which matures on June 15, 2023. Interest is payable monthly at the Eurodollar rate plus 2.25% or Wells Fargo Capital Finance, LLC's prime rate at the Company's election on outstanding balances up to $6,000,000 and prime rate on amounts in excess of $6,000,000. Borrowings on the line of credit are subject to the underlying borrowing base specified in the agreement. The underlying borrowing base is currently determined based upon eligible accounts receivable, inventories and equipment. The line of credit is secured by substantially all of Uniroyal's assets and includes certain financial and restrictive covenants. The Company was in compliance with these covenants as of April 5, 2020.

The outstanding balance on the Uniroyal Line of Credit was $11,074,357 and $10,328,913 as of April 5, 2020 and December 29, 2019, respectively. The Company has classified the outstanding balance on this line of credit within current liabilities in the accompanying consolidated balance sheets.

The Company’s U.K. subsidiary has available a £10,500,000 (approximately $12.9 million) revolving line of credit financing agreement with Lloyds Bank Commercial Finance Limited (“U.K. Line of Credit”), which is subject to a six-month notice by either party. The line has several tranches based on currency or underlying security. Interest is payable monthly at the base rate (U.K. LIBOR or Lloyds Bank Base Rate as published) plus 1.95% to 2.45% depending on the tranche. Borrowings on the line of credit are subject to the underlying borrowing base specified in the agreement. The underlying borrowing base is currently determined based upon eligible accounts receivable and inventories. The line of credit is secured by substantially all of the subsidiary's assets and includes certain financial and restrictive covenants. The Company was in compliance with these covenants as of April 5, 2020.

The outstanding balance on the U.K. Line of Credit was £7,094,959 and £7,787,002 ($8,710,204 and $10,201,860) as of April 5, 2020 and December 29, 2019, respectively. The Company has classified the outstanding balance on this line of credit within current liabilities in the accompanying consolidated balance sheets. 

Long-term debt consists of the following:

Long-term debt to related parties consists of the following:

The above notes were amended on March 20, 2020 to change the maturity dates to January 15, 2022. No other terms of the notes were changed. The $200,000 note, which was outstanding since January 2019, was repaid in March 2020.

The Company has a lease financing obligation under which it leases its main U.S. manufacturing facility and certain other property from a related party lessor entity, owned by the Company’s majority shareholder. The lease financing obligation accrues interest at 14.95% and currently requires monthly principal and interest payments of $45,533, which are adjusted annually based on the consumer price index. The lease financing obligation matures on October 31, 2033. The Company has security deposits aggregating $267,500 held by the lessor entity.

The lease financing obligation consists of the following:

The long-term portion of the lease financing obligation is shown in the accompanying consolidated balance sheets as related party lease financing obligation. The current portion of the lease financing obligation and the remaining balance of related party short-term subordinated secured promissory notes are combined and are shown in current liabilities as related party obligation which consists of the following:

The related party subordinated secured promissory notes are at a rate of 10%. During the three months ended April 5, 2020, the Company’s majority shareholder advanced $200,000 to the Company. This advance was repaid as of April 5, 2020.

The Company has operating leases for equipment and office facilities and finance leases for equipment. These leases expire at various dates from April 2020 through March 2039. Operating leases are included in operating lease right-of-use assets, accrued expenses and other liabilities, and operating lease liabilities in the accompanying consolidated balance sheets. Finance lease right-of-use assets are included in property and equipment, current maturities of finance lease liabilities, and finance lease liabilities, less current portion in the accompanying consolidated balance sheets.

The components of lease expense for the three months ended April 5, 2020 and March 31, 2019 are as follows:

Cash paid for amounts included in the measurement of lease liabilities for the three months ended April 5, 2020 and March 31, 2019 are as follows:

Right-of-use assets obtained in exchange for lease obligations for the three months ended April 5, 2020 and March 31, 2019 are as follows:

Supplemental balance sheet and other information related to operating leases are as follows:

Supplemental balance sheet and other information related to finance leases are as follows:

Maturities of operating and finance lease liabilities as of April 5, 2020 are as follows:

The changes in accumulated other comprehensive loss were as follows:

On June 25, 2015, the Company’s stockholders approved the adoption of the 2015 Stock Option Plan. This plan provides for the granting of options to purchase the Company’s common stock to employees and directors. The options granted are subject to a vesting schedule as set forth in each individual option agreement. Each option expires on the tenth anniversary of its date of grant unless an earlier termination date is provided in the grant agreement. The maximum aggregate number of shares of common stock that may be optioned and sold under the plan shall be 6% of the shares outstanding on the date of grant. The shares that may be optioned under the plan may be authorized but unissued or may be treasury shares.

Compensation expense is recognized on a straight-line basis over a three-year vesting period from date of grant.

Stock option activity for the three months ended April 5, 2020 and March 31, 2019 is as follows:

As of April 5, 2020 and March 31, 2019, there was no aggregate intrinsic value of the options outstanding because the options’ weighted average exercise prices of $14.02 and $13.98 per share, respectively, were greater than the average market prices of the common shares.

There was no option expense recognized for the three months ended April 5, 2020 and $44,166 for the three months ended March 31, 2019. As of April 5, 2020, there was no unrecognized compensation cost related to the options granted under the 2015 Stock Option Plan.

On August 28, 2018, the Financial Accounting Standards Board issued a new standard, ASU No. 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement.” The new standard modifies the disclosure requirements on fair value measurements in Topic 820, “Fair Value Measurement.” Certain requirements were removed such as the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, certain requirements were modified and certain disclosures were added such as the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period. The Company adopted this standard on December 30, 2019. Since this standard only revises disclosure requirements, the adoption of this standard for the year ending January 3, 2021 will not have a significant effect on the Company’s consolidated financial position, results of operations and cash flows.

On December 18, 2019, the Financial Accounting Standards Board issued a new standard, ASU No. 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.” This new guidance simplifies the accounting for income taxes by removing certain exceptions such as the exception to the incremental approach for intraperiod tax allocation when there is a loss from continuing operations and income/gain from other items; and the exception to the general methodology for calculating income taxes in an interim period when a year-to-date loss exceeds the anticipated loss for the year. The new guidance also simplifies the accounting for income taxes under certain circumstances such as requiring that an entity recognize a franchise tax that is partially based on income as an income-based tax and account for any incremental amount incurred as a non-income-based tax; requiring that an entity evaluate when a step up in the tax basis of goodwill should be considered part of a business combination in which the book goodwill was originally recognized and when it should be considered a separate transaction; and requiring that an entity reflect the effect of an enacted change in tax laws or rates in the annual effective tax rate computation in the interim period that includes the enactment date. This standard will be effective for the Company on January 4, 2021. The Company is currently evaluating the effects this standard will have, if any, on its consolidated financial position, results of operations and cash flows.

The following table sets forth the computation of loss per common share - basic and loss per common share – diluted for the three months ended April 5, 2020 and March 31, 2019:

Due to the net loss allocable to common shareholders for the three months ended April 5, 2020 and March 31, 2019, the calculations of basic and diluted loss per share were the same since including options to purchase shares of the Company’s common stock in the calculations of diluted loss per share would have been anti-dilutive. However, if diluted earnings per share had been reported for the three months ended April 5, 2020 and March 31, 2019, the calculations would have excluded options to purchase 151,800 and 189,300 shares of common stock, respectively, because the options’ weighted average exercise prices of $14.02 and $13.98 per share, respectively, were greater than the average market prices of the common shares.

The Company recognizes revenue and related accounts receivable when obligations under the terms of a contract with a customer are satisfied, which includes the control of products transferring to the customer. For Uniroyal, this generally occurs when products are shipped and, for UGL, this generally occurs when the customer accepts delivery either at the Company’s U.K. facility or at a mutually agreed upon location. Revenue is measured as the amount of consideration the Company expects to receive in exchange for products transferred to the customer.

The following table sets forth revenue disaggregated by the Company’s automotive and industrial sectors for the three months ended April 5, 2020 and March 31, 2019:

The following table sets forth revenue disaggregated by the geographic locations of the Company’s customers for the three months ended April 5, 2020 and March 31, 2019:

In order to increase operating efficiencies and decrease costs, the Company developed a plan to restructure the operations and the management team of its foreign operations facility located in Earby, England. As part of the restructuring, during the quarter ended March 31, 2019, the Company entered into settlement agreements with certain members of that facility’s management team which terminated their continuing service. The Company recorded a charge of $343,003 for the cost of these agreements which is included in other operating expenses in the accompanying consolidated statements of operations for the three months ended March 31, 2019.

The Company has evaluated subsequent events occurring through the date that the financial statements were available to be issued for events requiring recording or disclosure in the April 5, 2020 consolidated financial statements. There were no material events or transactions occurring during this period requiring recognition or disclosure.

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

Business Description

We are a leading provider of manufactured vinyl coated fabrics. Our best-known brand, Naugahyde, is the product of many improvements on a rubber-coated fabric developed a century ago in Naugatuck, Connecticut. We design, manufacture and market a wide selection of vinyl coated fabric products under a portfolio of recognized brand names. We believe that our business has continued to be a leading supplier in its marketplace because of our ability to provide specialized materials with performance characteristics customized to the end-user specifications, complemented by technical and customer support for the use of our products in manufacturing.

Our vinyl coated fabric products have undergone considerable evolution and today are distinguished by superior performance in a wide variety of applications as alternatives to leather, cloth and other synthetic fabric coverings. Our standard product lines consist of more than 600 SKUs with combinations of colors, textures, patterns and other properties. Our products are differentiated by unique protective top finishes and transfer print capabilities. Additional process capabilities include embossing grains and patterns, and rotogravure printing, which imparts five color character prints and non-registered prints, lamination and panel cutting.

Our vinyl coated fabric products have various high-performance characteristics and capabilities. They are durable, stain resistant, easily processed, more cost-effective and better performing than traditional leather or fabric coverings. Our products are frequently used in applications that require rigorous performance characteristics such as automotive and non-automotive transportation, certain indoor/outdoor furniture, commercial and hospitality seating, healthcare facilities and athletic equipment. We manufacture materials in a wide range of colors and textures. They can be hand or machine sewn, laminated to an underlying structure, thermoformed to cover various substrates or made into a variety of shapes for diverse end-uses. We are a long-established supplier to the global automotive industry and manufacture products for interior soft trim components from floor to headliner, which are produced to meet specific component production requirements such as cut and sew, vacuum forming/covering, compression molding, and high frequency welding. Some products are supplied with micro perforations, which are necessary on most compression molding processes. Materials can also be combined with polyurethane or polypropylene foam laminated by either flame or hot melt adhesive for seating, fascia and door applications.

Products are developed and marketed based upon the performance characteristics required by end-users. For example, for recreational products used outdoors, such as boats, personal watercraft, golf carts and snowmobiles, a product designed primarily for water-based durability and weatherability is used. We also manufacture a line of products called BeautyGard^®, with water-based topcoats that contain agents to protect against bacterial and fungal micro-organisms and can withstand repeated cleaning, a necessity in the restaurant and health care industries. These topcoats are environmentally friendlier than solvent-based topcoats. The line is widely used in hospitals and other healthcare facilities. Flame and smoke retardant vinyl coated fabrics are used for a variety of commercial and institutional furniture applications, including hospitals, restaurants and residential care centers and seats for school buses, trains and aircraft.

We currently conduct our operations in manufacturing facilities that are located in Stoughton, Wisconsin and Earby, England.

Critical Accounting Policies and Estimates

The preparation of our consolidated financial statements and related disclosures in conformity with U.S. generally accepted accounting principles (“U.S. GAAP”) requires management to make estimates and judgments that affect our reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates and assumptions based upon historical experience and various other factors and circumstances. We believe that our estimates and assumptions are reasonable under the circumstances; however, actual results may vary from these estimates and assumptions under different future circumstances. For further discussion of our significant accounting policies, refer to Note 1 – “Summary of Significant Accounting Policies” to the consolidated financial statements and “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies, Judgments and Estimates” in our Annual Report on Form 10-K for the fiscal year ended December 29, 2019.

Recent Accounting Pronouncements

See Note 14 – “Recent Accounting Standards” to the consolidated financial statements for a discussion of recent accounting guidance.

Overview:

The Company and its subsidiaries use a 52/53-week fiscal year ending on the Sunday nearest to December 31. The current year ending January 3, 2021 is a 53-week year whereas the prior year ended December 29, 2019 was a 52-week year. The Company’s U.K. subsidiaries use the calendar year end of December 31. The activity of the U.K. subsidiaries that occurs on the days that do not coincide with the Company’s year-end is not material since there generally is no production or sales during that period. The three months ended April 5, 2020 was a 14-week period and the three months ended March 31, 2019 was a 13-week period.

Our Earby, England operation’s functional currency is the British Pound Sterling (“Pound Sterling”) and has sales and purchases transactions that are denominated in currencies other than the Pound Sterling, principally the Euro. Approximately 29% of the Company’s global revenues and 31% of its global raw material purchases are derived from these Euro transactions.

The average year-to-date exchange rate for the Pound Sterling to the U.S. Dollar was approximately1.7% lower and the average exchange rate for the Euro to the Pound Sterling was approximately 1.3% lower in 2020 compared to 2019. These exchange rate changes had the effect of decreasing net sales by approximately $264,000 for the three months ended April 5, 2020. The overall currency effect on the Company’s net loss was a negative amount of approximately $18,000 for the three months ended April 5, 2020.

On January 27, 2020, the Company announced a one-for-five reverse stock split (“reverse stock split”) on its common stock that became effective on February 24, 2020. The amounts in common stock and additional paid-in capital as of April 5, 2020 have been adjusted to reflect the reverse stock split. Share and per share amounts for the three months ended March 31, 2019 have been restated to give effect to the reverse stock split.

The U.K. exit from the European Union on January 31, 2020, commonly referred to as Brexit, has caused, and may continue to cause, uncertainty in the global markets. Political and regulatory responses to the withdrawal are still developing, and we are in the process of assessing the impact that the withdrawal may have on our business as more information becomes available. Any impact from Brexit on our business and operations over the long term will depend, in part, on the outcome of tariff, tax treaties, trade, regulatory, and other negotiations the U.K. conducts.

Subsequent to year-end 2019, the World Health Organization declared the novel coronavirus (“COVID-19”) outbreak a public health emergency. There have been mandates from international, federal, state and local authorities requiring forced closures of various schools, businesses and other facilities and organizations. These forced closures have negatively impacted the Company’s business. Primarily due to the negative impact that COVID-19 is having on the global economy, the Company began to experience a decline in sales during the latter part of March 2020. In order to mitigate the effect of the decrease in revenue, the Company is managing its costs, which includes temporarily reducing staff at its manufacturing facilities with production at one-third capacity at the U.S. facility and the entire production staff furloughed at the U.K. facility since late March and it will remain so until sales increase.

Additionally, the Company has applied for loans under programs offered by the governmental agencies in the United States and in the United Kingdom and is exploring options for other supplementary cash flow opportunities to provide further liquidity. During the second quarter of 2020, the Company received $2.2 million in funds through the Paycheck Protection Program administered by the U.S. Small Business Administration (“SBA”) under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (“the CARES Act”).

The loan matures on April 13, 2022 and bears an interest rate of 1.0%. The Company is required to make monthly payments of principal and interest beginning November 13, 2020 based on the amount that is outstanding on October 13, 2020 in order to fully amortize the loan by April 13, 2022. The loan may be prepaid by the Company at any time prior to maturity with no prepayment penalties.

All or a portion of the loan may be forgiven by the SBA for costs the Company incurs for payroll, rent, and utilities during the eight-week period beginning April 13, 2020. The Company intends to use all proceeds from the loan to maintain payroll and make lease and utility payments.

While the closures and limitations on movement, domestically and internationally, are expected to be temporary due to the COVID-19 outbreak, the duration of the supply chain disruption and related financial impact cannot be estimated at this time. Should the closures continue for an extended period of time or should the effects of the coronavirus continue to spread, the impact could have a material adverse effect on the Company’s financial position, results of operations and cash flows.

Three Months Ended April 5, 2020 Compared to the Three Months Ended March 31, 2019

The following table sets forth, for the three months ended April 5, 2020 (“three months 2020”) and March 31, 2019 (“three months 2019”), certain operational data including their respective percentage of net sales: 

Revenue:

Total revenue for the three months 2020 decreased $4,253,736 or 16.8% to $21,140,124 from $25,393,860 for the three months 2019. Excluding the negative currency effect of the exchange rates, total revenue would have decreased by approximately $3,990,000 or 15.7%.

In August 2019, the Company decommissioned and shut down equipment in the U.K. that manufactured calender product for both the automotive and industrial market. The Company had built sufficient inventory of this product to service its customers for several months after the shutdown. Shortly before the shutdown, the Company entered into agreements with another company to provide some of the calender film it originally produced. Once the film was further processed by the Company, it was able to continue offering certain products to one of its customers. During the three months 2020, the Company sold $681,138 of calender product principally using the purchased film compared to $1,379,691 for the three months 2019. Of these amounts, $626,607 and $932,639 were in the automotive market for the three months 2020 and 2019, respectively.

For the three months 2020 compared to the three months 2019, U.S. automotive sales decreased 20.0% and European automotive sales decreased 17.6% (excluding the currency adjustment). Additionally, sales for the industrial sector decreased 12.0% (11.7% before currency effect) primarily due to a decline in the U.S. contract market. The negative impact of COVID-19 on the global economy was a major factor in the overall decline in sales which principally occurred during the latter part of March 2020.

Gross Profit:

Total gross profit for the three months 2020 decreased $483,620 or 11.2% to $3,830,582 from $4,314,202 for the three months 2019. The gross profit percentage improved to 18.1% of sales for the three months 2020 compared to 17.0% for the three months 2019 primarily due to product mix and efficiencies that decreased the cost of goods sold. The decrease in gross profit included a negative net currency effect of $65,000. Excluding this effect, gross profit would have declined by 9.7%.

Operating Expenses:

Selling expenses for the three months 2020 decreased $110,591 or 10.0% to $992,447 from $1,103,038 for the three months 2019. As a result of the closure of the calender product line and reduced sales, the decrease in selling expense was primarily attributable to a decline in employment and commission costs. Also contributing to the decrease was the favorable currency effect of $13,000.

General and administrative expenses for the three months 2020 increased $92,917 or 6.2% to $1,603,717 from $1,510,800 for the three months 2019. This increase was primarily attributable to employment related and other administrative costs. Partially offsetting the increase was the favorable currency effect of $17,000.

Research and development expenses for the three months 2020 decreased $128,562 or 27.0% to $348,402 from $476,964 for the three months 2019. The decrease was principally attributable to lower development costs for new trials and the favorable currency effect of $3,000.

There were no other operating expenses for the three months 2020 and $343,003 for 2019. The amount for 2019 was cost incurred by the Company as part of a restructuring plan to reduce inefficiencies at its U.K. facility.

Operating Income:

Operating income for the three months 2020 increased $5,619 or 0.6% to $886,016 from $880,397 for the three months 2019. The operating income percentage was 4.2% of sales for the three months 2020 compared to 3.5% for the three months 2019. The increase in operating income was due to the non-recurring charge of $343,003 in 2019, as well as the decrease in other operating expenses which was mainly offset by the decrease in gross profit primarily due to the decline in net sales.

Interest Expense:

Interest expense for the three months 2020 decreased $46,813 or 9.1% to $467,483 from $514,296 for the three months 2019. The decrease was primarily due to lower interest rates on LIBOR and prime during the three months 2020 and debt repayments compared to the three months 2019.

Other Income (Expense):

Other expense for the three months 2020 was $190,889 compared to other income of $228,133 for the three months 2019. Included in other income (expense) are the currency gains and losses recognized on foreign currency transactions and the change in the fair value of financial assets and liabilities that are denominated in Euros as these currencies fluctuated during the quarter. Also included in other income (expense) are gains and losses from the change in fair values on the Company’s foreign currency exchange contracts.

Tax Benefit:

The Company files income tax returns in the United States as a C-Corporation, and in several state jurisdictions and in the United Kingdom. The Company’s U.S. operating subsidiary, Uniroyal, is a limited liability company (LLC) for federal and state income tax purposes and as such, its income, losses, and credits are allocated to its members. The Company made the acquisition of Uniroyal through UEPH, a limited liability company, which issued preferred ownership interests to the sellers that provide for quarterly dividends. Uniroyal’s taxable income is allocated entirely to UEPH as its sole member and since it is a pass-through entity, this income less the dividends paid to the sellers of Uniroyal is reported on the Company’s tax return. The taxable income applicable to the dividends for the preferred ownership interests is reported to the sellers who report it on their respective individual tax returns.

The Company does not have a history of repatriating a significant portion of its foreign cash. However, if it decided to repatriate these foreign amounts to fund U.S. operations, the Company would not be required to pay any additional U.S. tax related to these amounts since the Company previously recorded a one-time transition tax on deemed repatriation of deferred foreign income.

The tax benefit for the three months 2020 was $52,630 compared to $38,868 for the three months 2019. The tax benefit for the three months 2020 was principally attributable to the results of the U.K. operations while the tax benefit for the three months 2019 was principally attributable to the results of the U.K. operations partially offset by a tax provision for the U.S. operations.

Preferred Stock Dividend:

The terms of the acquisitions in November 2014 resulted in the issuance of preferred ownership units/stock of UEP Holdings, LLC and UGEL (formerly EPAL) to the sellers. These preferred units have carried quarterly dividend requirements on a total value of $55,000,000 at rates ranging from 5.0% to 8.0%. The dividend rate on the Series B UEP Holdings preferred units which started at 5.5% increases by 0.5% on the anniversary of the issuance up to a maximum of 8.0%. The payment of dividends for the three months ended April 5, 2020 and December 29, 2019 was deferred to preserve cash and provide additional liquidity. As of April 5, 2020 and December 29, 2019, accrued dividends of $1,569,066 and $788,599, respectively, were included in accrued expenses and other liabilities in the accompanying consolidated balance sheets.

Liquidity and Sources of Capital

Cash, as it is needed, is provided by using the Company’s lines of credit. These lines provide for a total borrowing commitment in excess of $42,000,000 subject to the underlying borrowing base specified in the agreements. Of the total outstanding borrowings of $19,784,561 at April 5, 2020, $14.7 million of the lines bears interest at LIBOR or the Eurodollar rate plus a range of 1.95% to 2.45%, depending on the underlying borrowing base and $5.1 million bears interest at the bank’s prime or base lending rate which was 3.25% at April 5, 2020. At April 5, 2020, the lines provided an additional availability of approximately $1.9 million. We plan to use this availability and cash provided by operating activities to finance our cash needs for the remaining months of fiscal 2020 and future periods. The balances due under the lines of credit are recorded as current liabilities on the consolidated balance sheets.

As previously discussed, the Company has applied for loans under programs offered by the governmental agencies in the United States and in the United Kingdom. Early in the second quarter of 2020, the Company received $2.2 million in funds through the Paycheck Protection Program administered by the United States Small Business Administration. In the U.K., the Company has also received funding available under the Coronavirus Job Retention Scheme which reimburses the Company with some limitations for 80% of the compensation expense paid to furloughed employees.

The ratio of current assets to current liabilities, including the amount due under our lines of credit, was 0.87 at April 5, 2020 and 0.89 at December 29, 2019.

Cash balances increased $368,519, before the effects of currency translation of $(40,824), to $841,283 at April 5, 2020 from $513,588 at December 29, 2019. Of the above noted amounts, $692,643 and $498,007 were held outside the U.S. by our foreign subsidiaries as of April 5, 2020 and December 29, 2019, respectively.

Cash provided by operations was $2,164,732 for the three months 2020 compared to $374,184 used in operations for the three months 2019. For the three months 2020, cash provided by operations was primarily due to changes in working capital of $1,322,814, adjustments for non-cash items of $622,073, net income of $280,274 offset by changes in other assets and liabilities of $60,429. For the three months 2019, cash used in operations was primarily due to changes in working capital of $(1,545,990) offset by net income of $633,102, adjustments for non-cash items of $512,925 and changes in other assets and liabilities of $25,879.

Cash used in investing activities was $484,114 for the three months 2020 compared to $194,752 for the three months 2019. During 2020 and 2019, cash used in investing activities was principally for purchases of machinery and equipment at our manufacturing locations and payments made for company-owned key man life insurance premiums.

For the three months 2020, cash used in financing activities was $1,312,099 compared to $723,319 provided by financing activities for the three months 2019. Impacting cash flows from financing activities for the three months 2020 and 2019 were net payments on lines of credit of $139,799 and net advances on lines of credit of $1,624,665, respectively. The changes in the lines of credit reflect the funding of working capital. There were no preferred dividend payments during the three months 2020 compared to $779,863 during the three months 2019, which impacted cash flows from financing activities. As previously stated, the dividends for the three months 2020 were deferred to preserve cash and provide additional liquidity. During the three months 2020, payments of $525,000 were made on subordinated secured promissory notes to our majority shareholder. There were no similar payments made during the three months 2019.

Our credit agreements contain customary affirmative and negative covenants. We were in compliance with our debt covenants as of April 5, 2020 and through the date of filing of this report.

We currently have several on-going capital projects that are important to our long-term strategic goals. Machinery and equipment will also be added as needed to increase capacity or enhance operating efficiencies in our manufacturing plants. We will use a combination of financing arrangements to provide the necessary capital. We believe that our existing resources, including cash on hand and our credit facilities, together with cash generated from operations and additional bank borrowings, will be sufficient to fund our cash flow requirements through at least the next twelve months. However, there can be no assurance that additional financing will be available on favorable terms, if at all.

We have no material off balance sheet arrangements.

Not applicable.

The Company maintains “disclosure controls and procedures” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that are designed to ensure that information required to be disclosed by us in reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer, Chief Financial Officer, and Board of Directors, as appropriate, to allow timely decisions regarding required disclosures. In designing and evaluating our disclosure controls and procedures, management recognizes that disclosure controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired objectives, and we necessarily are required to apply our judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures.

Our management, including our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of April 5, 2020 and concluded that our disclosure controls and procedures were effective as of April 5, 2020.

Changes in Internal Controls over Financial Reporting

During the three months ended April 5, 2020, there were no changes in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act) that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

None.

Not applicable.

Issuer Purchases of Equity Securities

None.

None.

Not applicable.

None.

_______________

Signatures

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

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