EASTERN CO 10-Q

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 three months ended March 30, 2024. 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 30, 2023 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 December 30, 2023, which was filed with the Securities and Exchange Commission (the “SEC”) on March 12, 2024 (the “2023 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 2023, the 2023 fiscal year or fiscal 2023 mean the 52-week period ended on December 30, 2023, and references to 2024, the 2024 fiscal year or fiscal 2024 mean the 52-week period ending on December 28, 2024. In a 52-week fiscal year, each quarter has 13 weeks. References to the first quarter of 2023, the first fiscal quarter of 2023, the first quarter of fiscal 2023 or the three months ended April 1, 2023, mean the period from January 1, 2023 to April 1, 2023. References to the first quarter of 2024, the first fiscal quarter of 2024, the first quarter of fiscal 2024, or the three months ended March 30, 2024 mean the 13-week period from December 31, 2023 to March 30, 2024. Safe Harbor for Forward-Looking Statements Statements contained in this Quarterly Report on Form 10-Q of the Company that are not based on historical facts are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements may be identified by the use of forward-looking terminology such as “would,” “should,” “could,” “may,” “will,” “expect,” “believe,” “estimate,” “anticipate,” “intend,” “continue,” “plan,” “potential,” “opportunities,” or similar terms or variations of those terms or the negative of those terms. There are many factors that affect the Company’s business and the results of its operations and that may cause the actual results of operations in future periods to differ materially from those currently expected or anticipated. These factors include: · the impact of higher raw material and component costs and cost inflation, supply chain disruptions and shortages, particularly with respect to steel, plastics, scrap iron, zinc, copper, and electronic components; · delays in delivery of our products to our customers; · the impact of global economic conditions and rising interest rates, and more specifically conditions in the automotive, construction, aerospace, energy, oil and gas, transportation, electronic, and general industrial markets, including the impact, length and degree of economic downturns on the customers and markets we serve and demand for our products, reductions in production levels, the availability, terms and cost of financing, including borrowings under credit arrangements or agreements, the potential impact of bank failures on our ability to access financing or capital markets, and the impact of market conditions on pension plan funded status; · restrictions on operating flexibility imposed by the agreement governing our credit facility; · risks associated with doing business overseas, including fluctuations in exchange rates and the inability to repatriate foreign cash, the impact on cost structure and on economic conditions as a result of actual and threatened increases in trade tariffs and the impact of political, economic, and social instability; · the inability to achieve the savings expected from global sourcing of materials; · lower-cost competition; · our ability to design, introduce and sell new or updated products and related components; · market acceptance of our products; · the inability to attain expected benefits from acquisitions or the inability to effectively integrate acquired businesses and achieve expected synergies; · costs and liabilities associated with environmental compliance; · the impact of climate change, natural disasters, geopolitical events, and public health crises, including pandemics (such as COVID-19) and epidemics, and any related Company or government policies or actions; · military conflict (including the Russia/Ukraine conflict, the conflict in Israel and surrounding areas, the possible expansion of such conflicts and geopolitical consequences) or terrorist threats and the possible responses by the U.S. and foreign governments; · failure to protect our intellectual property; · cyberattacks; and · materially adverse or unanticipated legal judgments, fines, penalties, or settlements. 16 Table of Contents The Company is also subject to other risks identified and discussed in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, in Item 1A, Risk Factors , and in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations , of the 2023 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. Also, the Company makes estimates and assumptions that may materially affect reported amounts and disclosures. These relate to valuation allowances for accounts receivable and excess and obsolete inventories, accruals for pensions and other postretirement benefits (including forecasted future cost increases and returns on plan assets), provisions for depreciation (estimating useful lives), uncertain tax positions, and, on occasion, accruals for contingent losses. The Company undertakes no obligation to update, alter, or otherwise revise any forward-looking statements, whether written or oral, that may be made from time to time, whether as a result of new information, future events, or otherwise, except as required by law. General Overview Net sales in the first quarter of 2024 decreased 6% to $67.9 million from $72.5 million in the corresponding period in 2023. Sales declined in the first quarter of 2024 primarily due to lower demand for truck accessories and returnable transport packaging products, partially offset by increased demand for truck mirror assemblies. Our backlog as of March 30, 2024 increased 35% to $97.4 million from $72.0 million as of April 1, 2023, driven by increased orders for various truck mirror assemblies. Net sales of existing products declined 11% in the first quarter of 2024 compared to the corresponding period in 2023. Price increases and new products increased net sales by 5% in the first quarter of 2024 compared to the corresponding period in 2023. New products included various truck mirror assemblies, rotary latches, D-rings, and mirror cams. Cost of products sold decreased $5.3 million, or 9%, in the first quarter of 2024 compared to the corresponding period in 2023. The decreases in the first quarter of 2024 are primarily due to lower sales volumes. Additionally, the Company paid tariff costs on China-sourced products of approximately $0.7 million in the first quarter of 2024 compared to $0.6 million in the first quarter of fiscal 2023. Most tariffs on China-sourced products have been recovered through price increases. Gross margin as a percentage of sales was 24% in the first quarter of 2024 compared to 21% in the first quarter of fiscal 2023. Our gross margins in the first quarter of 2024 primarily reflect the impact of price increases to customers to recover increases in raw material costs and other cost savings initiatives. Product development expenses were flat in the first quarter of 2024 compared to the corresponding period in 2023 as we continue to invest in new products at Eberhard, Velvac and Big 3. As a percentage of net sales, product development costs were 2.0% for the first quarter of 2024 compared to 1.9% for the corresponding period in 2023. Selling, general and administrative expenses decreased $0.4 million, or 4%, in the first quarter of 2024 when compared to the first quarter of 2023 primarily due to lower legal, professional, and selling costs and payroll-related expenses. In the first quarter of 2023, selling, general and administrative expenses included severance and other accrued compensation expenses of $1.8 million related to the elimination of the chief operating officer position and the departure of our previous chief executive officer. Interest expense increased $0.1 million in the first quarter of 2024 compared to the corresponding period in 2023 due to higher interest rates. Other income and expense of $0.0 million increased $0.6 million in the first quarter of 2024 when compared to the corresponding period in 2023. The increase in other income of $0.6 million in the first quarter of 2024 was primarily driven by an unfavorable final working capital adjustment of $0.4 million related to the sale of the Greenwald business in the first quarter of 2023. Net income for the first quarter of fiscal 2024 was $1.9 million, or $0.31 per diluted share compared to net income of $0.6 million, or $0.10 per diluted share, for the comparable period in 2023. A more detailed analysis of the Company’s results of operations and financial condition follows. 17 Table of Contents Results of Operations The following table shows, for the periods indicated, selected line items from the condensed consolidated statements of operations as a percentage of net sales: Three Months Ended March 30, 2024 April 1, 2023 Net sales 100.0 % 100.0 % Cost of products sold 76.2 % 78.6 % Gross margin 23.8 % 21.4 % Product development expense 2.0 % 1.9 % Selling and administrative expense 16.9 % 16.5 % Operating Profit 4.9 % 3.0 % The following table shows the change in sales and operating profit for the first quarter of 2024 compared to the first quarter of 2023 (dollars in thousands): Three Months Ended March 30, 2024 Net Sales $ (4,566 ) Volume -11.0 % Price 2.0 % New products 2.7 % -6.3 % Operating Profit $ 1,178 Liquidity and Sources of Capital The Company generated $3.6 million of cash from operations during the first three months of fiscal 2024 compared to generating $6.9 million during the first three months of fiscal 2023. Cash flow from operations in the first three months of 2024 was lower when compared to the corresponding period in 2023 primarily due to increases in accounts receivable and lower reductions in inventory, partially offset by increases in accounts payable. Additions to property, plant, and equipment were $1.8 million and $1.2 million for the first three months of 2024 and 2023, respectively. As of March 30, 2024, there was approximately $3.0 million of outstanding commitments for capital expenditures. 18 Table of Contents The following table shows key financial ratios at the end of each specified period: First Quarter 2024 First Quarter 2023 Fiscal Year 2023 Current ratio 2.6 2.7 2.6 Average days’ sales in accounts receivable 58 57 48 Inventory turnover 3.5 4.0 3.5 Total debt to shareholders’ equity 32.1 % 46.6 % 33.2 % The following table shows important liquidity measures as of the balance sheet date for each specified period or for the period, as applicable (in millions): First First Fiscal Quarter Quarter Year 2024 2023 2023 Cash and cash equivalents - Held in the United States $ 6.0 $ 9.7 $ 7.0 - Held by a foreign subsidiary 1.4 3.4 1.3 7.4 13.1 8.3 Working capital 71.3 76.7 69.5 Net cash provided by operating activities 3.6 6.9 26.5 Change in working capital impact on net cash used in operating activities (1.2 ) 3.6 9.7 Net cash (used in) provided by investing activities (2.8 ) 1.1 (5.4 ) Net cash used in financing activities (1.7 ) (5.1 ) (22.9 ) Inventories of $55.8 million as of March 30, 2024 declined by $3.4 million, or 5.8%, when compared to $59.3 million at the end of fiscal year 2023 and declined $1.8 million, or 3.1%, when compared to $57.7 million at the end of the first quarter of fiscal 2023. Accounts receivable, less allowances, were $42.9 million as of March 30, 2024, as compared to $37.1 million at 2023 fiscal year end and $44.5 million at the end of the first quarter of fiscal 2023. On June 16, 2023, the Company entered into a credit agreement with TD Bank, N.A., Wells Fargo Bank, Bank of America, and M&T Bank as lenders (the “Credit Agreement”), and incurred indebtedness under the Credit Agreement in the aggregate principal amount of $60 million in the form of a term loan, the proceeds of which were used to repay the Company’s remaining outstanding term loan and to terminate its existing credit facility with Santander Bank. See Note G for additional information regarding the terms of the Credit Agreement, including repayment terms, interest rates and applicable loan covenants. Under the terms of the Credit Agreement, the Company is subject to restrictive covenants that limit our ability to, among other things, incur additional indebtedness, pay dividends, or make other distributions, and consolidate, merge, sell or otherwise dispose of assets, as well as financial covenants that require us to maintain a fixed charge coverage ratio and a maximum senior net leverage ratio. These covenants may limit how we conduct our business, and in the event of certain defaults, our repayment obligations may be accelerated. We were in compliance with all our covenants as of March 30, 2024 and had no outstanding borrowings under the revolving commitment portion of the credit facility as of this date. 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 in the short-term (i.e., the next 12 months from March 30, 2024) and separately in the long-term (i.e., beyond the next 12 months). However, the Company cannot provide any assurances of the availability of future financing or the terms on which it might be available. In addition, the interest rate on borrowings under the Credit Agreement varies based on our senior net leverage ratio, and the Credit Agreement requires us to maintain a senior net leverage ratio not to exceed 3.50 to 1 and a fixed charge coverage ratio to be not less than 1.25 to 1. A decrease in earnings due to the impact of current economic conditions and inflationary pressures or the resulting harm to the financial condition of our customers, or an increase in indebtedness incurred to offset such a decrease in earnings, would have a negative impact on our senior net leverage ratio and our fixed charge coverage ratio, which in turn would increase the cost of borrowing under the Credit Agreement and could cause us to fail to comply with the covenants under our Credit Agreement. 19 Table of Contents In addition to funding capital requirements, we may use available cash to pay down our indebtedness, to make investments, which may include investments in publicly traded securities, or to make acquisitions that we believe will complement or expand our existing businesses. As of the end of the first quarter of 2024, 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. Critical Accounting Estimates The preparation of financial statements in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) requires management to make judgments, estimates and assumptions regarding uncertainties that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenues and expenses. For a full description of our critical accounting estimates, refer to Management’s Discussion and Analysis of Financial Condition and Results of Operations in Part II, Item 7 of the 2023 Form 10-K. While there have been no material changes to our critical accounting estimates, we continue to monitor the methodologies and assumptions underlying such critical accounting estimates. 20 Table of Contents 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 with U.S. GAAP. To supplement the consolidated financial statements prepared in accordance with U.S. GAAP, we have presented Adjusted Net Income, Adjusted Earnings Per Share 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. These measures are not substitutes for their comparable U.S. GAAP financial measures, such as net sales, net income, diluted earnings per share, or other measures prescribed by U.S. GAAP, and there are limitations to using non-GAAP financial measures. Adjusted Net Income is defined as net income excluding, when incurred, gains or losses that we do not believe reflect our ongoing operations, including, for example, the impacts of impairment losses, gains/losses on the sale of subsidiaries, property and facilities, transaction expenses primarily relating to acquisitions and divestitures, factory start-up costs, factory relocation expenses, executive severance, and restructuring costs. Adjusted Net Income is a tool that can assist management and investors in comparing our performance on a consistent basis across periods by removing the impact of certain items that management believes do not directly reflect our underlying operating performance. Adjusted Earnings Per Share is defined as earnings per share excluding, when incurred, certain per share gains or losses that we do not believe reflect our ongoing operations, including, for example, the impacts of impairment losses, gains/losses on the sale of subsidiaries, property and facilities, transaction expenses primarily relating to acquisitions and divestitures, factory start-up costs, factory relocation expenses, executive severance, and restructuring costs. We believe that Adjusted Earnings Per Share provides important comparability of underlying operational results, allowing investors and management to access operating performance on a consistent basis from period to period. Adjusted EBITDA is defined as net income before interest expense, provision for income taxes, and depreciation and amortization and excluding, when incurred, the impacts of certain losses or gains that we do not believe reflect our ongoing operations, including, for example, impairment losses, gains/losses on sale of subsidiaries, property and facilities, transaction expenses primarily relating to acquisitions and divestitures, factory start-up costs, factory relocation expenses, executive severance, 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. Management uses such measures to evaluate performance period over period, to analyze the underlying trends in our business, to assess our performance relative to our competitors, and to establish operational goals and forecasts that are used in allocating resources. These financial measures should not be considered in isolation from, or as a replacement for, U.S. GAAP financial measures. We believe that presenting non-GAAP financial measures in addition to U.S. GAAP financial measures provides investors greater transparency to the information used by our management for its financial and operational decision-making. 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. 21 Table of Contents Reconciliation of Non-GAAP Measures Adjusted Net Income and Adjusted Earnings per Share Calculation For the Three Months ended March 30, 2024 and April 1, 2023 ($000's) Three Months Ended March 30, 2024 April 1, 2023 Net income as reported per generally accepted accounting principles (GAAP) $ 1,948 $ 607 Earnings per share as reported under generally accepted accounting principles (GAAP): Basic $ 0.31 $ 0.10 Diluted $ 0.31 $ 0.10 Adjustments: Severance and accrued compensation - 1,799 a Greenwald final sale adjustment - 390 b Non-GAAP tax impact of adjustments (1) - (547 ) Total adjustments (non-GAAP) $ - $ 1,642 Adjusted net income $ 1,948 $ 2,249 Adjusted earnings per share (non-GAAP): Basic $ 0.31 $ 0.36 Diluted $ 0.31 $ 0.36 (1) We estimate the tax effect of the items identified to determine a non-GAAP annual effective tax rate applied to the pre-tax amount in order to calculate the non-GAAP provision for income taxes a) Severance expenses associated with accrued compensation and severance related to the elimination of the Chief Operating Officer position and the departure of the Chief Executive Officer b) Final settlement of working capital adjustment associated with Greenwald sale 22 Table of Contents Reconciliation of Non-GAAP Measures Adjusted EBITDA Calculation For the Three Months ended March 30, 2024 and April 1, 2023 ($000's) Three Months Ended March 30, 2024 April 1, 2023 Net income as reported per generally accepted accounting principles (GAAP) $ 1,948 $ 607 Interest expense 845 726 Provision for income taxes 555 195 Depreciation and amortization 1,876 1,815 Severance and accrued compensation - 1,799 a Greenwald final sale adjustment - 390 b Adjusted EBITDA $ 5,224 $ 5,532 a) Severance expenses associated with accrued compensation and severance related to the elimination of the Chief Operating Officer position and the departure of the Chief Executive Officer b) Final settlement of working capital adjustment associated with Greenwald sale 23 Table of Contents 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 information under this Item 3.