LAKELAND INDUSTRIES INC 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Statements The following discussion and analysis should be read in conjunction with the historical financial statements and other financial information included elsewhere in this quarterly report on Form 10-Q. This Form 10-Q may contain certain forward-looking statements. When used in this Form 10-Q or in any other presentation, statements which are not historical in nature, including the words “anticipate,” “estimate,” “should,” “expect,” “believe,” “intend,” “project”, “plan,” “seek,” “will,” “may,” “might,” “would,” “could” and similar expressions, are intended to identify forward-looking statements. They also include statements containing a projection of sales, earnings or losses, capital expenditures, dividends, capital structure or other financial terms. The forward-looking statements in this Form 10-Q are based upon our management’s beliefs, assumptions and expectations of our future operations and economic performance, taking into account the information currently available to us. These statements are not statements of fact. Forward-looking statements involve risks and uncertainties, some of which are not currently known to us that may cause our actual results, performance or financial condition to be materially different from the expectations of future results, performance or financial condition we express or imply in any forward-looking statements. Some of the important factors that could cause our actual results, performance or financial condition to differ materially from expectations are: · we are subject to risk as a result of our international manufacturing operations and are subject to the risk of doing business in foreign countries, particularly in China and Vietnam, which could affect our ability to manufacture or sell our products, obtain products from foreign suppliers or control the costs of our products; · we identified a material weakness in our internal control over accounting for foreign currency exchange and foreign currency translation and remeasurement related to our international subsidiaries that could adversely affect our results of operations, our stock price and investor confidence in our Company; · a terrorist attack, other geopolitical crisis, or widespread outbreak of an illness or other health issue, such as the COVID-19 pandemic, could negatively impact our domestic and/or international operations; · our results of operations could be negatively affected by potential fluctuations in foreign currency exchange rates; · the implementation of our Enterprise Resource Planning ("ERP") system had, and may in the future as we implement ERP into foreign operations have, an adverse effect on operating results; · we have manufacturing and other operations in China which may be adversely affected by tariff wars and other trade maneuvers; · our results of operations may vary widely from quarter to quarter; · disruption in our supply chain, manufacturing or distribution operations could adversely affect our business; · climate change and other sustainability matters may adversely affect our business and operations; · some of our sales are to foreign buyers, which exposes us to additional risks; · we deal in countries where corruption is an obstacle; · we are exposed to U.S. and foreign tax risks; · because we do not have long-term commitments from many of our customers, we must estimate customer demand, and errors in our estimates could negatively impact our inventory levels and net sales; · we face competition from other companies, a number of which have substantially greater resources than we do; · our operations are substantially dependent upon key personnel; · cybersecurity incidents could disrupt business operations, result in the loss of critical and confidential information and adversely impact our reputation and results of operations; · we may be subject to product liability claims, and insurance coverage could be inadequate or unavailable to cover these claims; · environmental laws and regulations may subject us to significant liabilities; · provisions in our restated certificate of incorporation and by-laws and Delaware law could make a merger, tender offer or proxy contest difficult; · we may not achieve the expected benefits from strategic acquisitions, investments, joint ventures, capital investments and other corporate transactions that we have pursued or may pursue; · we may need additional funds, and if we are unable to obtain these funds, we may not be able to expand or operate our business as planned; · adverse developments affecting the financial services industry, including events or concerns involving liquidity, defaults or non-performance by financial institutions or transactional counterparties, could adversely affect our business, financial condition or results of operations; · rapid technological change could negatively affect sales of our products, inventory levels and our performance; and, · the other factors referenced in this Form 10-Q, including, without limitation, in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the factors described under “Risk Factors” disclosed in our fiscal 2023 Form 10-K. 17 Table of Contents We believe these forward-looking statements are reasonable; however, you should not place undue reliance on any forward-looking statements which are based on current expectations. Furthermore, forward-looking statements speak only as of the date they are made. We undertake no obligation to publicly update or revise any forward-looking statements after the date of this Form 10-Q, whether as a result of new information, future events or otherwise, except as may be required by law. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this Form 10-Q might not occur. We qualify any and all of our forward-looking statements entirely by these cautionary factors. Business Overview We manufacture and sell a comprehensive line of industrial protective clothing and accessories for the industrial and public protective clothing market. Our products are sold globally by our in-house sales teams, our customer service group, and authorized independent sales representatives to a network of over 1,600 global safety and industrial supply distributors. Our authorized distributors supply end users, such as integrated oil, chemical/petrochemical, automobile, steel, glass, construction, smelting, cleanroom, janitorial, pharmaceutical, and high technology electronics manufacturers, as well as scientific, medical laboratories and the utilities industry. In addition, we supply federal, state and local governmental agencies and departments, such as fire and law enforcement, airport crash rescue units, the Department of Defense, the Department of Homeland Security and the Centers for Disease Control. Internationally, we sell to a mixture of end users directly and to industrial distributors depending on the particular country and market. In addition to the United States, sales are made to more than 50 foreign countries, the majority of which were in China, the European Economic Community (“EEC”), Canada, Chile, Argentina, Russia, Kazakhstan, Colombia, Mexico, Ecuador, India, Middle East and Southeast Asia. We have operated facilities in Mexico since 1995 and in China since 1996. Beginning in 1995, we moved the labor-intensive sewing operation for our limited use/disposable protective clothing lines to these facilities. Our facilities and capabilities in China and Mexico allow access to a less expensive labor pool than is available in the United States and permit us to purchase certain raw materials at a lower cost than they are available domestically. During Q1 FY24, the Company was impacted by tariff costs on certain products imported from China. The Company has been able to pass along a portion of these costs to its customers. We added manufacturing operations in Vietnam and India to offset increasing manufacturing costs in China and further diversify our manufacturing capabilities. Our China operations will continue primarily manufacturing for the Chinese market and other markets where duty advantages exist. The Company is adding a new manufacturing facility in Monterrey, Mexico that we expect to be operational in the second half of FY 24. This new capacity will help shorten delivery times for the North American markets. Manufacturing expansion is not only necessary to control rising costs, but also for Lakeland to achieve its growth objectives. On December 2, 2022, the Company acquired UK-based Eagle Technical Products Limited (“Eagle”) in an all-cash transaction valued at approximately $10.5 million, subject to post-closing adjustments and potential future earnout payments. The acquisition enhances Lakeland’s product portfolio, particularly within fire service protective clothing and expands its sales presence in the Middle East and Europe. Our net sales attributable to customers outside the United States were $16.4 million and $16.0 million for the three months ended April 30, 2023 and 2022, respectively. We are continually monitoring the potential financial impact of the Russian invasion of Ukraine on our operations. For the three months ended April 30, 2023, sales in Russia were approximately 4.4% of our consolidated sales and sales into Ukraine were not significant. We do not have any capital assets in Russia. 18 Table of Contents Results of Operations Three Months ended April 30, 2023, Compared to the Three Months Ended April 30, 2022 Net Sales. Net sales were $28.7 million for the three months ended April 30, 2023, an increase of $1.4 million or 5.2% compared to $27.3 million for the three months ended April 30, 2022. Sales of our Fire product line increased $2.8 million due to $2.0 million in sales from Eagle and $.8 million growth in the product line. We also saw strength in the Woven product line with an increase of $0.8 million, primarily in the international market. The increases were partially offset by $2.2 million in reduced sales in our Disposable product line, primarily in China as the impact of COVID-19 lockdowns waned early in the prior fiscal year and other challenges in our Asian markets. Foreign exchange currency translations negatively impacted sales by approximately $0.3 million in the first quarter of fiscal year 2024 due primarily to the strengthening of the U.S. dollar against the Chinese yuan, compared to negative impact of $0.3 million in the prior year period. Gross Profit. Gross profit for the three months ended April 30, 2023 was $12.4 million, an increase of $1.3 million, or 12.6%, compared to $11.1 million for the three months ended April 30, 2022. Gross profit as a percentage of net sales increased to 43.4% for the three-month period ended April 30, 2023, from 40.5% for the three months ended April 30, 2022. Gross profit performance improved in the three months ended April 30, 2023 due to a better product mix with the reduction in Disposable sales and increases in our higher - value products lines and a continued focus on cost savings. Freight costs declined significantly compared to the prior year, further improving margins. Operating Expense . Operating expenses increased by $0.9 million, or 9.3%, from $9.6 million for the three months ended April 30, 2022 to $10.5 million for the three months ended April 30, 2023. This increase is attributable to increases in severance expenses and currency fluctuations, travel and trade show expenses, and professional fees. Currency fluctuations accounted for $0.3 million of the increases due primarily to the fluctuation in the Argentine peso. During the quarter ended April 30, 2023, the Company evaluated the earnout consideration accrual related to the Eagle acquisition and reduced the accrual by $0.5 million, which was recorded as a reduction in operating expenses. Operating expenses as a percentage of net sales was 36.6% for the three months ended April 30, 2023, up from 35.2% for the three months ended April 30, 2022, primarily due to the factors noted above. Operating Profit . Operating profit increased to $1.9 million for the three months ended April 30, 2023 from $1.4 million for the three months ended April 30, 2022, due to the impacts detailed above. Operating margins were 6.8% for the three months ended April 30, 2023, as compared to 5.3% for the three months ended April 30, 2022. Income Tax Expense . Income tax expense consists of federal, state and foreign income taxes. Income tax expense was $0.5 million for the three months ended April 30, 2023, compared to $0.3 million for the three months ended April 30, 2022. The increase is due to the increase in pre-tax income. The Company's effective tax rate for the first quarter of FY24 was 29.1%, which differs from the U.S. federal statutory rate of 21% primarily due to rate differentials in foreign tax jurisdictions and GILTI. The Company's effective tax rate for the first quarter of FY23 was 20.2%. The Company recorded deferred tax benefits of $0.2 million related to accruals for China social taxes based on our evaluation of the deductibility of these items. Excluding this discrete benefit, the effective rate was 32.9% which differs from the U.S. federal statutory rate of 21% primarily due to rate differentials in foreign tax jurisdictions and GILTI. Net Income. Net income increased by $0.2 million to $1.3 million for the three months ended April 30, 2023 from $1.1 million for the three months ended April 30, 2022. Significant Balance Sheet Fluctuation April 30, 2023 , Compared to January 31, 2023 Cash increased by $1.4 million due to cash provided by operating activities of $3.7 million for the three months ended April 30, 2023, primarily due to net income of $1.3 million, non-cash activity of $0.5 million for depreciation and amortization, stock compensation, equity in loss of equity investment and revaluation of the Eagle acquisition earnout accrual, and a net reduction in working capital of $1.8 million due to collection of accounts receivable, increases in accounts payable and customer advances offset by increases in prepayments for inventory and other prepaid expenses. Capital expenditures were $0.7 million for the three months ended April 30, 2023, primarily for capital equipment for the Company’s new manufacturing facility in Monterrey, Mexico, that is scheduled to open in the second half of the current year. Net cash used in financing activities was $1.2 million for the three months ended April 30, 2023, due to $0.3 million in shares repurchased, dividends of $0.2 million, repayment of short-term borrowings of $0.2 million and $0.3 million in shares returned to pay income taxes on shares vested under our equity compensation program. 19 Table of Contents Liquidity and Capital Resources At April 30, 2023, cash and cash equivalents were approximately $26.0 million, and working capital was approximately $87.5 million. Cash and cash equivalents increased $1.4 million, and working capital increased $0.5 million from January 31, 2023 due to the balance sheet fluctuations described above. Of the Company’s total cash and cash equivalents of $26.0 million as of April 30, 2023, cash held in Latin America of $2.6 million, cash held in the UK of $2.6 million, cash held in Russia and Kazakhstan of $1.1 million, , cash held in India of $0.8 million, cash held in Vietnam of $0.5 million, and cash held in Hong Kong of $0.1 million would not be subject to additional US tax in the event such cash was repatriated due to the change in the US tax law as a result of the December 22, 2017 enactment of the 2017 Tax Cuts and Jobs Act (the “Tax Act”). When the Company repatriates cash from China, of the $15.5 million balance at April 30, 2023, there could be an additional 10% withholding tax incurred in that country. The Company expects to repatriate cash from China during FY 24 and in anticipation of doing so, has accrued withholding tax expense of $0.8 million as of April 30, 2023. Net cash provided by operating activities of $3.7 million for the three months ended April 30, 2023 was primarily due to an increase in current liabilities of $3.0 million, net income of $1.3 million, non-cash expenses of $0.5 million for deferred taxes, depreciation and amortization, stock compensation, equity in loss of equity investment and revaluation of the Eagle acquisition earnout accrual, partially offset by an increase in current assets of $1.2 million. Net cash used in investing activities of $0.7 million for the three months ended April 30, 2023 reflects capital purchases for the new manufacturing facility in Monterrey, Mexico scheduled to open in the second half of this year. Net cash used in financing activities was $1.2 million for the three months ended April 30, 2023, due to $0.3 million in shares repurchased, dividends of $0.2 million, repayment of short-term borrowings of $0.2 million and $0.3 million in shares returned to pay income taxes on shares vested under our equity compensation program. On December 2, 2022, the Company acquired Eagle in an all-cash transaction valued at approximately $10.5 million, subject to post-closing adjustments and potential future earnout payments. The acquisition enhances Lakeland’s product portfolio, particularly within fire service protective clothing and expands its sales presence in the Middle East and Europe. We believe our current cash, cash equivalents, borrowing capacity under our Loan Agreement, and the cash to be generated from expected product sales will be sufficient to meet our projected operating and investing requirements (including planned capital expenditures) for at least the next twelve months. However, our liquidity assumptions may prove to be incorrect, and we could utilize our available financial resources sooner than we currently expect. On June 25, 2020, we entered into a Loan Agreement with Bank of America (“Lender”). The Loan Agreement, as amended to date (the “Loan Agreement”), provides the Company with a secured $25.0 million revolving credit facility, which includes a $5.0 million letter of credit sub-facility. The Company may request from time to time an increase in the revolving credit loan commitment of up to $5.0 million (for a total commitment of up to $30.0 million). Borrowing pursuant to the revolving credit facility is subject to a borrowing base amount calculated as (a) 80% of eligible accounts receivable, as defined, plus (b) 50% of the value of acceptable inventory, as defined, minus (c) certain reserves as the Lender may establish for the amount of estimated exposure, as reasonably determined by the Lender from time to time, under certain interest rate swap contracts. The borrowing base limitation only applies during periods when the Company’s quarterly funded debt to EBITDA ratio, as defined, exceeds 2.00 to 1.00. The Loan Agreement permits, without the prior consent of the Lender, acquisitions of a business or its assets by the Company or its subsidiaries if there is no default under the Loan Agreement and the aggregate consideration does not exceed $7.5 million for any individual acquisition or $15.0 million on a cumulative basis for all such acquisitions. The credit facility will mature on June 25, 2025. Per the terms of the Loan Agreement, borrowings under the revolving credit facility bear interest at a rate per annum equal to the sum of the one-month LIBOR Daily Floating Rate (“LIBOR”) plus 125 basis points. LIBOR is subject to a floor of 100 basis points. On March 3, 2023, the Company changed the benchmark interest rate in our credit facility from LIBOR to the Secured Overnight Financing Rate (“SOFR”). All outstanding principal and unpaid accrued interest under the revolving credit facility is due and payable on the maturity date. On a one-time basis, and subject to there not existing an event of default, the Company may elect to convert up to $5.0 million of the then outstanding principal of the revolving credit facility to a term loan facility with an assumed amortization of 15 years and the same interest rate and maturity date as the revolving credit facility. The Loan Agreement provides for an annual unused line of credit commitment fee, payable quarterly, of 0.25%, based on the difference between the total credit line commitment and the average daily amount of credit outstanding under the facility during the preceding quarter. 20 Table of Contents The Loan Agreement requires the Company to maintain a Funded Debt to EBITDA (as each such term is defined in the Loan Agreement) ratio of 3.0 to 1.0 or less and a Basic Fixed Charge Coverage Ratio (as defined in the Loan Agreement) of at least 1.15 to 1.0. The Loan Agreement also contains customary covenants, including covenants that, among other things, limit or restrict the Company’s and/or the Company’s subsidiaries’ ability, subject to certain exceptions and qualifications, to incur liens or indebtedness, pay dividends, or merge, consolidate or sell or otherwise transfer assets. The Company was in compliance with all of its debt covenants as of April 30, 2023. Stock Repurchase Program. On February 17, 2021, the Company’s Board of Directors approved a stock repurchase program under which the Company may repurchase up to $5 million of its outstanding common stock. On July 6, 2021, the Board of Directors authorized an increase in the Company’s stock repurchase program, under which the Company may repurchase up to an additional $5 million of its outstanding common stock. On April 7, 2022, the Board of Directors authorized a new stock repurchase program under which the Company may repurchase up to $5 million of its outstanding common stock, which became effective upon the completion of the prior share repurchase program. On December 1, 2022, the Board of Directors authorized an increase in the Company’s stock repurchase program, under which the Company may repurchase up to an additional $5 million of its outstanding common stock. Shares repurchased in the three months ended April 30, 2023 totaled 22,814 shares at a cost of $0.3 million, leaving $5.1 million remaining under the share repurchase program at April 30, 2023. The share repurchase program has no expiration date but may be terminated by the Board of Directors at any time. On February 1, 2023, the Board of Directors declared a quarterly cash dividend as part of initiating a recurring quarterly dividend program. The initial quarterly dividend of $0.03 per share was paid on February 22, 2023, to stockholders of record as of February 15, 2023. On May 1, 2023, the Board of Directors declared a quarterly cash dividend. The quarterly dividend of $0.03 per share was paid on May 22, 2023, to stockholders of record as of May 15, 2023. Capital Expenditures. Our capital expenditures for the three months ended April 30, 2023 of $0.7 million principally relate to capital purchases for our new manufacturing facilities in Monterrey, Mexico, scheduled to open in the second half of this fiscal year. We anticipate FY24 capital expenditures to be approximately $3.0 million as we invest in strategic capacity expansion and replace existing equipment in the normal course of operations. We expect to fund the capital expenditures from our cash flow from operations. The Company may also expend funds in connection with potential acquisitions. Critical Accounting Policies and Estimates The preparation of financial statements in accordance with U.S. GAAP requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. A summary of our significant accounting policies is included in Note 1 to our consolidated financial statements in our fiscal year 2023 Form 10-K. Certain of our accounting policies are considered critical, as these policies are the most important to the depiction of our financial statements and require significant, difficult, or complex judgments, often employing the use of estimates about the effects of matters that are inherently uncertain. Such policies are summarized in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section in our 2023 Form 10-K. There have been no significant changes in the application of our critical accounting policies during the three months ended April 30, 2023. Item 3. Quantitative and Qualitative Disclosures About Market Risk A smaller reporting company is not required to provide the information required by this Item, and therefore, no disclosure is required under Item 3 for the Company. 21 Table of Contents