CROWN CRAFTS INC 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This report contains forward-looking statements within the meaning of the Securities Act of 1933, the Securities Exchange Act of 1934 (the “Exchange Act”) and the Private Securities Litigation Reform Act of 1995. Such statements are based upon management’s current expectations, projections, estimates and assumptions. Words such as “expects,” “believes,” “anticipates,” “intends,” “may,” “will,” “could,” “would” and variations of such words and similar expressions may identify such forward-looking statements. Forward-looking statements involve known and unknown risks and uncertainties that may cause future results to differ materially from those suggested by the forward-looking statements. These risks include, among others, the impact of the COVID-19 pandemic on the Company’s business operations, general economic conditions, including changes in interest rates, in the overall level of consumer spending and in the price of oil, cotton and other raw materials used in the Company’s products, changing competition, changes in the retail environment, the Company’s ability to successfully integrate newly acquired businesses, the level and pricing of future orders from the Company’s customers, the Company’s dependence upon third-party suppliers, including some located in foreign countries with unstable political situations, the Company’s ability to successfully implement new information technologies, customer acceptance of both new designs and newly-introduced product lines, actions of competitors that may impact the Company’s business, disruptions to transportation systems or shipping lanes used by the Company or its suppliers, and the Company’s dependence upon licenses from third parties. Reference is also made to the Company’s periodic filings with the Securities and Exchange Commission for additional factors that may impact the Company’s results of operations and financial condition. The Company does not undertake to update the forward-looking statements contained herein to conform to actual results or changes in the Company’s expectations, whether as a result of new information, future events or otherwise. 17 DESCRIPTION OF BUSINESS The Company was originally formed as a Georgia corporation in 1957 and was reincorporated as a Delaware corporation in 2003. The Company operates indirectly through its wholly-owned subsidiaries, NoJo, Sassy Baby, Inc. (“Sassy”) and Carousel Designs, LLC, in the infant, toddler and juvenile products segment within the consumer products industry. The infant, toddler and juvenile products segment consists of infant and toddler bedding and blankets, bibs, soft bath products, disposable products, developmental toys and accessories. The Company’s products are marketed under Company-owned trademarks, under trademarks licensed from others and as private label goods. Sales of the Company’s products are made directly to retailers, such as mass merchants, large chain stores, juvenile specialty stores, value channel stores, grocery and drug stores, restaurants, wholesale clubs and internet-based retailers, as well as directly to consumers through www.babybedding.com . The Company’s products are marketed to retailers through a national sales force consisting of salaried sales executives and employees located in Compton, California; Gonzales, Louisiana; Grand Rapids, Michigan; and Bentonville, Arkansas and by independent commissioned sales representatives located throughout the United States. Products are also marketed directly to consumers from a Company facility in Douglasville, Georgia. The infant and toddler consumer products industry is highly competitive. The Company competes with a variety of distributors and manufacturers (both branded and private label), including large infant and juvenile product companies and specialty infant and juvenile product manufacturers, on the basis of quality, design, price, brand name recognition, service and packaging. The Company’s ability to compete depends principally on styling, price, service to the retailer and continued high regard for the Company’s products and trade names. Foreign and domestic contract manufacturers produce most of the Company’s products, with the largest concentration being in China. The Company makes sourcing decisions based on quality, timeliness of delivery and price, including the impact of ocean freight and duties. Although the Company maintains relationships with a limited number of suppliers, the Company believes that its products may be readily manufactured by several alternative sources in quantities sufficient to meet the Company's requirements. The Company also produces some of its products domestically at a Company facility in Douglasville, Georgia. A summary of certain factors that management considers important in reviewing the Company’s results of operations, financial position, liquidity and capital resources is set forth below, which should be read in conjunction with the accompanying consolidated financial statements and related notes included in the preceding sections of this report. RESULTS OF OPERATIONS The following table contains the results of operations for the three and nine-month periods ended December 27, 2020 and December 29, 2019 and the dollar and percentage changes for those periods (in thousands, except percentages): Three-Month Periods Ended Change Nine-Month Periods Ended Change December 27, 2020 December 29, 2019 $ % December 27, 2020 December 29, 2019 $ % Net sales by category: Bedding, blankets and accessories $ 11,431 $ 9,605 $ 1,826 19.0 % $ 34,490 $ 27,682 $ 6,808 24.6 % Bibs, bath, developmental toy, feeding, baby care and disposable products 8,045 8,982 (937 ) -10.4 % 22,850 25,407 (2,557 ) -10.1 % Total net sales 19,476 18,587 889 4.8 % 57,340 53,089 4,251 8.0 % Cost of products sold 13,323 12,766 557 4.4 % 39,070 36,848 2,222 6.0 % Gross profit 6,153 5,821 332 5.7 % 18,270 16,241 2,029 12.5 % % of net sales 31.6 % 31.3 % 31.9 % 30.6 % Marketing and administrative expenses 3,420 3,416 4 0.1 % 10,602 10,344 258 2.5 % % of net sales 17.6 % 18.4 % 18.5 % 19.5 % Interest expense - net of interest income 3 34 (31 ) -91.2 % 8 28 (20 ) -71.4 % Other expense (income) - net 7 (6 ) 13 -216.7 % 7 (26 ) 33 -126.9 % Income tax expense 582 282 300 106.4 % 1,810 942 868 92.1 % Net income 2,141 2,095 46 2.2 % 5,843 4,953 890 18.0 % % of net sales 11.0 % 11.3 % 10.2 % 9.3 % 18 Net Sales: Sales increased to $19.5 million for the three months ended December 27, 2020, compared with $18.6 million for the three months ended December 29, 2019, an increase of $889,000, or 4.8%. Sales of bedding, blankets and accessories increased by $1.8 million and sales of bibs, bath, developmental toys, feeding, baby care and disposable products decreased by $937,000. Sales increased to $57.3 million for the nine-month period ended December 27, 2020, compared with $53.1 million for the nine-month period ended December 29, 2019, an increase of $4.3 million, or 8.0%. Sales of bedding, blankets and accessories increased by $6.8 million, while sales of bibs, bath, developmental toys, feeding, baby care and disposable products decreased by $2.6 million. The increase in sales is due to higher sell-through at major retailers, which has been partially offset by declines at certain retailers that have been impacted by the COVID-19 pandemic, particularly one customer that has remained closed throughout the entire nine-month period of the current year. Gross Profit : Gross profit increased by $332,000 and increased from 31.3% of net sales for the three-month period ended December 29, 2019 to 31.6% of net sales for the three-month period ended December 27, 2020. Gross profit increased by $2.0 million and increased from 30.6% of net sales for the nine-month period ended December 29, 2019 to 31.9% of net sales for the nine-month period ended December 27, 2020. The increase in gross profit is due to the increase in net sales as well as a more favorable customer and product mix. Market ing and Administrative Expenses: Marketing and administrative expenses were flat at $3.4 million for both the current and prior year three-month periods, but decreased from 18.4% of net sales for the three-month period ended December 29, 2019 to 17.6% of net sales for the three-month period ended December 27, 2020. Marketing and administrative expenses increased by $258,000, but decreased from 19.5% of net sales for the nine-month period ended December 29, 2019 to 18.5% of net sales for the nine-month period ended December 27, 2020. The increase in amount for the current year-to-date period is primarily the result of higher outside services of $318,000 and higher advertising of $138,000, partially offset by lower travel expenses of $120,000 and lower amortization of $45,000. Income Tax Expense : The Company’s provision for income taxes is based upon an estimated annual ETR from continuing operations of 23.7% for the nine-month period ended December 27, 2020. The Company applies the provisions of FASB ASC Sub-topic 740-10-25, which requires a minimum recognition threshold that a tax benefit must meet before being recognized in the financial statements. Recognized income tax positions are measured at the largest amount that has a greater than 50% likelihood of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. After considering all relevant information regarding the calculation of the state portion of its income tax provision, the Company believes that the technical merits of the tax position that the Company has taken with respect to state apportionment percentages would more likely than not be sustained. However, the Company also realizes that the ultimate resolution of such tax position could result in a tax charge that is more than the amount realized based upon the application of the tax position taken. Therefore, the Company’s measurement regarding the tax impact of the revised state apportionment percentages resulted in the Company recording discrete reserves for unrecognized tax liabilities of $25,000 and $29,000 during the three-month periods ended December 27, 2020 and December 29, 2019, respectively, and $58,000 and $71,000 during the nine-month periods ended December 27, 2020 and December 29, 2019, respectively, in the accompanying unaudited condensed consolidated statements of income. In December 2016, the Company was notified by the FTB of its intention to examine the Company’s claims for refund made in connection with amended California consolidated income tax returns that the Company had filed for the fiscal years ended March 30, 2014, March 31, 2013, April 1, 2012 and April 3, 2011. On July 31, 2019, the FTB notified the Company that it would take no further action with regard to the fiscal years ended March 31, 2013, April 1, 2012 and April 3, 2011. Accordingly, the Company reversed the reserves for unrecognized tax liabilities that it had previously recorded for these fiscal years, which resulted in the recognition of a discrete income tax benefit of $232,000 during the nine-month period ended December 29, 2019 in the accompanying unaudited condensed consolidated statements of income. The Company also reversed the interest expense and penalties that it had accrued in respect of the unrecognized tax liabilities for these fiscal years, which resulted in the recognition of a credit to interest expense of $78,000 during the nine-month period ended December 29, 2019. The Company recorded net discrete income tax benefits of $16,000 and $12,000 during the three and nine-month periods ended December 27, 2020, respectively, to reflect the net effects of the excess tax benefits and tax shortfalls arising from the vesting of non-vested stock and the exercise of stock options during the periods. During the three and nine-month periods ended December 29, 2019, the Company recorded a discrete income tax benefit of $1,000 and a net discrete income tax charge of $5,000, respectively, to reflect the effects of the excess tax benefits and tax shortfalls arising from the exercise of stock options and the vesting of non-vested stock during the periods. 19 The Company recorded a discrete income tax benefit of $74,000 during each of the three and nine-month periods ended December 27, 2020, and $274,000 during each of the three and nine-month periods ended December 29, 2019, to reflect the aggregate effect of certain tax credits. The ETR on continuing operations and the discrete income tax charges and benefits recognized resulted in an overall provision for income taxes of 23.7% and 16.0% for the nine-month periods ended December 27, 2020 and December 29, 2019, respectively. Although the Company does not anticipate a material change to the ETR from continuing operations for the balance of fiscal year 2021, several factors could impact the ETR, including variations from the Company’s estimates of the amount and source of its pre-tax income, and the actual ETR for the year could differ materially from the Company’s estimates. FINANCIAL POSITION, LIQUIDITY AND CAPITAL RESOURCES Net cash provided by operating activities increased from $7.2 million for the nine-month period ended December 29, 2019 to $8.1 million for the nine-month period ended December 27, 2020. The increase in the current year was primarily the result of an increase in net income of $890,000, an increase in accounts payable that was $2.3 million higher in the current year than in the prior year, and an increase in accrued liabilities that was $704,000 higher in the current year that in the prior year, offset by an increase in accounts receivable of $446,000 compared with a decrease of $2.2 million in the prior year and an increase in inventory in the current year that was $1.0 million higher than the increase in the prior year. Net cash used in investing activities increased from $352,000 in the prior year to $528,000 in the current year, primarily due to higher capital expenditures. Net cash used in financing activities decreased from $6.9 million in the prior year to $4.2 million in the current year, primarily due to net repayments under the revolving line of credit that were $1.9 million lower in the current year compared with the prior year and the receipt of almost $2.0 million in proceeds from the Loan made pursuant to the PPP under the CARES Act as discussed in Note 2 – Financing Arrangements, as well as the issuance of common stock resulting from stock option exercises that was $458,000 more than in the prior year. These amounts were offset by stock repurchases that were $2.4 million higher than the prior year and dividend payments that were $800,000 lower than in the prior year. At December 27, 2020, there was no balance owed on the Company’s revolving line of credit with CIT, there was no letter of credit outstanding and $26.0 million was available under the revolving line of credit based on the Company’s eligible accounts receivable and inventory balances. To reduce its exposure to credit losses and to enhance the predictability of its cash flow, the Company assigns the majority of its trade accounts receivable to CIT under factoring agreements. Under the terms of the factoring agreements, CIT remits customer payments to the Company as such payments are received by CIT and bears credit losses with respect to assigned accounts receivable from approved customers that are within approved credit limits, while the Company bears the responsibility for adjustments from customers related to returns, allowances, claims and discounts. CIT may at any time terminate or limit its approval of shipments to a particular customer. If such a termination were to occur, then the Company must either choose to assume the credit risk for shipments after the date of such termination or limitation or cease shipments to such customer. There were no advances from the factor at either December 27, 2020 or December 29, 2019. The Company continues to monitor the impact of the COVID-19 pandemic on its supply chain, manufacturing and distribution operations, customers and employees, as well as the U.S. economy in general. However, due to the uncertainty as to when governmental restrictions on business will be fully lifted, the impact thereof, and the duration and widespread nature of the COVID-19 pandemic, the Company cannot currently predict the long-term impact on its operations and financial results. The uncertainties associated with the COVID-19 pandemic include potential adverse effects on the overall economy, the Company’s supply chain, transportation services, employees and customers, consumer sentiment in general, and traffic within the retail stores that carry the Company’s products. The COVID-19 pandemic could adversely affect the Company’s revenues, earnings, liquidity and cash flows and may require significant actions in response, including employee furloughs, closings of Company facilities, expense reductions or discounts of the pricing of the Company’s products, all in an effort to mitigate such effects. Conditions surrounding COVID-19 change rapidly, and additional impacts of which the Company is not currently aware may arise. Based on past performance and current expectations, the Company believes that its anticipated cash flow from operations and the availability under its revolving line of credit are sufficient to fund the Company’s requirements for working capital, capital expenditures and debt service for at least the next 12 months. 20 The Company’s future performance is, to a certain extent, subject to general economic, financial, competitive, legislative, regulatory and other factors beyond its control. Based upon the current level of operations, the Company believes that its cash flow from operations and funds available under the revolving line of credit will be adequate to meet its liquidity needs.