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Item 2. Management’s Discussion and Analysis

2021-05-11 compared with 2020-11-09 · 113 added, 262 removed, 77 unchanged (83% of the section changed)

ITEM 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion is intended to highlight significant changes in the financial position and results of operations of The Eastern Company (together with its consolidated subsidiaries, the “Company,” “we,” “us” or “our”) for the quarter ended October 3, 2020.

The interim financial statements and this Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Consolidated Financial Statements and Notes thereto for the fiscal year ended December 28, 2019 and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in the Company’s 2019 Form 10-K, which was filed with the SEC on March 5, 2020 (the “2019 Form 10-K”).

The interim financial statements and this Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Consolidated Financial Statements and Notes thereto for the fiscal year ended January 2, 2021 and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in the Company’s Annual Report on Form 10-K for the fiscal year ended January 2, 2021, which was filed with the Securities and Exchange Commission (the “SEC”) on March 16, 2021 (the “2020 Form 10-K”).

The Company’s fiscal year is a 52-53-week fiscal year ending on the Saturday nearest to December 31.

References to 2019 or the 2019 fiscal year mean the 52-week period ended on December 28, 2019 and references to 2020 or the 2020 fiscal year mean the 53-week period ending on January 2, 2021.

References to 2020 or the 2020 fiscal year mean the 53-week period ended on January 2, 2021 and references to 2021 or the 2021 fiscal year mean the 52-week period ending on January 1, 2022.

In a 52-week fiscal year, each quarter is 13 weeks long.

In a 53-week fiscal year, each of the first two fiscal quarters and the fourth quarter are 13 weeks long, and the third fiscal quarter is 14 weeks long.

References to the third quarter of 2019, the third fiscal quarter of 2019 or the three months ended September 28, 2019 mean the period from June 30, 2019 to September 28, 2019.

References to the third quarter of fiscal 2020, the third fiscal quarter of 2020 or the three months ended October 3, 2020 mean the 14-week period from June 28, 2020 to October 3, 2020.

References to the nine months ended September 28, 2019, or the first nine months of fiscal 2019 mean the 39-week period from December 30, 2018 to September 28, 2019.

References to the nine months ended October 3, 2020, or the first nine months of fiscal 2020 mean the 40-week period from December 29, 2019 to October 3, 2020.

References to the first quarter of 2020, the first fiscal quarter of 2020 or the three months ended March 28, 2020 mean the period from December 29, 2019 to March 28, 2020.

References to the first quarter of 2021, the first fiscal quarter of 2021 or the three months ended April 3, 2021 mean the 13-week period from January 3, 2021 to April 3, 2021.

Safe Harbor for Forward-Looking Statements

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These factors include, but are not limited to:

effects of the COVID-19 pandemic and the measures being taken to limit the spread and resurgence of COVID-19, including supply chain disruptions, delays in delivery of our products to our customers, impact on demand for our products, reductions in production levels, increased costs, including costs of raw materials, the impact on global economic conditions, the availability, terms and cost of financing, including borrowings under the Credit Agreement, and risks associated with employees working remotely or operating with reduced workforce;

the scope and duration of the COVID-pandemic, including the extent of any resurgences and how quickly and to what extent normal economic activity can resume;

effects of the COVID-19 pandemic and the measures being taken to limit the spread and resurgence of COVID-19, including supply chain disruptions, delays in delivery of our products to our customers, impact on demand for our products, reductions in production levels, increased costs, including costs of raw materials, the impact on global economic conditions, the availability, terms and cost of financing, including borrowings under credit arrangements or agreements, and risks associated with employees working remotely or operating with reduced workforce;

the scope and duration of the COVID-19 pandemic, including the extent of resurgences and how quickly and to what extent normal economic activity can resume;

the timing of the development and distribution of effective vaccine or treatment of COVID-19;

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cyberattacks;

and materially adverse or unanticipated legal judgments, fines, penalties or settlements.

materially adverse or unanticipated legal judgments, fines, penalties or settlements;

and other risks identified and discussed in this Management’s Discussion and Analysis of Financial Condition and Results of Operations and Item 1A, Risk Factors, and Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, of the 2020 Form 10-K and that may be identified from time to time in our quarterly reports on Form 10-Q, current reports on Form 8-K and other filings we make with the SEC.

Although the Company believes it has an appropriate business strategy and the resources necessary for its operations, future revenue and margin trends cannot be reliably predicted and the Company may alter its business strategies to address changing conditions.

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COVID-19 Update

As of October 2020, there have been significant impacts to the Company’s operations due to the COVID-19 pandemic and actions that have been taken to slow the spread and resurgence of COVID-19, and we expect those impacts to continue for some time.

Across the Company, we have implemented a broad range of policies and procedures to ensure that employees at all of our locations remain healthy.

We listened to and learned a great deal from our colleagues in China, who began feeling the impact of COVID-19 in late 2019, and took early-on decisive action across our North American operations, accordingly.

Steps that we have taken to reduce COVID-19 risk to our employees include, among others:

implementing social distancing measures, staggering staff and shifts, enabling work from home for as many employees as possible, and implementing an enhanced cleaning program across all sites.

We are advising our employees on the importance of wearing facemasks to reduce the spread COVID-19.

As government authorities implement restrictions on commercial operations, we continue to ensure compliance with these directives in order to maintain business continuity for our essential operations.

We continue to seek and implement additional methods to further reduce COVID-19 risk to our employees.

The Company has operations in Shanghai and Dongguan China that were affected by COVID-19 in the first six months of the year.

The virus led to a chain of events that interfered with our ability, and the ability of certain suppliers of ours, to conduct business.

We source approximately 10% of our products and components from China.

As a result of government mandated shutdowns at our facilities, and those of certain suppliers, in China, many of the products that we have ordered were delayed by approximately four to six weeks, which resulted in delays in our product shipments to our customers through May 2020.

By mid-March 2020, COVID-19 spread across the United States, which precipitated the closure by government authorities of non-essential businesses.

The majority of our businesses were deemed essential and accordingly remained open, but at reduced levels.

Many of our customers operating in both automotive/transportation and non-automotive/transportation markets experienced varying degrees of shutdowns beginning in the last week of March, and, on a case-by-case basis, began to reopen at various dates beginning in May 4, 2020.

We estimate the adverse financial impact of COVID-19 on our third quarter operating sales and profit to be an approximate $6.1 million and $1.1 million reduction net of tax, respectively.

The broader economic fallout caused by COVID-19 may result in unfavorable operating earnings and cash flow generation in the months to follow.

Although we sustained delays and disruptions in our supply chain and operations in China, in the first quarter of 2020, the majority of our facilities returned to normal operation but at reduced levels during the second fiscal quarter of 2020 and through the third quarter of 2020.

We do not anticipate further disruption in our operations unless resurgence of COVID-19 were to appear, which could cause further disruptions in our business and could adversely affect our financial condition, results of operations and cash flow.

In addition, the broader economic fallout caused by COVID-19 may result in unfavorable operating earnings and cash flow generation in the months to follow, as a result of decreased consumer demand for our and our customers’ products.

The future extent of the effect of COVID-19 on our operational and financial performance will depend in large part on developments, that cannot be predicted with confidence at this time.

Future developments include the ultimate duration, scope and severity of the pandemic and any resurgences, actions that may continue to be taken to contain or mitigate the impact of the pandemic, such as the extent of restrictions on gatherings and travel, the impact on governmental programs and budgets, the development of treatments or vaccines, and the resumption of widespread economic activity.

Although the inherent uncertainty of the unprecedented and rapidly evolving crisis makes it difficult to predict with any confidence the likely impact of COVID-19 on our future operations, COVID-19 could have a material adverse impact on our consolidated business, results of operations and financial condition.

The direct impact of the COVID-19 pandemic has been minimal at most of our operations through the first quarter of 2021.

We continue to follow CDC guidelines, including the use of proper personal protection equipment, social distancing and sanitizing work areas.

All of these measures allowed the majority of our facilities to operate at full capacity where possible barring supply chain issues, port congestion, and labor shortages.

Many of the Company’s employees have received their first COVID-19 vaccination, and we will continue to encourage our workforce to continue to get vaccinated.

We do not anticipate further significant interruption in our operations unless a resurgence of the COVID-19 pandemic occurs.

A significant resurgence of the COVID-19 pandemic could cause further disruptions in our business and could adversely affect our financial condition, results of operations and cash flow.

During 2020 and continuing into 2021 the Company implemented a broad range of policies and procedures to ensure that employees at all of our locations remain healthy.

Steps that we have taken to reduce the risk of COVID-19 to our employees include, among others:

protecting employee health by instructing employees stay home if they exhibit symptoms of COVID-19;

requiring employees to wear masks upon entry into the workplace;

providing standard surgical masks, unless this conflicts with OSHA requirements;

and educating employees on hand hygiene to help stop the spread.

We maintain a clean work environment by frequently cleaning all touch points with products that meet EPA criteria for use against COVID-19;

educating employees to clean their personal workspace at the beginning and the end of every shift;

and providing hand sanitizer and disposable wipes.

We have minimized in-person contact between employees and with visitors;

required essential employees who are able to work effectively from home, to work from home;

developed and implemented practices for social distancing in our facilities;

and reduced the number and size of in-person meetings.

We have eliminated all non-essential workplace travel, discouraged carpooling, and where we have multiple shifts, staggered shift start and stop times, break times, and lunchtimes to minimize congregations at the time clocks or break areas.

Where possible, we have closed or restricted break rooms and cafeterias or used extra rotations to reduce the number of employees in the break rooms or cafeterias at one time to achieve social distancing norms.

We continue to seek and implement additional methods to further reduce the risk of COVID-19 to our employees.

Although we sustained delays and disruptions in 2020 to our supply chain and operations, the majority of our facilities have returned to normal operations.

Currently, we do not anticipate further disruption in our operations unless a resurgence of the COVID-19 pandemic occurs, which could cause further disruptions in our business and could adversely affect our financial condition, results of operations and cash flow.

The future extent of the effect of the COVID-19 pandemic on our operational and financial performance will depend in large part on the effectiveness of the vaccines, continued mask wearing, social distancing and other developments, that cannot be predicted with confidence at this time.

With the inherent uncertainty of the COVID-19 pandemic it is difficult to predict with any confidence the likely impact of the COVID-19 pandemic on our future operations and the extent it could have on our consolidated business, results of operations and financial condition.

For a discussion of certain COVID-19-related risks, see Item 1A, Risk Factors, of Part II of this Form 10-Q.

General Overview

On August 7, 2020, the Company acquired certain assets of Hallink RSB Inc.

(“Hallink”) including accounts receivable, inventories, furniture, fixtures and equipment, intellectual property rights, and assumed certain liabilities and rights existing under all sales and purchase agreements.

The transaction price was $7.2 million and was internally financed.

Hallink is a leading supplier of blow molds and change parts to the food, beverage, healthcare and chemical industry.

Hallink specializes in the design, development and manufacture of 2-step stretch blow molds, and related components for the stretch blow molding industry offering integrated turnkey solutions to its customers worldwide.

During the third quarter of 2020 the Company announced a change in its organization resulting from the combination of our Illinois Lock Division and Eberhard Manufacturing Division.

As a result of this organizational change, the Company evaluated its segment reporting.

Based on this evaluation, the Company determined that organizational change did not impact our internal reporting and reportable segments for the third quarter of 2020, but will impact our internal reporting and reportable segments for the fourth quarter of 2020.

For the third quarter of 2020, as reflected in prior periods, we had three reportable segments:

Industrial Products Segment, Security Product Segment and Metal Product Segment.

Beginning in the fourth quarter of 2020, we will report in two segments:

Engineered Solutions Segment and Diversified Products Segment.

The Engineered Solutions Segment will consist of our combined Illinois Lock and Eberhard Manufacturing Division;

Big 3 Precision including Big 3 Products, Big 3 Mold, Associated Toolmakers Ltd, and the newly named Hallink Moulds, Inc.;

Eastern Industrial Ltd.;

Velvac Holdings and Dongguan Reeworld Security Products Ltd.

The Diversified Products Segment will consist of Frazer and Jones Division;

Greenwald Industries Division;

Argo EMS and Sesamee Mexicana, S.A.

Net sales in the third quarter of 2020 increased 8% to $65.8 million from $60.7 million, and net sales in the first nine months of 2020 decreased 2% to $180.0 million from $183.0 million, compared to the corresponding periods in 2019.

Excluding Big 3 Precision, sales in the third quarter and first nine months of 2020 declined $5.0 million or 9%, to $51.0 million from sales of $56.0 million and $38.4 million or 22%, to $140.0 million from sales of $178.4 million from the corresponding periods in 2019, respectively.

The sales decline is primarily due to the divestiture of a subsidiary, Canadian Commercial Vehicle, in the second quarter of 2020.

Sales in 2019 included Canadian Commercial Vehicles Corporation of $2.7 million in the third quarter and $7.6 million in the first nine months of 2019 whereas in 2020 there were no sales in the third quarter of 2020 and $2.6 million in the first nine months of 2020.

In addition, the decline in sales in the first nine months of 2020 can be attributed to the fact that many of our industrial and consumer goods customers closed their operations in the second quarter of 2020 as a result of the COVID-19 pandemic.

Net sales in the third quarter of 2020 increased in the Industrial Hardware segment by 20% to $47.1 million from $39.4 million in the third fiscal quarter of 2019 and increased by 11% to $128.2 million for the first nine months of 2020 from $115.3 million in the corresponding period of 2019.

Excluding Big 3 Precision, sales in the third quarter of 2020 decreased 7% in the Industrial Hardware segment to $32.3 million from sales of $34.7 million in the third quarter of 2019, and sales in the first nine months of 2020 decreased 20% to $88.3 million from sales of $110.6 million in the first nine months of 2019.

Lower sales in the third quarter of 2020 were due to the sale of Canadian Commercial Vehicles Corporation in the second quarter of 2020 and continued softness in the majority of the markets into which we sell.

For the first nine months of 2020, sales decreases were attributable to (i) the sale of Canadian Commercial Vehicles Corporation in the second quarter of 2020, (ii) the temporary customer closures in April and May of 2020 and (iii) the continued softness in the majority of our markets we serve through the first nine months of 2020.

These declines were partially offset by third quarter sales in military products which were up by 14%, off-highway products which were up by 18%, and truck and recreational vehicle mirror sales, which were up by 18% and 14%, respectively.

Net sales in the Security Products segment in the third quarter of 2020 were comparable to the sales in the third quarter of 2019.

Increases in storage, distribution vehicular accessories and medical markets were more than offset by decreases in sales to our point of sales, network technology equipment and commercial laundry markets.

Sales for the first nine months of 2020 were down 17% compared to the same periods of 2019.

The impact of COVID-19 in the first half of the year can be attributed to lower demand across all of our markets as businesses we serve dramatically curtailed purchasing.

In addition, sales for the first nine months of fiscal 2020 were down due to the loss of several supply contracts that generated sales in the first half of 2019 that did not reoccur in 2020.

Sales in the Metal Products segment decreased 37% in the third quarter and for the first nine months of 2020 compared to sales in the corresponding periods of 2019.

Mining products decreased 40%, and sales of industrial casting products decreased 36% in both the third quarter and first nine months of 2020.

Mining product sales in the third quarter and first nine months were impacted by a combination of growing renewable energy capacity and extremely low natural gas prices, which led utilities to cut back on coal usage in addition to COVID-19 which forced many mine closures and resulted in further loss of sales.

Mines began to open up in the third quarter and sales of mining product improved by 24% from the second quarter of 2020.

Sales of industrial castings in the first nine months were negatively impacted by the loss of a customer that had temporarily sourced products from us in 2019 due to a fire at its facility in 2018.

Net sales of existing products increased 3% in the third quarter and decreased 6% in the first nine months of 2020 compared to the corresponding periods in 2019.

Price increases and new products increased net sales in the third quarter by 5% and 4% in the first nine months of 2020.

New products included numerous mirror assemblies, compression latches, a handle and finger pull assembly, mount plate latch, canopy lock assembly, handle assembly and crossbar lock assembly and hospital bed frames for use in the field hospitals established due to COVID-19.

Cost of products sold increased $5.3 million, or 12%, in the third quarter of 2020.

The primary reason for the increase in cost of products sold in the third quarter is due to an increase in sales from the Big 3 Precision acquisition in 2019.

Excluding Big 3 Precision cost of products sold in the third quarter of 2020, decreased $2.4 million or 6% to $40.4 million from costs of products sold of $42.8 million in the third quarter of 2019.

Material costs decreased $3.0 million in the third quarter as we reduced inventory and curtailed replenishing stock in order to improve our cash flow generation.

For the first nine months of 2020 cost of products sold was comparable to the same periods in 2019.

Excluding Big 3 Precision cost of products sold decreased $29.5 million or 21% to $110.7 million from cost of products sold of $140.2 in the first nine months of 2019 on lower sales volume and lower material costs.

In addition, raw material costs have decreased year-over-year, hot-rolled steel decreased 3%, cold-rolled steel decreased 8%, nickel decreased 9%, scrap iron decreased 4% while copper and zinc increased 11% and 5% respectively.

However raw material prices are starting to show signs of price increases in the third quarter of 2020.

Also favorably impacting the third quarter and first nine months of 2020 were lower freight costs of $0.5 million, or a 27% decrease, and $1.9 million, or a 36% decrease, over the comparable periods in 2019, respectively.

Lower production levels resulted in the under-absorption of operating costs in the amount of $1.4 million during the third quarter and $1.6 million in the first nine months of 2020 compared to the corresponding periods in 2019.

Further, foreign currency exchange losses increased $0.6 million and $0.4 million for the third quarter and first nine months as compared to the same periods of 2019 respectively.

Finally, the Company paid tariff costs on China-sourced products of approximately $0.6 million in the third quarter of 2020 compared to $0.9 million incurred in the third quarter of 2019, and $2.4 million for the first nine months of 2020 compared to $1.5 million in the first nine months of 2019, all of which have been recovered through price increases.

Gross margin as a percent of sales was 22% in the third quarter and 23% in the first nine months of 2020 compared to 25% in the third quarter and 24% in the first nine months of 2019.

Product development expense in the third quarter of 2020 was comparable to that of the third quarter of 2019 at $0.9 million and decreased $2.6 million or 52% in the first nine months of 2020 compared to the corresponding periods of 2019.

The reduction in this expense relates to the closure of the Velvac Road-iQ development operation in Bellingham, Washington, in the second quarter of 2019, to adopt a leaner approach to the development of new vision products.

Selling and administrative expense increased $1.2 million or 14% in the third quarter and increased $2.4 million or 10% in the first nine months of 2020 compared to the corresponding periods of 2019, primarily as a result of the inclusion of Big 3 Precision in the 2020 period.

For the first nine months of 2020 the most significant factor contributing to the overall increase was payroll and payroll related expenses of $1.1 million and amortization expense related to the acquisition of Big 3 Precision in the amount of $1.7 million.

Excluding Big 3 Precision, selling and administrative expenses in the third quarter of 2020 increased 5% to $7.0 million from selling and administrative expenses of $6.7 million in the third quarter of 2019, and selling and administrative expenses in the first nine months of 2020 decreased 10% to $21.1 million from selling and administrative expenses of $23.3 million in the first nine months of 2019.

The most significant factor contributing to the increase in the third quarter of 2020 was the reclassification of acquisition related cost for the Big 3 acquisition in 2019.

For the first nine months of 2020, the decrease in selling and administrative expenses was due to payroll and payroll related expenses of $1.6 million, and travel expenses of $0.5 million respectively, as compared to the same periods of 2019.

Restructuring costs of $0.3 million incurred in the first nine months of 2020 related to the divestiture of Canadian Commercial Vehicles Corporation in the second quarter of fiscal 2020, compared to restructuring costs of $2.7 million during for the first nine months of 2019, which were related to the discontinuance of our Road iQ development operations based in Bellingham, Washington and the relocation costs of our Composite Panels Technologies division in Salisbury, North Carolina to the Canadian Commercial Vehicles Corporation located in Kelowna, British Columbia.

Goodwill impairment loss of $4.0 million was incurred in the second quarter of 2020.

The Company determined that it was more likely than not that the estimated fair value of one of its 12 reporting units (Greenwald Industries) was below its carrying amount.

The factors that led to this determination included additional competition, industry movement away from legacy products and intense competition in new mobile payment apps.

This fundamental shift in lower cost payment systems away from the higher cost electronic smart card payment systems resulted in the carrying value of Greenwald exceeding its fair value.

As a result, an independent valuation was conducted which estimated that the carrying value exceeded the fair value by approximately $4.0 million.

Management has recognized this non-cash impairment charge in the second fiscal quarter of 2020.

There were no goodwill impairment charges in the third quarter of 2020.

Interest expense increased $0.3 million in the third quarter and $1.1 million for the first nine months of 2020 compared to the same periods in 2019 as a result of increased debt related to our acquisition of Big 3 Precision in August 2019.

Other income increased $0.2 million in the third and the first nine months of 2020 compared to the corresponding periods in 2019 due to a favorable return on our pension plan assets and a onetime sale-leaseback transaction gain in the first quarter of fiscal 2020.

Net income for the third quarter of fiscal 2020 was $3.0 million, or $0.48 per diluted share compared to income of $4.2 million, or $0.67 per diluted share, for the comparable period in 2019.

In the first nine months of 2020 net income was $4.0 million, or $0.64 per diluted share, compared to $8.3 million, or $1.33 per diluted share, for the comparable period in 2019.

During the second quarter of 2020, the Company had a significant non-recurring goodwill impairment loss of $4.0 million.

There were no goodwill impairment charges in the third quarter of 2020.

Net sales in the first quarter of 2021 increased 12% to $73.1 million from $65.3 million in the corresponding period in 2020.

Sales increased in the Engineered Solutions segment in the first quarter of 2021 by 19% to $61.8 million from $51.8 million in the first quarter of 2020 due to increased demand for truck accessories, automotive returnable packaging, blow mold tooling, and distribution products.

First quarter 2021 sales in the Diversified Products segment of $11.3 million decreased 16% when compared to the first quarter of 2020 sales of $13.5 million primarily due to the sale of Canadian Commercial Vehicles and Sesamee Mexicana in June and November 2020 respectively, and lower demand for commercial laundry products, partially offset by increased demand for mining products and industrial castings.

Net sales of existing products increased 5% in the first quarter of 2021 compared to the corresponding period in 2020.

Price increases and new products increased net sales by 7% in the first quarter of 2021.

New products included various truck mirror assemblies, truck compression latches, a cable lock, and a mirror cam.

Cost of products sold increased $5.2 million, or 10%, in the first quarter of 2021 primarily due to increased sales volume and increases in material costs.

Raw material costs have increased year-over-year:

hot-rolled steel increased 147%, cold-rolled steel increased 103%, nickel increased 38%, scrap iron increased 168% while copper and zinc increased 51% and 29% respectively, in the first quarter of 2021 compared to the first quarter of 2020.

Additionally, the Company paid tariff costs on China-sourced products of approximately $0.7 million in the first quarter of 2021 compared to $1.4 million incurred in the first quarter of 2020, all of which have been recovered through price increases.

Gross margin as a percent of sales was 24% in the first quarter of 2021 compared to 22% in the first quarter of 2020.

Product development expense of $0.8 million increased $0.1 million, or 8% in the first quarter of 2021 compared to the first quarter of 2020.

As a percentage of net sales, product development costs were 1.1% and 1.2% for the first quarter of 2021 and 2020 respectively.

Selling and administrative expense increased 5% in the first quarter of 2021 compared to the corresponding period in 2020 primarily due to increased amortization expense, and increased incentive costs, which were suspended in the first quarter of fiscal 2020, offset by reduced travel and other payroll related expenses.

Interest expense of $0.7 million decreased $0.1 million in the first quarter of 2021 compared to the same period in 2020.

Other income of $2.3 million in the first quarter of 2021 was the result of a gain on sale of the Eberhard Hardware Ltd.

building of $1.8 million and a $0.5 million favorable return on pension plan assets.

Other income of $0.7 million in the first quarter of 2020 was comprised of a favorable return on our pension plan assets and a one-time sale-leaseback transaction gain in the first quarter of fiscal 2020.

Net income for the first quarter of fiscal 2021 was $5.8 million, or $0.93 per diluted share compared to income of $2.9 million, or $0.46 per diluted share, for the comparable period in 2020.

A more detailed analysis of the Company’s results of operations and financial condition follows:

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The following table shows, for the periods indicated, selected line items from the condensed consolidated statements of operations as a percentage of net sales, by segment for the period indicated:

Three Months Ended October 3, 2020

Cost of products sold

Product development expense

Selling and administrative expense

Operating profit (loss)

Three Months Ended September 28, 2019

2021 First Quarter

Cost of Products Sold

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Operating Profit

The following table shows the change in sales and operating profit by segment for the third quarter of fiscal 2020 compared to the third quarter of fiscal 2019 (dollars in thousands):

Operating profit (loss)

The following table displays selected line items from the condensed consolidated statements of operations as a percentage of net sales, by segment, for the periods indicated:

Nine Months Ended October 3, 2020

Cost of products sold

Product development expense

Selling and administrative expense

Goodwill impairment loss

Restructuring costs

Operating profit (loss)

Nine Months Ended September 28, 2019

2020 First Quarter

Cost of Products Sold

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Selling and Administrative Expense

Restructuring costs

Operating Profit

The following table displays the change in net sales and operating profit by segment for the first nine months of fiscal 2020 compared to the first nine months of fiscal 2019 (dollars in thousands):

The following table shows the change in sales and operating profit by segment for the first quarter of fiscal 2021 compared to the first quarter of fiscal 2020 (dollars in thousands):

Operating profit (loss)

Industrial Hardware Segment

Net sales in the Industrial Hardware segment increased $7.7 million or 20% in the third quarter and increased $12.9 million or 11% in the first nine months of 2020 compared to the corresponding periods of 2019.

Excluding Big 3 Precision, sales decreased 7% in the third quarter from $34.7 million to $32.3 million and decreased 20% for the first nine months of 2020 from $110.6 million to $88.4 million compared to the same periods in 2019.

The sales decline is primarily due to the divestiture of a subsidiary, Canadian Commercial Vehicles Corporation, in the second quarter of 2020.

Sales in 2019 included of Canadian Commercial Vehicles Corporation of $2.7 million in the third quarter and $7.6 million in the first nine months of 2019 whereas in 2020 there were no sales in the third quarter of 2020 and $2.6 million in the first nine months of 2020.

Sales increased in the third quarter of 2020 in heavy truck by 12% recreational vehicle by 17%, government by 14% and off-highway by 18%, offset by declines in sales in other markets we serve.

Sales decreased in the second quarter when certain of our customers closed operations due to actions taken to help stop the spread of COVID-19, which negatively affected our overall year to date sales results.

Sales increases in military off-highway markets were not sufficient to offset a sales reduction in distribution, Class 8 truck, and aftermarket truck parts markets in the first nine months of 2020.

Sales of new products contributed 6.3% in the third quarter and 3.9% in the first nine months of fiscal 2020.

New products include numerous mirror assemblies, compression latches, a handle and finger pull assembly, rotary lock assembly, a mount plate latch and hospital beds frames for use in field hospitals established due to COVID-19.

Cost of products sold increased $6.5 million or 22% in the third quarter and increased $10.6 million or 12% in the first nine months of 2020 compared to the corresponding periods of 2019.

Excluding Big 3 Precision, cost of products sold decreased by 5% in the third quarter of 2020 from $26.5 million to $25.2 million and decreased 20% in the first nine months of 2020 from $84.6 million to $68.1 million compared to the same periods of 2019.

Excluding Big 3 Precision, material costs in the third quarter of 2020 decreased 16% or $2.7 million to $14.2 million from $16.9 million and decreased 31% or $17.0 million in the first nine months of 2020 to $38.4 million from $55.4 million, compared to the same periods of 2019, due to lower sales volume and lower material costs.

Also impacting the third quarter were lower freight costs, which were down 25% or $0.4 million in the third quarter and down 35% or $1.8 million in the first nine months of 2020 compared to the corresponding periods of 2019 due to non-recurring expedited shipping costs.

Finally, we paid tariffs on China-sourced products of approximately $0.3 million in the third quarter of 2020 compared to $0.5 million in the third quarter of 2019 and for the first nine months of 2020 we experienced $1.4 million in tariff costs compared to $1.0 million in the first nine months of 2019 all of which have been recovered through price increases.

Restructuring costs for the first nine months of 2020 were $0.3 million related to severance pay in the sale of Canadian Commercial Vehicles Corporation in the second quarter of 2020 compared to restructuring costs of $2.6 million for the first nine months of 2019 related to the discontinuance of our Road iQ development operations based in Bellingham, Washington and the relocation cost of our Composite Panels Technologies division in Salisbury, North Carolina to the Canadian Commercial Vehicles Corporation division located in Kelowna, British Columbia.

Gross margin as a percentage of net sales in the third quarter and first nine months of 2020 was 22% and 23% respectively as compared to the corresponding periods of 2019 of 24%.

Product development expense increased by $46 thousand in the third quarter and decreased by $2.8 million for the first nine months of 2020 compared to the corresponding periods of 2019 due primarily to the closure of the Velvac Road-iQ development operation in Bellingham, Washington in the second quarter of 2019, as we adopted a leaner approach to the development of new vision products.

Selling and administrative expense increased $1.2 million or 21% in the third quarter and increased $3.7 million or 23% for the first nine months of 2020 compared to the corresponding periods of fiscal 2019 due primarily to the inclusion of Big 3 Precision.

Excluding Big 3 Precision, selling and administrative expense decreased 24% in the third quarter of 2020 from $5.8 million to $4.5 million and decreased 17% for the first nine months of 2020 from $15.9 million to $13.3 million compared to the corresponding periods of fiscal 2019.

Excluding Big 3 Precision, payroll and payroll-related expense in the third quarter of 2020, decreased by $0.3 million, or 13%, to $2.3 million from $2.6 million, and decreased $1.2 million, or 15%, in the first nine months of 2020 to $6.7 million from $7.9 million, compared to the corresponding periods of 2019.

Security Products Segment

Net sales in the Security Products segment were comparable in the third quarter and decreased $7.7 million or 17% in the first nine months of 2020 compared to the corresponding periods in 2019.

The sales decline was due to lower demand across the majority of the markets we serve including distribution, industrial, vehicular accessories and commercial laundry, as well as continued business closures in the second quarter of 2020 resulting from the COVID-19 pandemic.

Net sales of existing products decreased 3.1%, while price increases and sales of new products contributed 3.2% in the third quarter of fiscal 2020 period.

New product sales included a canopy lock assembly, a handle assembly, a crossbar lock assembly, a push button lock assembly and a power lock assembly.

Cost of products sold increased $0.2 million or 2% in the third quarter of 2020 and decreased $5.3 million or 17% in the first nine months of 2020 compared to the corresponding periods of 2019, primarily as a result of lower sales volume and the mix of products sold.

Raw materials increased $0.2 million or 3% in the third quarter and decreased $4.1 million or 20% in the first nine months of 2020 compared to the corresponding periods of 2019.

Payroll and payroll related expenses decreased $0.2 million or 3% in the third quarter and decreased $0.7 million or 10% in the first nine months of fiscal 2020 compared to the corresponding periods of fiscal 2019.

We paid tariffs on China-sourced products of approximately $0.2 million in the third quarter of 2020 compared to $0.4 million in the third quarter of 2019 and for the first nine months of 2020 we experienced $1.0 million in tariff costs compared to $0.5 million in the first nine months of 2019 all of which have been recovered through price increases.

Gross margin as a percentage of net sales was 31% in the third quarter and for the first nine months of 2020 compared to 32% in the third quarter and 31% in the first nine months of fiscal 2019.

Product development expense as a percentage of net sales was 5% in the third quarter and first nine months of fiscal 2020 compared to 4% in the corresponding periods of fiscal 2019.

This increase reflects a continuation in the development of a Bluetooth locking system, a new cable lock system, continued development of GPay, a multi-pay reader and an electronic drop.

Selling and administrative expenses was comparable in the third quarter and decreased $1.1 million or 15% in the first nine months of 2020, compared to the corresponding periods of 2019.

For the first nine months, the most significant driver of this reduction was decreased payroll and payroll related expenses of $0.3 million or 8%, travel expenses of $0.3 million or 65% which were offset by an increase in our bad debt reserve in the amount of $93 thousand related to a customer that filed for Chapter 11 bankruptcy during the first quarter of fiscal 2020.

Goodwill impairment loss of $4.0 million was incurred in the second quarter of fiscal 2020.

The Company determined that it was more likely than not that the estimated fair value of one of its 12 reporting units (Greenwald Industries) was below its carrying amount.

The factors that led to this determination included additional competition, industry movement away from legacy products and intense competition in new mobile payment apps.

This fundamental shift in lower cost payment systems away from the higher cost electronic smart card payment systems resulted in our belief that the carrying value of Greenwald exceeded its fair value.

As a result, an independent valuation was conducted.

The valuation estimated that the carrying value exceeded the fair value by approximately $4.0 million.

Management has recognized this non-cash impairment charge in the second quarter of fiscal 2020.

There were no goodwill impairment charges in the third quarter of 2020.

Metal Products Segment

Net sales in the Metal Products segment decreased $2.6 million or 37% in the third quarter and decreased $8.3 million or 37% in the first nine months of 2020 compared to the corresponding periods of 2019.

Sales of our mining products decreased by 40%, while sales of industrial casting products decreased by 36%, in the third quarter of 2020, and mining products declined 39% and industrial castings declined 36% for the first nine months of 2020, compared to the corresponding periods of 2019.

Mining sales in the third quarter improved by 24% from the second quarter of 2020 as mines began opening after closing due to COVID-19 and sales of mining products in the first nine months of 2020 were impacted by a combination of growing renewable energy capacity and extremely low natural gas prices which led utilities to cut back on coal usage in addition to COVID-19, which forced many mine closures resulting in further loss of sales.

Sales of industrial castings in the first nine months of fiscal 2020 were negatively impacted by the loss of a customer who had temporarily sourced products from us during 2019 due to a fire at its facility in 2018 that temporarily shut down production of product that would otherwise have been sourced internally and continued softness in the oil, water, gas, rail and construction markets.

Cost of products sold decreased $1.4 million or 23% in the third quarter and decreased $5.2 million or 26% for the first nine months of 2020 compared to the corresponding periods of 2019, as a result of lower sales volume.

Raw materials decreased $0.5 million or 20% in the third quarter and decreased $1.9 million or 22% in the first nine months of 2020 compared to the corresponding periods of 2019.

Payroll and payroll related expenses decreased $0.6 million or 28% in the third quarter and decreased $1.9 million or 26% in the first nine months of 2020 compared to the corresponding periods of 2019.

Gross margin as a percentage of net sales was a negative 6% in the third quarter and a negative 4% for the first nine months of 2020 compared to 13% and 11% in the corresponding periods of 2019.

Due to the high fixed operating cost structure of operating a foundry and the severe reduction in sales productive capacity could not be consumed resulting in the negative gross margin.

Selling and administrative expenses increased 4% in the third quarter and decreased $0.1 million or 9% for the first nine months of 2020 compared to the corresponding periods of 2019.

The third quarter increase relates to pension costs.

For the first nine months of 2020 the decrease was from reduced payroll and payroll-related expenses of $0.1 million or 12% compared to the corresponding periods of 2019.

Engineered Solutions

Net sales in the Engineered Solutions segment of $61.8 million increased $9.9 million or 19% in the first quarter of 2021 compared to the corresponding period of 2020 primarily due to increased demand for truck accessories, automotive returnable packaging, blow mold tooling, and distribution of industrial hardware products.

Sales of new products contributed 8% in the first quarter of fiscal 2021.

New products include numerous mirror assemblies, compression latches, a cable lock, and a mirror cam.

Cost of products sold increased $6.9 million or 18% in the first quarter of 2021 compared to the corresponding period of 2020.

Material costs in the first quarter of 2021 increased 15% or $4.1 million to $31.4 million from $27.3 million in the first quarter of 2020, primarily due to increased sales volume and higher material costs.

Also impacting the first quarter of 2021 were higher freight costs, which were up 44% or $1.4 million in the first quarter of 2021 compared to the corresponding period of 2020 due to increased volume and non-recurring expedited shipping costs related to port congestion at all U.S.

Finally, we paid tariffs on China-sourced products of approximately $0.6 million in the first quarter of 2021 compared to $0.8 million in the first quarter of 2020, all of which have been recovered through price increases.

Gross margin as a percentage of net sales in the first quarter of 2021 was 25% as compared to the corresponding period of 2020 of 24%.

Product development expense increased $0.1 million first quarter of 2021 compared to the corresponding period of 2020.

Selling and administrative expense increased $0.7 million or 9% in the first quarter of 2021 compared to the corresponding period of fiscal 2020 due primarily to increased amortization expense, increased incentive costs, which were suspended in the first quarter of fiscal 2020, offset by reduced travel and other payroll related expenses.

Diversified Products

Net sales in the Diversified Products segment decreased $2.2 million or 16% in the first quarter of 2021 compared to the corresponding period in 2020.

The sales decline was due to the sale of the Canadian Commercial Vehicles Corporation and Sesamee Mexicana in June and November 2020 respectively, and lower demand for commercial laundry products, partially offset by increased demand for mining products and industrial castings.

Net sales of existing products decreased 17%, while price increases contributed 1% in the first quarter of fiscal 2021.

Cost of products sold decreased $1.7 million or 15% in the first quarter of 2021 compared to the corresponding period of 2020, primarily as a result of lower sales volume and the mix of products sold.

Raw materials decreased $1.6 million or 32% in the first quarter of 2021 compared to the corresponding period of 2020.

Payroll and payroll related expenses decreased $0.2 million or 7% in the first quarter of fiscal 2021 compared to the corresponding period of fiscal 2020.

We paid minimal tariffs on China-sourced products in the first quarter of 2021 compared to $0.6 million in the first quarter of 2020, all of which have been recovered through price increases.

Gross margin as a percentage of net sales was 14% in the first quarter of 2021 compared to 15% in the first quarter of fiscal 2020.

Product development expense as a percentage of net sales was 3% in the first quarter of fiscal 2021 compared to 3% in the corresponding period of fiscal 2020.

This increase reflects a continuation in the development of GPay, a multi-pay reader and an electronic drop.

Selling and administrative expenses decreased $0.3 million or 16% in the first quarter of 2021 compared to the corresponding period of 2020, primarily due to lower payroll and payroll related expenses and reduced travel expenses.

Liquidity and Sources of Capital

The Company generated approximately $16.7 million of cash from operations during the first nine months of fiscal 2020 compared to approximately $12.2 million during the first nine months of fiscal 2019.

The Company allocated approximately $7.2 million of its cash for the acquisition of Hallink.

Cash flow from operations coupled with cash at the beginning of the 2020 fiscal year was sufficient to fund capital expenditures, debt service, and dividend payments.

Additions to property, plant and equipment were approximately $2.0 million for the first nine months of fiscal 2020 and $1.9 million for the first nine months of fiscal 2019.

As of October 3, 2020, there were approximately $0.1 million of outstanding commitments for capital expenditures.

The Company generated approximately $2.1 million of cash from operations during the first three months of fiscal 2021 compared to approximately $1.5 million during the first three months of fiscal 2020.

Cash flow from operations coupled with cash at the beginning of the 2021 fiscal year was sufficient to fund capital expenditures, debt service, and dividend payments for the first quarter of fiscal 2021.

Additions to property, plant and equipment were approximately $0.9 million for the first three months of fiscal 2021 and $0.8 million for the first three months of fiscal 2020.

Additionally, in the first three months of 2021 the company received proceeds of $2.0 million from the sale of one of its facilities in Canada.

As of April 3, 2021, there were approximately $0.3 million of outstanding commitments for capital expenditures.

The following table shows key financial ratios at the end of each specified period:

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Net cash provided by operating activities

Change in working capital impact on net cash (used) in operating activities

Net cash provided (used) in investing activities

Change in working capital impact on net cash provided by (used in) operating activities

Net cash provided by (used in) investing activities

Net cash used in financing activities

Inventories of $49.4 million represent a decrease of 9.5% as of October 3, 2020 as compared to $54.6 million at the end of fiscal year 2019.

Inventories decreased 6% in the first nine months of fiscal 2020, as compared to $52.8 million at the end of the first nine months of fiscal 2019.

This was primarily due to the acquisition of Big 3 Precision.

Accounts receivable, less allowances, were $34.2 million as of October 3, 2020, as compared to $37.9 million at 2019 fiscal year end and $43.5 million at the end of the first nine months of fiscal 2019.

Inventories of $54.0 million represent an increase of 1.6% as of April 3, 2021 as compared to $53.1 million at the end of fiscal year 2020.

Inventories decreased 2.3% in the first three months of fiscal 2021, as compared to $55.3 million at the end of the first quarter of fiscal 2020.

Accounts receivable, less allowances, were $42.2 million as of April 3, 2021, as compared to $37.7 million at 2020 fiscal year end and $39.9 million at the end of the first quarter of fiscal 2020.

Cash, cash flow from operating activities and funds available under the revolving credit portion of the Credit Agreement are expected to be sufficient to cover future foreseeable working capital requirements.

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Off-Balance Sheet Arrangements

As of the end of the fiscal quarter ended October 3, 2020, the Company does not have any transactions, arrangements, obligations (including contingent obligations), or other relationships with unconsolidated entities or other persons, as described by Item 303(a)(4) of Regulation S-K, that have or are reasonably likely to have a material current or future impact on the Company’s financial condition, results of operations, liquidity, capital expenditures, capital resources or significant components of revenues or expenses.

As of the end of the fiscal quarter ended April 3, 2021, the Company does not have any off-balance sheet arrangements that have or are reasonably likely to have a material current or future effect on the Company’s financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Non-GAAP Financial Measures

The non-GAAP financial measures we provide in this report should be viewed in addition to, and not as an alternative for, results prepared in accordance U.S.

The non-GAAP financial measures we provide in this report should be viewed in addition to, and not as an alternative for, results prepared in accordance with accounting principles generally accepted in the United States (“U.S.

To supplement the consolidated financial statements prepared in accordance with U.S.

GAAP, we have presented Adjusted EPS and Adjusted EBITDA, which are considered non-GAAP financial measures.

GAAP, we have presented Adjusted Net Income, Adjusted EPS and Adjusted EBITDA, which are considered non-GAAP financial measures.

The non-GAAP financial measures presented may differ from similarly titled non-GAAP financial measures presented by other companies, and other companies may not define these non-GAAP financial measures in the same way.

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GAAP, and there are limitations to using non-GAAP financial measures.

We also present certain results “excluding Big 3 Precision” because we believe this allows for more effective comparability to the corresponding prior year period.

Adjusted EPS is defined as diluted earnings per share excluding, when they occur, the impacts of impairment losses and restructuring expenses.

Adjusted Net Income is defined as net income excluding, when they occur, the impacts of impairment losses, losses on sale of subsidiaries, transaction expenses, factory relocation expenses and restructuring costs.

Adjusted Net Income is a tool that can assist management and investors in comparing our performance on a consistent basis by removing the impact of certain items that management believes do not directly reflect our underlying operations.

Adjusted Earnings Per Share is defined as diluted earnings per share excluding, when they occur, the impacts of impairment losses, losses on sale of subsidiaries, transaction expenses, factory relocation expenses and restructuring costs.

We believe that Adjusted EPS provides important comparability of underlying operational results, allowing investors and management to access operating performance on a consistent basis.

Adjusted EBITDA is defined as net income from continuing operations before interest expense, provision for income taxes, and depreciation and amortization.

In addition to these adjustments, we exclude, when they occur, the impacts of impairment losses and restructuring expenses.

Adjusted EBITDA is defined as net income before interest expense, provision for income taxes, and depreciation and amortization and excluding, when they occur, the impacts of impairment losses, losses on sale of subsidiaries, transaction expenses, gain on sale of building, factory relocation expenses and restructuring expenses.

Adjusted EBITDA is a tool that can assist management and investors in comparing our performance on a consistent basis by removing the impact of certain items that management believes do not directly reflect our underlying operations.

Reconciliation of expenses from GAAP to Non-GAAP EPS calculation

For the Three and Nine Months ended October 3, 2020 and September 28, 2019

Three Months Ended

Nine Months Ended

October 3, 2020

September 28, 2019

October 3, 2020

September 28, 2019

Net Income as reported per generally accepted accounting principles (GAAP)

Earnings Per Share as reported under generally accepted accounting principles (GAAP):

Adjustments for one-time expenses

Goodwill impairment loss, net of tax

$ -2,993,906 A

Transaction expenses

Factory relocation, net of tax

Restructuring costs, net of tax

$ -2,036,642 D,F

Adjustment to Net Income (related to one time expenses);

Adjustment to Earnings per share (related to one time expenses);

A) Goodwill impairment

B) Cost incurred on disposition of Canadian Commercial Vehicles

C) Cost incurred on relocation of factory in Reynosa, Mexico

D) Cost incurred on the relocation of Composite Panels Technology

E) Cost incurred in the acquisition of Hallink RSB, Inc.

F) Costs incurred in the closure of Road IQ in Bellingham, WA

G) Costs incurred on the acquisition of Big 3 Precision

Use of Non-GAAP Financial Measures

To supplement our consolidated financial statements presented in accordance with generally accepted accounting principles in the United States (“GAAP”), we disclose certain non-GAAP financial measures including adjusted net income and adjusted earnings per diluted share.

Adjusted net income and adjusted earnings per diluted share exclude one time related expenses.

These measures are not in accordance with GAAP.

Management uses such measures to evaluate performance period over period, to analyze the underlying trends in our business including our business segments, to assess our performance relative to our competitors, and to establish operational goals and forecasts that are used in allocating resources.

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We further believe that providing this information better enables our investors to understand our operating performance and to evaluate the methodology used by management to evaluate and measure such performance.

Reconciliation of expenses from GAAP to Non-GAAP EBITDA calculation

For the Three and Nine Months ended October 3, 2020 and September 28, 2019

Three Months Ended

Nine Months Ended

October 3, 2020

September 28, 2019

October 3, 2020

September 28, 2019

Reconciliation of Net Income to Adjusted Net Income - EPS Calculation

For the Three Months ended April 3, 2021 and March 28, 2020

Net Income as reported per generally accepted accounting principles (GAAP)

Earnings Per Share as reported under generally accepted accounting principles (GAAP):

Adjustments for one-time items:

Gain on sale of Eberhard Hardware Ltd building, net of tax

Total adjustments for one-time items (Non-GAAP)

Adjusted Net Income (related for one-time items);

Adjusted earnings per share (related to one-time items);

A) Gain on sale of Eberhard Hardware Ltd building

Reconciliation of one-time items from GAAP to Non-GAAP EBITDA calculation

For the Three Months ended April 3, 2021 and March 28, 2020

Net Income/(loss) as reported per generally accepted accounting principles (GAAP)

Interest expense

Provision for/(benefit from) income taxes

Provision for income taxes

Depreciation and amortization

Goodwill impairment loss

Factory relocation

Restructuring costs

2,651,877 D,F

Transaction costs

Gain on sale of Eberhard Hardware Ltd Building

Adjusted EBITDA

A) Goodwill impairment

B) Cost incurred on disposition of Canadian Commercial Vehicles

C) Cost incurred on relocation of factory in Reynosa, Mexico

D) Cost incurred on the relocation of Composite Panels Technology

E) Cost incurred in the acquisition of Hallink RSB, Inc.

F) Costs incurred in the closure of Road IQ in Bellingham, WA

G) Costs incurred in the acquisition of Big 3 Precision

Use of Non-GAAP Financial Measures

Adjusted net income and adjusted earnings per diluted share exclude one time related expenses.

These measures are not in accordance with GAAP.

These financial measures should not be considered in isolation from, or as a replacement for, GAAP financial measures.

We believe that presenting non-GAAP financial measures in addition to GAAP financial measures provides investors greater transparency to the information used by our management for its financial and operational decision-making.

A) Gain on sale of Eberhard Hardware Ltd building

ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As a result of the Company’s status as a smaller reporting company pursuant to Rule 12b-2 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), the Company is not required to provide the information under this Item 3 of Form 10-Q pursuant to Item 305 of Regulation S-K.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis