INTERFACE INC 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Our discussions below in this Item 2 are based upon the more detailed discussions about our business, operations and financial condition included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2023, under Part II, Item 7 of that Form 10-K. Our discussions here focus on our results during the quarter ended March 31, 2024, or as of, March 31, 2024, and the comparable periods of 2023, and to the extent applicable, any material changes from the information discussed in that Form 10-K or other important intervening developments or information since that time. These discussions should be read in conjunction with that Form 10-K for more detailed and background information. The three-month periods ended March 31, 2024 and April 2, 2023 both include 13 weeks. Forward-Looking Statements This report contains statements which may constitute “forward-looking statements” within the meaning of the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended by the Private Securities Litigation Reform Act of 1995. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements include risks and uncertainties associated with the economic conditions in the commercial interiors industry as well as the risks and uncertainties discussed under the heading “Risk Factors” included in Part I, Item 1A of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2023. The Company undertakes no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time. 26 Table of Contents Executive Overview During the quarter ended March 31, 2024, we had consolidated net sales of $289.7 million, down 2.0% compared to $295.8 million in the first quarter last year, primarily due to decreased customer demand — particularly in the corporate office and retail market segments. These decreases were partially offset by higher sales in the education market segment. Consolidated operating income was $24.4 million for the first quarter of 2024, compared to $9.5 million in the first quarter last year, primarily due to higher gross profit margin as a result of lower raw material and freight costs. Consolidated net income for the quarter ended March 31, 2024, was $14.2 million or $0.24 per share, compared to consolidated net loss of $0.7 million or $0.01 per share in the first quarter last year. Cybersecurity Event As previously disclosed in our current report on Form 8-K filed with the Commission on November 23, 2022, we discovered a cybersecurity attack on November 20, 2022, perpetrated by unauthorized third parties, affecting our IT systems. The investigation of the Cyber Event was completed in fiscal year 2023. We have cyber risk insurance and anticipate that a portion of our costs and expenses related to the Cyber Event will ultimately be recovered by insurance. Our IT systems face a myriad of cybersecurity threats, including, without limitation, hacking, computer viruses, denial of service attacks, malware, ransomware, phishing scams, compromised or irretrievable backups, and other cyber attacks. Any of these events which deny us use of vital IT systems may seriously disrupt our normal business operations and lead to production or shipping stoppages, revenue loss, and reputational harm. We also expect to incur ongoing costs for enhanced data security against unauthorized access to, or manipulation of, our systems and data. Impact of Macroeconomic Trends Recent disruptions in economic markets due to persistent inflation, high interest rates, the Russia-Ukraine war and the Israel-Hamas war, a fairly stabilized but still challenging supply chain environment, slow market conditions in parts of Asia, and significant financial pressures in the commercial office market globally, all pose challenges which may adversely affect our future performance . To mitigate these impacts, we plan to continue evaluating our cost structure and global manufacturing footprint to identify and activate opportunities to decrease costs and optimize our global cost structure. 27 Table of Contents Analysis of Results of Operations Consolidated Results The following table presents, as a percentage of net sales, certain items included in our consolidated condensed statements of operations for the three-month periods ended March 31, 2024 and April 2, 2023: Three Months Ended March 31, 2024 April 2, 2023 Net sales 100.0 % 100.0 % Cost of sales 61.9 67.6 Gross profit 38.1 32.4 Selling, general and administrative expenses 29.7 29.2 Restructuring, asset impairment and other charges — 0.0 Operating income 8.4 3.2 Interest/Other (income) expense, net 1.9 3.4 Income (loss) before income tax expense 6.5 (0.2) Income tax expense 1.7 0.1 Net income (loss) 4.8 % (0.3) % Consolidated Net Sales Below is information regarding our consolidated net sales, and analysis of those results, for the three-month periods ended March 31, 2024, and April 2, 2023: Three Months Ended Percentage Change March 31, 2024 April 2, 2023 (in thousands) Consolidated net sales $ 289,743 $ 295,792 (2.0) % For the quarter ended March 31, 2024, consolidated net sales decreased $6.0 million (2.0%) versus the comparable period in 2023, primarily due to lower sales volumes (approximately 4%) partially offset by higher prices (approximately 2%). Currency fluctuations had no material impact on consolidated net sales for the first quarter of 2024 compared to the same period last year. On a market segment basis, the sales decrease was primarily in the corporate office, retail, healthcare and hospitality market segments, partially offset by higher sales in the education and residential living market segments. Consolidated Cost and Expenses The following table presents our consolidated cost of sales and selling, general and administrative expenses for the three-month periods ended March 31, 2024, and April 2, 2023: Three Months Ended Percentage Change March 31, 2024 April 2, 2023 (in thousands) Consolidated cost of sales $ 179,338 $ 199,919 (10.3) % Consolidated selling, general and administrative expenses 85,959 86,254 (0.3) % Consolidated Cost of Sales For the quarter ended March 31, 2024, consolidated cost of sales decreased $20.6 million (10.3%) compared to the first quarter of 2023, primarily due to lower raw material costs and lower sales. Currency translation had no material impact to consolidated cost of sales compared to the same period last year. As a percentage of net sales, our cost of sales decreased to 61.9% for the first quarter of 2024 versus 67.6% for the first quarter of 2023. 28 Table of Contents Consolidated Gross Profit For the quarter ended March 31, 2024, consolidated gross profit, as a percentage of net sales, was 38.1% compared with 32.4% in the same period last year. The increase in gross profit percentage was primarily due to (i) lower raw material and freight costs (approximately 3%), (ii) favorable product mix and other (approximately 2%), and (iii) higher sales pricing (approximately 1%). Consolidated Selling, General and Administrative (“SG&A”) Expenses For the quarter ended March 31, 2024, consolidated SG&A expenses decreased $0.3 million (0.3%) versus the comparable period in 2023. Currency translation had no material impact on consolidated SG&A expenses in the first quarter of 2024 compared to the same period last year. SG&A expenses were lower for the first quarter of 2024 primarily due to (i) $2.0 million of lower severance costs driven by employee headcount reduction and cost saving initiatives in the prior year period, (ii) $1.0 million of lower selling expenses, and (iii) $0.9 million of lower Cyber Event costs due to completion of the investigation in the prior year as well as insurance recoveries in the current period. These decreases were mostly offset by $2.2 million of higher labor and variable compensation costs and $1.4 million of higher software license fees. As a percentage of net sales, SG&A expenses increased to 29.7% for the first quarter of 2024 versus 29.2% for the first quarter of 2023. Interest Expense During the quarter ended March 31, 2024, interest expense was $6.4 million, a decrease of $2.1 million from the comparable period in 2023, primarily due to lower outstanding term loan borrowings under the Facility. 29 Table of Contents Segment Operating Results During the first quarter of 2024, the Company implemented a cost center realignment initiative to centralize certain global/shared functions. For the quarter ended March 31, 2024, SG&A expenses for these global support functions were allocated to AOI for each reportable segment consistent with the allocation methodology used to allocate corporate overhead in prior periods. Prior year AOI amounts below were not recast as there was no material impact to the measure of segment profit for each reportable segment. There were no changes to the composition of the Company’s operating or reportable segments. AMS Segment – Net Sales and Adjusted Operating Income (“AOI”) The following table presents AMS segment net sales and AOI for the three-month periods ended March 31, 2024, and April 2, 2023: Three Months Ended Percentage Change March 31, 2024 April 2, 2023 (in thousands) AMS segment net sales $ 169,915 $ 169,241 0.4 % AMS segment AOI (1) 18,080 11,269 60.4 % (1) Includes allocation of corporate SG&A expenses and allocation of global support SG&A expenses as discussed above. Excludes Cyber Event impact, property casualty loss, and restructuring, asset impairment, severance, and other, net. See Note 10 entitled “Segment Information” of Part I, Item 1 of this Quarterly Report on Form 10-Q for additional information. During the first quarter of 2024, net sales in AMS increased 0.4% versus the comparable period in 2023 primarily due to higher sales prices partially offset by lower volume. On a market segment basis, the AMS sales increase was primarily in the education, residential living, and public buildings market segments, partially offset by decreases in the corporate office, retail and healthcare market segments. AOI in AMS increased 60.4% during the first quarter of 2024 compared to the prior year period primarily due to higher sales pricing and lower raw material and freight costs compared to the same period last year. During the first quarter of 2023, AOI in AMS was adversely impacted by inflation and higher input costs. As a percentage of net sales, AOI increased to 10.6% during the first quarter of 2024 compared to 6.7% in the same period last year. EAAA Segment – Net Sales and AOI The following table presents EAAA segment net sales and AOI for the three-month periods ended March 31, 2024, and April 2, 2023: Three Months Ended Percentage Change March 31, 2024 April 2, 2023 (in thousands) EAAA segment net sales $ 119,828 $ 126,551 (5.3) % EAAA segment AOI (1) 7,445 3,929 89.5 % (1) Includes allocation of corporate SG&A expenses and allocation of global support SG&A expenses as discussed above. Excludes purchase accounting amortization, Cyber Event impact, and restructuring, asset impairment, severance and other, net. See Note 10 entitled “Segment Information” of Part I, Item 1 of this Quarterly Report on Form 10-Q for additional information. During the first quarter of 2024, net sales in EAAA decreased 5.3% versus the comparable period in 2023, primarily due to lower sales volume. Currency fluctuations had no material impact on EAAA sales for the first quarter 2024 compared to the same period last year. On a market segment basis, the EAAA sales decrease was most significant in the education, public buildings, and corporate office market segments. 30 Table of Contents AOI in EAAA increased 89.5% during the first quarter of 2024 versus the comparable period in 2023, primarily due to lower raw material costs compared to the same period last year. During the first quarter of 2023, AOI in EAAA was adversely impacted by inflation and higher input costs. Currency fluctuations had no material impact on AOI for the first quarter of 2024 compared to the first quarter last year. As a percentage of net sales, AOI increased to 6.2% during the first quarter of 2024 compared to 3.1% in the same period last year. Financial Condition, Liquidity and Capital Resources General At March 31, 2024, the Company had $89.8 million in cash. At that date, the Company had $96.0 million in term loan borrowings, no revolving loan borrowings, and $1.6 million in letters of credit outstanding under our Facility, and we had $300.0 million of Senior Notes outstanding. As of March 31, 2024, we had additional borrowing capacity of $298.4 million under the Facility. We anticipate that our liquidity is sufficient to meet our obligations for the next 12 months, and we expect to generate sufficient cash to meet our long-term obligations. The Senior Notes are unsecured and are guaranteed, jointly and severally, by each of the Company’s material domestic subsidiaries, all of which also guarantee the obligations of the Company under its Facility. The Company’s foreign subsidiaries and certain non-material domestic subsidiaries are considered non-guarantors. Net sales for the non-guarantor subsidiaries were approximately $133 million and $141 million for the three-month periods ended March 31, 2024 and April 2, 2023, respectively. Total indebtedness of the non-guarantor subsidiaries was approximately $128 million and $133 million as of March 31, 2024 and December 31, 2023, respectively. Balance Sheet Accounts receivable, net, were $147.2 million at March 31, 2024, compared to $163.4 million at December 31, 2023. The decrease of $16.2 million was primarily due to customer collections and the impact of lower net sales as a result of decreased customer demand in the first quarter of 2024. Inventories, net, were $296.3 million at March 31, 2024, compared to $279.1 million at December 31, 2023. The increase of $17.2 million was primarily due to finished goods inventory build attributable to expected higher customer demand in the remainder of 2024, partially offset by lower raw material costs. Analysis of Cash Flows The following table presents a summary of cash flows for the three-month periods ended March 31, 2024 and April 2, 2023, respectively: Three Months Ended March 31, 2024 April 2, 2023 (in thousands) Net cash provided by (used in): Operating activities $ 12,619 $ 29,584 Investing activities (1,993) (5,712) Financing activities (29,776) (21,035) Effect of exchange rate changes on cash (1,574) 872 Net change in cash and cash equivalents (20,724) 3,709 Cash and cash equivalents at beginning of period 110,498 97,564 Cash and cash equivalents at end of period $ 89,774 $ 101,273 31 Table of Contents Cash provided by operating activities was $12.6 million for the three months ended March 31, 2024, which represents a decrease of $17.0 million from the prior year comparable period. The decrease was primarily due to changes in working capital during the first three months of 2024 compared with the first three months of 2023. Specifically, the prior year comparable period includes a greater source of cash from accounts receivable collections compared with the first three months of 2024, primarily attributable to delays in customer billings from the Cyber Event, in which those delayed billings were collected in the first quarter of 2023. Additionally, the increase in inventories during the first three months of 2024, as described above, resulted in a greater use of cash compared with the same period in the prior year. Cash used in investing activities was $2.0 million for the three months ended March 31, 2024, which represents a decrease of $3.7 million from the prior year comparable period. The decrease was primarily attributable to cash proceeds received from the sale of manufacturing equipment and insurance proceeds for property casualty losses, both of which partially offset cash used for capital expenditures during the three months ended March 31, 2024. Cash used in financing activities was $29.8 million for the three months ended March 31, 2024, which represents an increase of $8.7 million from the prior year comparable period. The year-over-year increase was primarily due to lower revolving loan borrowings combined with higher repayments of term loan borrowings during the three months ended March 31, 2024. Outlook We anticipate revenue growth in the second quarter of fiscal year 2024 compared with the first quarter of 2024. During the first half of fiscal year 2024, the Company also expects continued year-over-year decreases in the cost per unit of various raw material purchases which will benefit gross profit margins in 2024. We also anticipate that the continued slow macro environment in China, high interest rates, and significant financial pressures in the commercial office market globally will continue to adversely impact our performance and demand for our products. Cash flows from operations, cash and cash equivalents, and other sources of liquidity are expected to be available and sufficient to meet foreseeable cash requirements. However, the Company’s cash flows from operations can be affected by numerous factors including raw material availability and cost, and demand for our products. Backlog As of April 21, 2024, the consolidated backlog of unshipped orders was approximately $224.3 million. As disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2023, backlog was approximately $195.5 million as of February 4, 2024. Disruptions in supply and distribution chains have resulted in delays of construction projects and flooring installations in many regions worldwide, which have also caused, and may continue to cause, fluctuations in our backlog. 32 Table of Contents