VIRCO MFG CORPORATION 10-Q

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Results of Operations Overview The results of operations for the three-month period ended April 30, 2023 and the comparable period ended April 30, 2022 have been impacted by economic conditions driven by the COVID-19 pandemic, global supply chain disruptions and global conflict. The impact of the supply chain disruptions were much less severe during the current year compared to the prior year. Typically, the Company has an exceptionally seasonal annual cycle where approximately 50% of sales occur in the months of June, July and August. Orders received from customers follow a similar seasonal cycle, with the bulk of orders arriving approximately 4-6 weeks preceding the selling season. For the three-month period ended April 30, 2023, management believes that the traditional seasonal cycle and the Company’s ability to service that seasonal cycle has returned to normal. During the three-month period ended April 30, 2023 the Company experienced a 10.4% increase in orders compared to the same period last year. In addition, the Company started the year with a backlog of unshipped sales orders that was nearly $18 million higher than the prior year. On April 30, 2023 the Company’s backlog of unshipped sales orders was approximately $104.6 million compared to $85.7 million on April 30, 2022. The Company believes that a significant majority of the sales order backlog will be delivered during June, July, and August of the current year. As discussed in the Risk Factors section of the Company’s Form 10-K for the fiscal year ended January 31, 2023, the Company utilizes one nationwide contract to price a significant portion of our orders. This contract/price list determines selling prices for goods and services for periods of one year and occasionally longer. Due to the current volatile nature of commodity and energy prices in addition to general inflation, the Company has negotiated the ability to increase prices for orders received after July 1 of each contract year in addition to the annual January 1price increase. There is typically a several months' time lag between raising prices on orders and realizing the increase in sales revenue. Sales for the first quarter ended April 30, 2022 consisted substantially of orders received prior to the January 1, 2022 price increase, causing gross margin of sales during that quarter to be lower than desirable. Sales of the quarter ended April 30, 2023 benefited from the effect of two price increases, one each at January 1, 2022 and July 1, 2022. The cumulative impact of the two price increases favorably impacted operating results for the three months ended April 30, 2023. Although conditions have improved compared to the prior year, financing challenges resulting from the recent bank failures and credit tightening and supply chain disruptions from international sources – primarily China – continue to adversely affect operations and the competitive landscape. Because the Company has maintained its domestic factories, management believes that the Company will be less vulnerable to international supply chain disruption compared to competitors that source finished goods overseas, but the Company will still be affected by these international events. Virco does not deliver furniture to new schools until the customer has an occupancy certificate. Supply chain disruptions in the construction industry which may delay the completion of new schools did not significantly impact sales volume during the quarter ended April 30, 2023, but may impact the timing of sales during the balance of the year, possibly causing deliveries of furniture scheduled for the second quarter ending July 31, 2023 to occur in the subsequent quarter. Three Months Ended April 30, 2023 For the three months ended April 30, 2023, the Company incurred a pre-tax loss of $1,886,000 on sales of $34,943,000 compared to a pre-tax loss of $5,366,000 on sales of $32,084,000 in the prior year. Sales increased by approximately $2,859,000 or 8.9%, compared to the same prior year period. The increase was attributable to an increase in beginning of year sales backlog, increased first quarter orders, and increased selling prices. Gross margin for the quarter ended April 30, 2023 was 37.8% of sales compared to 30.3% in the prior year. In order to recover the increased cost of materials and labor incurred in the fiscal year ended January 31, 2022, the Company raised prices for all orders received after January 1, 2022. The impact of the price increase did not fully affect sales for the quarter ended April 30, 2022. The three-month period ended April 30, 2023 benefited from the cumulative effect of price increases implemented January 1, 2022 and July 1, 2022, returning margins to profitable full year levels. Selling, general and administrative expenses (SG&A) for the three months ended April 30, 2023 increased by approximately $63,000 compared to the same period last year, but decreased as a percentage of sales to 41.5% compared to 45.0% in the prior year. The increase in selling, general and administrative expenses was attributable in part to increased variable freight and 17 service expense and by increased variable selling expenses. Because a significant portion of general and administrative expenses do not fluctuate with sales volume, SG&A declined as a percentage of sales. During the fiscal year ended January 31, 2023 the Company purchased equity securities held in a Rabbi Trust to fund benefits under the VIP Pension Plan. The Company benefited from $299,000 of unrealized gains during the three months ended April 30, 2023. The primary component of pension expense relates to the amortization of AOCI. In the year ended January 31, 2022, the Company benefited from favorable investment returns on Plan assets and reduced measurement of benefit obligations due to increased discount rates, both of which favorably impacted AOCI. Because beginning of the year AOCI was low for the three-month periods ended April 30, 2023 and 2022, the quarterly amortization of AOCI was reduced compared to prior years. Interest expense increased by $285,000 for the three months ended April 30, 2023 compared to the same period last year. The increase was primarily attributable to an increase in the amount borrowed to finance seasonal working capital and an increase in the interest rate. For the three months ended April 30, 2023 and 2022, the effective income tax rates were 23.5% and 5.3%, respectively. The change in effective tax rates for the three months ended April 30, 2023 was primarily due to the change in forecasted mix of income before federal and state income taxes and estimated permanent differences. The lower effective tax rate in prior year was due primarily to the recording of a valuation allowance needed for federal deferred tax assets and certain state net operating loss carryforwards. Liquidity and Capital Resources The market for education furniture is extremely seasonal and approximately 50% of the Company's annual sales volume is shipped in the months of June through August of each year. The Company traditionally manufactures large quantities of inventory during the first and second quarters of each fiscal year in anticipation of seasonally high summer shipments. In addition, the Company finances a large balance of accounts receivable during the peak season. As discussed above, during the fiscal year ended January 31, 2022, the Company experienced severe supply chain disruptions and labor availability and delivered orders later in the year. In the fiscal year ended January 31, 2023, the supply chain disruptions abated and the Company started to return to the more traditional seasonal cycle. The Company believes that traditional seasonal sales cycle has substantially returned for the quarter ended April 30, 2023, and will continue through the fourth quarter ending January 31, 2024. Inventory increased by $19,343,000 at April 30, 2023, compared to April 30, 2022. The entire increase in inventory was attributable to increased quantity. The cost and valuation of inventory was stable. The quantity of inventory was increased in response to a material increase in unshipped sales orders (backlog). The majority of the backlog is scheduled for delivery during the traditional seasonal peak from June through August. The increase in inventory was financed by increased borrowing under the Company’s line of credit with PNC Bank and increased vendor credit, which traditionally increases with increased purchases of materials. Accrual basis capital expenditures for the three months ended April 30, 2023 were $1,300,000 compared to $627,000 for the same period last year. Capital expenditures are being financed through the Company's credit facility with PNC Bank and operating cash flow and restricted to not exceed $8,000,000 per year by covenant. The Company was in violation of its financial covenants under the Restated Credit Agreement as of January 31, 2022, due to an increase in the Company’s net loss primarily attributable to the effects of supply chain disruptions and labor shortages. On April 15, 2022, the Company entered into Amendment No. 2 to the Revolving Credit and Security Agreement with PNC Bank, which implemented certain changes to the Company’s credit facility with PNC Bank, including the extension of the final maturity date of the facility to April 15, 2027. Subsequent to the period ended April 30, 2023, the Company entered into Amendment No. 3 which increased the borrowing limit to $72.5 million during the peak seasonal period from June through August 2023. See Note 7 . Debt of Notes to Unaudited Consolidated Financial Statements under Item 1 of this Quarterly Report on Form 10-Q. Based on the Company’s current projections, raw material costs and its ability to introduce price increases, management believes it will maintain compliance with its financial covenants under the Credit Agreement, although risks and uncertainties remain, such as economic conditions, changing raw material costs and supply chain challenges. The Company was in compliance with its debt covenants as of April 30, 2023. 18 The Company believes that cash flows from operations, together with the Company's unused borrowing capacity with PNC Bank will be sufficient to fund the Company's debt service requirements, capital expenditures and working capital needs for the next twelve months. Off Balance Sheet Arrangements None. Critical Accounting Policies and Estimates The Company's critical accounting policies are outlined in its Annual Report on Form 10-K for the fiscal year ended January 31, 2023. Forward-Looking Statements From time to time, including in this Quarterly Report on Form 10-Q for the quarterly period ended April 30, 2023, the Company or its representatives have made and may make forward-looking statements, orally or in writing. Such forward-looking statements may be included in, without limitation, reports to stockholders, press releases, oral statements made with the approval of an authorized executive officer of the Company and filings with the Securities and Exchange Commission ("SEC"). The words or phrases “anticipates,” “expects,” “will continue,” “believes,” “estimates,” “projects,” or similar expressions are intended to identify “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. The results contemplated by the Company's forward-looking statements are subject to certain risks and uncertainties that could cause actual results to vary materially from anticipated results, including without limitation, availability of funding for educational institutions, availability and cost of materials, availability and cost of labor, demand for the Company's products, competitive conditions affecting selling prices and margins, capital costs and general economic conditions. Such risks and uncertainties are discussed in more detail in the Company's Form 10-K for the fiscal year ended January 31, 2023, including under the caption "Risk Factors". The Company's forward-looking statements represent its judgment only on the dates such statements were made. By making any forward-looking statements, the Company assumes no duty to update them to reflect new, changed or unanticipated events or circumstances. Item 3. Quantitative and Qualitative Disclosures about Market Risk The Company is a smaller reporting company as defined by Rule 12b-2 of the Exchange Act, and is therefore not required to provide the information under this item.