APOGEE ENTERPRISES, INC. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations Forward-looking statements This Quarterly Report on Form 10-Q, including the section, Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements reflect our current views with respect to future events and financial performance. The words “believe,” “expect,” “anticipate,” “intend,” “estimate,” “forecast,” “project,” “should,” "will," "continue" and similar expressions are intended to identify “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. All forecasts and projections in this document are “forward-looking statements,” and are based on management’s current expectations or beliefs. From time to time, we may also provide oral and written forward-looking statements in other materials we release to the public, such as press releases, presentations to securities analysts or investors, or other communications by the Company. Any or all of our forward-looking statements in this report and in any public statements we make could be materially different from actual results. Accordingly, we wish to caution investors that any forward-looking statements made by or on behalf of the Company are subject to uncertainties and other factors that could cause actual results to differ materially from such statements. Information about factors that could materially affect our results can be found in the “Risk Factors” section of our Annual Report on Form 10-K for the year ended February 26, 2022 and in subsequent filings with the U.S. Securities and Exchange Commission, including this Quarterly Report on Form 10-Q. We also wish to caution investors that other factors might in the future prove to be important in affecting the Company’s results of operations. New factors emerge from time to time; it is not possible for management to predict all such factors, nor can it assess the impact of each such factor on the business or the extent to which any factor, or a combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. We undertake no obligation to update publicly or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Overview We are a leader in the design and development of value-added glass and metal products and services. Our four reporting segments are: Architectural Framing Systems, Architectural Glass, Architectural Services and Large-Scale Optical (LSO). During fiscal 2022, we conducted a strategic review of our business and the markets we serve in order to establish a new enterprise strategy with three key elements, as discussed below: 1. Become the economic leader in our target markets. We will achieve this by developing a deep understanding of our target markets and aligning our businesses with clear go-to-market strategies to drive value for our customers through differentiated product and service offerings. We will also build a relentless focus on operational execution, driving productivity improvements, and maintaining a competitive cost structure, so that we may bring more value to our customers and improve our own profitability. 21 Table of Contents 2. Actively manage our portfolio to drive higher margins and returns. We intend to shift our business mix toward higher operating margin offerings and improve our return on invested capital performance. We will accomplish this by allocating resources to grow our top performing businesses, actively addressing underperforming businesses, and investing to add new differentiated product and service offerings to accelerate our growth. 3. Strengthen our core capabilities. We are shifting from our historical, decentralized operating model, to one with center-led functional expertise that enables us to leverage the scale of the enterprise to better support the needs of the business. We are establishing a Company-wide operating system with common tools and processes that are based on the foundation of Lean and Continuous Improvement. This will be supported by a robust talent management program and a commitment to strong governance to ensure compliance and drive sustainable performance. At the beginning of the first quarter of fiscal 2023, we began management of the Sotawall and Harmon businesses under the Architectural Services segment in order to create a single, unified offering for larger custom curtainwall projects. The comparative fiscal 2022 segment results for the Architectural Framing Systems and Architectural Services segments have been recast to reflect the move of the Sotawall business into the Architectural Services segment from the Architectural Framing Systems segment, effective at the start of the first quarter of fiscal 2023. The following selected financial data should be read in conjunction with the Company’s Form 10-K for the year ended February 26, 2022 and the consolidated financial statements, including the notes to consolidated financial statements, included therein. Highlights of Third Quarter of Fiscal 2023 Compared to Third Quarter of Fiscal 2022 Net sales Consolidated net sales increased 10.1 percent, or $33.6 million, and 11.2 percent, or $110.6 million, for the three- and nine-month periods ended November 26, 2022, compared to the same periods in the prior year, primarily driven by flow-through from pricing actions taken to offset inflation within the Architectural Framing Systems and Architectural Glass segments. The relationship between various components of operations, as a percentage of net sales, is presented below: Three Months Ended Nine Months Ended November 26, 2022 November 27, 2021 November 26, 2022 November 27, 2021 Net sales 100.0 % 100.0 % 100.0 % 100.0 % Cost of sales 76.5 80.6 76.5 81.7 Gross profit 23.5 19.4 23.5 18.3 Selling, general and administrative expenses 14.1 14.1 14.3 15.2 Operating income 9.4 5.3 9.1 3.1 Interest expense, net 0.7 0.2 0.5 0.3 Other expense, net 0.2 0.9 0.2 0.3 Earnings before income taxes 8.6 4.2 8.4 2.5 Income tax expense 2.1 0.9 0.8 0.5 Net earnings 6.5 % 3.3 % 7.6 % 2.0 % Effective tax rate 24.8 % 21.7 % 9.3 % 19.6 % Gross profit Gross profit as a percent of sales (gross margin) was 23.5 percent for each of the three- and nine-month periods ended November 26, 2022, respectively, compared to 19.4 percent and 18.3 percent for the three- and nine-month periods ended November 27, 2021. Both period improvements in gross margin were driven primarily by pricing actions that exceeded the inflation-related cost increases in the Architectural Framing Systems and Architectural Glass segments. The nine-month period ended November 26, 2022, includes the benefits from restructuring actions completed in the second quarter of the prior year in the Architectural Glass and Architectural Framing Systems segments. The prior-year periods included $3.6 million and $22.1 million of restructuring charges which were included in cost of sales and incurred during the three- and nine-month periods ended November 27, 2021. Selling, general and administrative (SG&A) expenses SG&A expenses as a percent of sales were 14.1 percent and 14.3 percent for the three- and nine-month periods ended November 26, 2022, respectively, compared to 14.1 percent and 15.2 percent for the prior year three- and nine-month periods. SG&A decreased as a percent of sales compared to the nine-month period in the prior year primarily due to the benefits realized from previously completed restructuring actions. 22 Table of Contents Income tax expense The effective income tax rate in the third quarter of fiscal 2023 was 24.8 percent, compared to 21.7 percent in the same period last year, and 9.3 percent for the first nine months of fiscal 2023, compared to 19.6 percent in the prior year period. In the second quarter of fiscal 2023, the Company claimed certain tax deductions, including a worthless stock loss deduction, related to its investment in Sotawall Limited, a Canadian subsidiary. These deductions generated a net tax benefit of 13.7 million, and reduced our effective tax rate for the nine-month period of fiscal 2023 by approximately 14.8 percentage points. Segment Analysis Architectural Framing Systems Three Months Ended Nine Months Ended (In thousands) November 26, 2022 November 27, 2021 % Change November 26, 2022 November 27, 2021 % Change Net sales $ 165,013 $ 141,462 16.6 % $ 501,172 $ 415,203 20.7 % Operating income 22,089 12,085 82.8 % 66,266 28,837 129.8 % Operating margin 13.4 % 8.5 % 13.2 % 6.9 % Architectural Framing Systems net sales increased $23.6 million, or 16.6 percent, and $86.0 million, or 20.7 percent, for the three- and nine-month periods ended November 26, 2022, respectively, compared to the prior year periods, primarily driven by inflation-related pricing actions. Operating margin increased 490 basis points and 630 basis points for the three- and nine-month periods of the current year, compared to the same periods in the prior year, reflecting improved pricing and mix, which more than offset the impact of inflation, and the benefits from restructuring actions completed in the prior year, which further strengthened our competitive position and more than offset the impact of cost inflation. As of November 26, 2022, segment backlog was approximately $246 million, compared to approximately $286 million at the end of the prior quarter of the current fiscal year, and was approximately $269 million at the end of third quarter fiscal 2022. Backlog represents the dollar amount of signed contracts or firm orders, generally as a result of a competitive bidding process, which may be expected to be recognized as revenue in the future. Backlog is not a term defined under U.S. GAAP and is not a measure of contract profitability. We view backlog as one indicator of future revenues, particularly in our longer-lead time businesses. In addition to backlog, we have a substantial amount of projects with short lead times that book-and-bill within the same reporting period and are not included in backlog. We have strong visibility into future business commitments beyond backlog, as projects awarded, verbal commitments and bidding activities are not included in backlog. Architectural Services Three Months Ended Nine Months Ended (In thousands) November 26, 2022 November 27, 2021 % Change November 26, 2022 November 27, 2021 % Change Net sales $ 102,031 $ 105,404 (3.2) % $ 312,151 $ 292,506 6.7 % Operating income 6,032 7,807 (22.7) % 14,449 19,172 (24.6) % Operating margin 5.9 % 7.4 % 4.6 % 6.6 % Architectural Services net sales decreased $3.4 million, or 3.2 percent for the three-month period ended November 26, 2022, respectively, compared to the same period in the prior year, driven by decreased project activity. In the comparative nine-month period ended November 26, 2022 net sales increased $19.6 million, or 6.7 percent compared to the same period in the prior year, driven by increased volume from executing projects in backlog. Operating margin decreased 150 basis points and 200 basis points in the three- and nine-month periods of the current year, respectively, compared to the same periods in the prior year, primarily reflecting lower profitability on legacy Sotawall projects and costs related to investments to support future growth, partially offset by higher volume. As of November 26, 2022, segment backlog was approximately $741 million, compared to approximately $785 million at the end of the prior quarter of the current fiscal year, and was approximately $722 million at the end of third quarter of fiscal 2022. Backlog, a non-GAAP financial measure, and the implication thereof is described within the Architectural Framing Systems discussion above. 23 Table of Contents Architectural Glass Three Months Ended Nine Months Ended (In thousands) November 26, 2022 November 27, 2021 % Change November 26, 2022 November 27, 2021 % Change Net sales $ 81,541 $ 74,289 9.8 % $ 235,158 $ 236,693 (0.6) % Operating income (loss) 7,461 (1,277) 684.3 % 19,087 (16,143) 218.2 % Operating margin 9.1 % (1.7) % 8.1 % (6.8) % Net sales increased $7.3 million, or 9.8 percent, for the three-month period ended November 26, 2022, compared to the same period in the prior year, primarily reflecting improved pricing and mix. Net sales decreased $1.5 million, or 0.6 percent for the nine-month period ended November 26, 2022, compared to the same period in the prior year, primarily reflecting lower volume, mostly offset by improved pricing and mix. In the current quarter, the segment had operating income of $7.5 million and operating margin of 9.1 percent, compared to operating loss of $1.3 million and negative operating margin of 1.7 percent in the same period of the prior year. The current year third quarter reflects improved pricing, mix and productivity gains, which combined to offset the impact of inflation, while the prior year period included $3.5 million of restructuring costs. For the nine-months ended November 26, 2022, the segment had operating income of $19.1 million and operating margin of 8.1 percent, compared to operating loss of $16.1 million and negative operating margin of 6.8 percent in the same period of the prior year, primarily related to the restructuring costs of $20.9 million incurred during the prior fiscal year. In addition, while the current-year period reflects improved pricing, productivity gains and the positive impacts of restructuring actions completed during the prior year, all of which offset the impact of inflation. Large-Scale Optical (LSO) Three Months Ended Nine Months Ended (In thousands) November 26, 2022 November 27, 2021 % Change November 26, 2022 November 27, 2021 % Change Net sales $ 26,660 $ 27,351 (2.5) % $ 76,988 $ 75,122 2.5 % Operating income 7,109 5,996 18.6 % 19,598 17,326 13.1 % Operating margin 26.7 % 21.9 % 25.5 % 23.1 % LSO net sales decreased $0.7 million, or 2.5 percent, for the three-month period ended November 26, 2022 compared to the same period in the prior year driven by lower volume. In the comparative nine-month period ended November 26, 2022, net sales increased $1.9 million, or 2.5 percent, compared to the same period in the prior year, primarily driven by improved pricing. Operating margin increased 480 basis points and 240 basis points in the three- and nine-month periods of the current year, compared to the same periods in the prior year, primarily driven by lower operating costs. A significant portion of the lower operating costs was a non-recurring property tax adjustment contributing to a 210 basis points and 80 basis points of the margin increase for the three- and nine-month periods of the current year, respectively. Liquidity and Capital Resources Selected cash flow data Nine Months Ended (In thousands) November 26, 2022 November 27, 2021 Operating Activities Net cash provided by operating activities $ 51,112 $ 86,291 Investing Activities Capital expenditures (18,119) (13,070) Proceeds from sales of property, plant and equipment 5,212 1,347 Financing Activities Borrowings on line of credit 430,879 — Repayment on debt (151,000) (2,000) Payments on line of credit (239,000) — Repurchase and retirement of common stock (74,312) (29,164) Dividends paid (14,415) (15,050) 24 Table of Contents Operating Activities. Net cash provided by operating activities was $51.1 million for the first nine months of fiscal 2023, compared to $86.3 million of net cash provided by operating activities in the prior year period, reflecting increased working capital required to support revenue growth and inflation. Investing Activities. Net cash used by investing activities was $12.0 million for the first nine months of fiscal 2023, driven primarily by capital expenditures of $18.1 million, partially offset by proceeds received from sales of property, plant and equipment of $5.2 million. In the first nine months of the prior year, net cash used by investing activities was $11.6 million, primarily driven by capital expenditures of $13.1 million. The majority of our capital expenditures in the current year and prior year periods are smaller in nature to support future growth and cost reduction initiatives. Financing Activities. Net cash used by financing activities was $51.6 million for the first nine months of fiscal 2023, compared to net cash used by financing activities of $44.0 million in the prior year period. The current year period was primarily driven by share repurchases and dividend payments totaling $88.7 million, partially offset by net debt borrowings of $40.9 million, while the prior year period included $44.2 million of share repurchases and dividend payments. We paid dividends totaling $14.4 million ($0.6600 per share) in the first nine months of fiscal 2023, compared to $15.1 million ($0.6000 per share) in the comparable prior year period. During the first nine months of fiscal 2023, we repurchased 1,571,139 shares under our authorized share repurchase program, for a total cost of $74.3 million. In the first nine months of fiscal 2022, we repurchased 755,384 shares under the share repurchase program, for a total cost of $28.8 million. Since the inception of the share repurchase program in 2004, we have purchased a total of 10,996,601 shares, at a total cost of $381.6 million. As of November 26, 2022, we had remaining authority to repurchase an additional 1,253,399 shares under this program. We will continue to evaluate making future share repurchases, considering our cash flow, debt levels and market conditions, in the context of all our capital allocation options, with the goal of maximizing long-term value for our shareholders. Additional Liquidity Considerations. We periodically evaluate our liquidity requirements, cash needs and availability of debt resources relative to acquisition plans, significant capital plans, and other working capital needs. During the second quarter ended August 27, 2022, we amended and extended our committed revolving credit facility to include maximum borrowings of up to $385 million with a maturity of August 2027. As part of the amendment, we repaid the $150 million term loan with borrowings under the revolving credit facility. As of November 26, 2022, outstanding borrowings under our revolving credit facility were $188.0 million, while there were no outstanding borrowings under the revolving credit facility as of February 26, 2022. We are required to make periodic interest payments on our outstanding indebtedness, and future interest payments will be determined based on the amount of outstanding borrowings and prevailing interest rates during that time. Our revolving credit facility contains two maintenance financial covenants that require us to stay below a maximum debt-to-EBITDA ratio and maintain a minimum ratio of EBITDA-to-interest expense. Both ratios are computed quarterly, with EBITDA calculated on a rolling four-quarter basis. At November 26, 2022, we were in compliance with both financial covenants. Additionally, at November 26, 2022, we had a total of $12.3 million of ongoing letters of credit related to industrial revenue bonds, construction contracts and insurance collateral that expire in fiscal years 2024 to 2032 and reduce borrowing capacity under the revolving credit facility. We acquire the use of certain assets through operating leases, such as property, manufacturing equipment, vehicles and other equipment. Future payments for such leases, excluding leases with initial terms of one year or less, were $51.1 million at November 26, 2022, with $3.2 million payable during the remainder of fiscal 2023. As of November 26, 2022, we had $222.2 million of open purchase obligations, of which payments totaling $53.4 million are expected to become due within the remainder of fiscal 2023. These purchase obligations primarily relate to raw material commitments and capital expenditures and are not expected to impact future liquidity as amounts should be recovered through customer billings. We expect to make contributions of $0.7 million to our defined-benefit pension plans in fiscal 2023, which will equal or exceed our minimum funding requirements. As of November 26, 2022, we had reserves of $5.5 million for unrecognized tax benefits. We are unable to reasonably estimate in which future periods the remaining unrecognized tax benefits will ultimately be settled. 25 Table of Contents We are required, in the ordinary course of business, to provide surety or performance bonds that commit payments to our customers for any non-performance. At November 26, 2022, $1.4 billion of these types of bonds were outstanding, of which $578.7 million is in our backlog. These bonds do not have stated expiration dates. We have never been required to make payments under surety or performance bonds with respect to our existing businesses. During calendar year 2020, we took advantage of the option to defer remittance of the employer portion of Social Security tax as provided in the Coronavirus Aid, Relief, and Economic Security Act. This deferral allowed us to retain cash during calendar year 2020 that would have otherwise been remitted to the federal government. We paid our first installment of these deferred social security taxes, totaling approximately $6.8 million, in the fourth quarter of fiscal 2022, and paid our final installment of approximately $6.8 million at the start of the fourth quarter of fiscal 2023. Due to our ability to generate strong cash from operations and our borrowing capability under our committed revolving credit facility, we believe that our sources of liquidity will be adequate to meet our short-term and long-term liquidity and capital expenditure needs. In addition, we believe we have the ability to obtain both short-term and long-term debt to meet our financing needs for the foreseeable future. We also believe we will be able to operate our business so as to continue to be in compliance with our existing debt covenants over the next fiscal year. We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources that is material to investors. Outlook Based on our year-to-date results and increasing confidence in our outlook, we have narrowed our guidance for full-year adjusted earnings to a range of $3.90 to $4.05 per diluted* share, up from the previously announced range of $3.75 to $4.05. We expect full year revenue growth of approximately 10 percent, primarily driven by growth in our Architectural Framing Systems segment. The company continues to expect full-year capital expenditures of approximately $40 million. * A reconciliation of non-GAAP guidance on adjusted earnings per diluted share (“Adjusted EPS”) to GAAP guidance is not available on a forward-looking basis without unreasonable effort due to the uncertainty of the magnitude and timing of future adjustments. These adjustments may include the impact of such items as impairment charges, restructuring costs, acquired project-related charges, and gains or losses from significant asset sales. Accordingly, the company is unable to provide a reconciliation of Adjusted EPS to the most directly comparable GAAP financial measure or address the probable significance of the unavailable information, which could be material to the company's future financial results computed in accordance with GAAP. Related Party Transactions No material changes have occurred in the disclosure with respect to our related party transactions set forth in our Annual Report on Form 10-K for the fiscal year ended February 26, 2022. Critical Accounting Policies There have been no material changes to our critical accounting policies from those disclosed in our Annual Report on Form 10-K for the fiscal year ended February 26, 2022, except as noted below. Impairment of goodwill, indefinite-lived intangible assets and long-lived assets Goodwill At the beginning of the first quarter of fiscal 2023, we began management of the Sotawall and Harmon businesses under the Architectural Services segment in order to create a single, unified offering for larger custom curtainwall projects, which resulted in the combination of the Sotawall and Harmon reporting units into a single reporting unit. We evaluated goodwill on a qualitative basis prior to and subsequent to this change for these reporting units and concluded that no adjustment to the carrying value of goodwill was necessary. Concurrent with the move of Sotawall from the Architectural Framing Systems segment to the Architectural Services segment effective at the start of our first quarter of fiscal 2023, goodwill was reallocated to the affected reporting units within each segment, using a relative fair value approach as outlined in ASC 350, Intangibles - Goodwill and Other . In addition, for all reporting units, no qualitative indicators of impairment were identified during the first quarter of fiscal 2023, and therefore, no interim quantitative goodwill impairment evaluation was performed. Item 3. Quantitative and Qualitative Disclosures About Market Risk Refer to the Company’s Annual Report on Form 10-K for the fiscal year ended February 26, 2022 for a discussion of the Company’s market risk. There have been no material changes in market risk since February 26, 2022. 26 Table of Contents