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NWPX > SEC Filings for NWPX > Form 10-Q on 6-Aug-2013All Recent SEC Filings

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Form 10-Q for NORTHWEST PIPE CO


6-Aug-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward Looking Statements

This Management's Discussion and Analysis of Financial Condition and Results of Operations and other sections of this Report contain forward-looking statements within the meaning of the Securities Litigation Reform Act of 1995 and
Section 21E of the Exchange Act that are based on current expectations, estimates and projections about our business, management's beliefs, and assumptions made by management. Words such as "expects," "anticipates," "intends," "plans," "believes," "seeks," "estimates," "forecasts," "should," "could", and variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements as a result of a variety of important factors. While it is impossible to identify all such factors, those that could cause actual results to differ materially from those estimated by us include changes in demand and market prices for our products, product mix, bidding activity, the timing of customer orders and deliveries, production schedules, the price and availability of raw materials, excess or shortage of production capacity, international trade policy and regulations and other risks discussed in our 2012 Form 10-K and from time to time in our other SEC filings and reports. Such forward-looking statements speak only as of the date on which they are made, and we do not undertake any obligation to update any forward-looking statement to reflect events or circumstances after the date of this Report. If we do update or correct one or more forward-looking statements, investors and others should not conclude that we will make additional updates or corrections with respect thereto or with respect to other forward-looking statements.

Overview

We are a leading North American manufacturer of large-diameter, high-pressure steel pipeline systems for use in water infrastructure applications, primarily related to drinking water systems, and we also manufacture other welded steel pipe products for use in a wide range of applications, including energy, construction, agriculture, and industrial systems. Our pipeline systems are also used for hydroelectric power systems, wastewater systems and other applications, and we also make products for industrial plant piping systems and certain structural applications. These pipeline systems are produced by our Water Transmission Group from six manufacturing facilities located in Portland, Oregon; Denver, Colorado; Adelanto, California; Parkersburg, West Virginia; Saginaw, Texas; and Monterrey, Mexico. Our Water Transmission Group accounted for approximately 53.1% of net sales in the first six months of 2013.

Our water infrastructure products are generally sold to installation contractors, who include our products in their bids to municipal agencies or privately-owned water companies for specific projects. Within the total pipeline system, our products best fit the larger-diameter, higher-pressure applications. We believe our sales are substantially driven by spending on new water infrastructure with additional spending on water infrastructure upgrades, replacements, and repairs. Pricing of our water infrastructure products is largely determined by the competitive environment in each regional market, and the regional markets generally operate independently of each other. We operate our Water Transmission business with a long-term time horizon. Projects are often planned for many years in advance and are sometimes part of fifty-year build out plans. In the near-term, we expect strained municipal budgets will continue to impact the Water Transmission Group, although increased infrastructure needs in Colorado, Michigan, and Texas and drought-related projects in Texas will help offset the effects of strained municipal budgets in other parts of the United States.

Our Tubular Products Group manufactures other welded steel products in three facilities: Atchison, Kansas; Houston, Texas; and Bossier City, Louisiana. We produce a range of products used in several different markets, including energy, construction, agriculture, and industrial systems, which are sold to distributors and used in many different applications. Our Tubular Products Group's sales volume is typically driven by energy spending, non-residential construction spending, and general economic conditions. Our Tubular Products Group generated approximately 46.9% of net sales in the first six months of 2013.

We believe the greatest long-term potential for significant sales growth in our Tubular Products Group is through our energy products. In the energy markets, drilling activity, as represented by rig counts, has declined since the end of 2012 but has remained steady during the first six months of 2013 and is expected to remain steady during the second half of 2013. Significant foreign imports of energy products have continued to place downward pressure on our energy sales. A trade case was filed in July 2013 for an investigation of imports of Oil Country Tubular Goods, particularly casing and tubing, from nine countries and possible imposition of anti-dumping duties. However, in the near term, we expect downward pressure on our energy sales due to imports, and we believe that uncertain steel prices have caused pipe buyers to delay their inventory replenishment activity, and to maintain lower levels of inventory.

Purchased steel represents a substantial portion of our cost of sales, and changes in our selling prices often correlate directly to changes in steel costs. This correlation is the greatest in our Tubular Products Group as its margins are highly sensitive to changes in steel costs, although the amounts of margins are also influenced by the current level of demand in the marketplace.


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Critical Accounting Policies and Estimates

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We evaluate our estimates on an on-going basis. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. A description of our critical accounting policies and related judgments and estimates that affect the preparation of our consolidated financial statements is set forth in our 2012 Form 10-K.

Recent Accounting Pronouncements

See Note 11 of the Condensed Consolidated Financial Statements in Part I-Item I, "Financial Statements" for a description of recent accounting pronouncements, including the dates of adoption and estimated effects on financial position, results of operations and cash flows.

Results of Operations

The following tables set forth, for the period indicated, certain financial
information regarding costs and expenses expressed as a percentage of total net
sales and net sales of our business segments.



                                           Three months ended June 30, 2013                  Three months ended June 30, 2012
                                               $                 % of Net Sales                 $                   % of Net Sales
Net sales
Water Transmission                     $          58,148                    49.8 %      $          59,050                      45.1 %
Tubular Products                                  58,590                    50.2                   71,991                      54.9

Total net sales                                  116,738                   100.0                  131,041                     100.0
Cost of sales                                    101,070                    86.6                  117,464                      89.6

Gross profit                                      15,668                    13.4                   13,577                      10.4
Selling, general and
administrative expense                             6,288                     5.4                    6,607                       5.0

Operating income                                   9,380                     8.0                    6,970                       5.4
Other expense                                         (4 )                  (0.0 )                    (34 )                    (0.0 )
Interest income                                      (60 )                  (0.1 )                    (46 )                    (0.0 )
Interest expense                                     956                     0.8                    1,526                       1.2

Income before income taxes                         8,488                     7.3                    5,524                       4.2
Provision for income taxes                         2,927                     2.5                    1,920                       1.5

Net income                             $           5,561                     4.8 %      $           3,604                       2.7 %

Gross profit as a percentage of
segment net sales:
Water Transmission                                                          20.9 %                                             13.8 %
Tubular Products                                                             6.0                                                7.5

                                            Six months ended June 30, 2013                    Six months ended June 30, 2012
                                               $                 % of Net Sales                 $                   % of Net Sales
Net sales
Water Transmission                     $         136,761                    53.1 %      $         117,481                      43.0 %
Tubular Products                                 120,574                    46.9                  155,735                      57.0

Total net sales                                  257,335                   100.0                  273,216                     100.0
Cost of sales                                    220,463                    85.7                  243,139                      89.0

Gross profit                                      36,872                    14.3                   30,077                      11.0
Selling, general and
administrative expense                            12,672                     4.9                   13,928                       5.1

Operating income                                  24,200                     9.4                   16,149                       5.9
Other income                                          37                     0.0                        2                       0.0
Interest income                                     (243 )                  (0.1 )                    (87 )                    (0.0 )
Interest expense                                   2,005                     0.8                    3,166                       1.2

Income before income taxes                        22,401                     8.7                   13,068                       4.7
Provision for income taxes                         7,334                     2.8                    4,730                       1.7

Net income                             $          15,067                     5.9 %      $           8,338                       3.0 %

Gross profit as a percentage of
segment net sales:
Water Transmission                                                          23.4 %                                             15.2 %
Tubular Products                                                             4.0                                                7.9


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Three Months and Six Months Ended June 30, 2013 Compared to Three Months and Six Months Ended June 30, 2012

Net sales. Net sales decreased 10.9% to $116.7 million for the second quarter of 2013 compared to $131.0 million for the second quarter of 2012 and decreased 5.8% to $257.3 million for the first six months of 2013 compared to $273.2 million in the same period of 2012. One customer in the Water Transmission segment accounted for 12.7% of total net sales in the second quarter of 2013. The same customer accounted for 17.1% of total net sales in the first six months of 2013. One customer in the Water Transmission segment accounted for 11.6% of total net sales in the second quarter of 2012. No single customer accounted for more than 10% of total net sales in the first six months of 2012.

Water Transmission sales decreased by 1.5% to $58.1 million in the second quarter of 2013 from $59.1 million in the second quarter of 2012 and increased 16.4% to $136.8 million in the first six months of 2013 from $117.5 million in the first six months of 2012. The decrease in sales in the second quarter of 2013 compared to the second quarter of 2012 was due to a 34% decrease in tons produced, offset by a 49% increase in average selling prices per ton. These variances largely resulted from the timing of production on the Lake Texoma project, which was substantially completed during the second quarter of 2013. The decrease in tons produced was also impacted by continued weakness in municipal markets. The increase in average selling prices per ton in the second quarter of 2013 was due to a 37% increase in materials costs per ton including steel. Higher materials costs generally lead to higher contract values. The increase in sales in the first six months of 2013 compared to the first six months of 2012 was due to a 7% increase in tons produced and a 9% increase in average selling price per ton. The increase in average selling prices per ton in the first six months of 2013 was due to a 5% increase in material costs per ton including steel. Bidding activity, backlog and production levels may vary significantly from period to period affecting sales volumes.

Tubular Products sales decreased 18.6% to $58.6 million in the second quarter of 2013 from $72.0 million in the second quarter of 2012 and decreased 22.6% to $120.6 million in the first six months of 2013 from $155.7 million in the first six months of 2012. The sales decrease in the second quarter of 2013 as compared to the second quarter of 2012 was due to a 6% decrease in tons sold and a 13% decrease in selling price per ton. We sold 52,900 tons in the second quarter of 2013 as compared to 56,500 tons in the second quarter of 2012. The decrease in selling price for the second quarter of 2013 as compared to the second quarter of 2012 was due to a 12% decrease in steel cost per ton along with continued downward pricing pressure from imported pipe. The sales decrease in the first six months of 2013 compared to the same period in 2012 was due to a 13% decrease in tons sold from 122,700 tons to 106,800 tons and an 11% decrease in the average selling price per ton. The decrease in selling price for the first six months of 2013 as compared to the first six months of 2012 was due to an 11% decrease in steel cost per ton along with the downward pricing pressure from imported pipe. Increased imports of energy pipe, decreases in rig counts from 2012, low natural gas prices, and volatility of steel prices have negatively impacted sales volumes and selling prices, particularly in energy pipe. Energy pipe sales volume decreased 3% from 41,700 tons in the second quarter of 2012 to 40,500 tons in the second quarter of 2013, and decreased 13% from 92,300 tons in the first six months of 2012 to 80,800 tons in the first six months of 2013.

Gross profit. Gross profit increased 15.4% to $15.7 million (13.4% of total net sales) in the second quarter of 2013 from $13.6 million (10.4% of total net sales) in the second quarter of 2012 and increased 22.6% to $36.9 million (14.3% of total net sales) in the first six months of 2013 from $30.1 million (11.0% of total net sales) in the first six months of 2012.

Water Transmission gross profit increased $4.0 million, or 48.8%, to $12.1 million (20.9% of segment net sales) in the second quarter of 2013 from $8.1 million (13.8% of segment net sales) in the second quarter of 2012. Water Transmission gross profit also increased $14.1 million, or 79.3%, to $32.0 million (23.4% of segment net sales) in the first six months of 2013 compared to the same period in the prior year when gross profit was $17.8 million (15.2% of segment net sales). The increase in gross profit for the second quarter of 2013 and the first six months of 2013 was primarily driven by the increase in selling price per ton. The positive impacts of the increased selling prices per ton were partially offset by the decline in tons produced, as discussed above. The increase in gross profit as a percentage of net sales in the second quarter of 2013 was driven by a favorable mix of projects. The increase in gross profit as a percentage of net sales in the first six months of 2013 was driven by a favorable mix of projects as well as the higher volume described above, which had a positive impact on the fixed portion of our cost of goods sold as a percentage of net sales.

Gross profit from Tubular Products decreased $1.9 million, or 34.7%, to $3.5 million (6.0% of segment net sales) in the second quarter of 2013 from $5.4 million (7.5% of segment net sales) in the second quarter of 2012 and decreased $7.4 million, or 60.1%, to $4.9 million (4.0% of segment net sales) in the first six months of 2013 from $12.2 million (7.9% of segment net sales) in the first six months of 2012. As noted above, sales of our Tubular Products weakened during the second quarter of 2013, particularly in our energy products, which had sales revenue of $54.6 million in the second quarter of 2012 and decreased 12% to $47.9 million in the second quarter of 2013, and decreased 23% from $124.8 million in the first six months of 2012 to $96.5 million in the first six months of 2013. The lower sales volume had a significant negative impact on the fixed portion of our cost of goods sold as a percent of net sales.


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This was partially offset by lower material costs per ton, which decreased 10% in the second quarter of 2013 compared to the second quarter of 2012 and decreased 5% in the first six months of 2013 compared to the first six months of 2012. The decrease in gross profit was also partially offset by a $1.2 million refundable state tax credit accrued during the second quarter of 2013.

Selling, general and administrative expenses. Selling, general and administrative expenses decreased to $6.3 million (5.4% of total net sales) in the second quarter of 2013 from $6.6 million (5.0% of total net sales) in the second quarter of 2012 and decreased to $12.7 million (4.9% of total net sales) in the first six months of 2013 from $13.9 million (5.1% of total net sales) in the first six months of 2012. The decrease in the first six months of 2013 as compared to the first six months of 2012 was due to a decrease of $1.1 million in professional fees, primarily due to a reduction in audit related fees.

Interest expense. Interest expense was $1.0 million in the second quarter of 2013 and $1.5 million in the second quarter of 2012 and $2.0 million in the first six months of 2013 and $3.2 million in the first six months of 2012. Lower average borrowings and lower average interest rates resulted in decreased interest expense in the second quarter of 2013 compared to the second quarter of 2012. Average borrowings and average interest rates were also lower in the first six months of 2013 compared to the same period in 2012, which decreased interest expense in the first six months of 2013 compared to 2012.

Income Taxes. The tax provision was $2.9 million in the second quarter of 2013 (an effective tax rate of 34.5%) compared to $1.9 million in the second quarter of 2012 (an effective tax rate of 34.8%) and $7.3 million in the first six months of 2013 (an effective tax rate of 32.7%) compared to $4.7 million (an effective tax rate of 36.2%) in the first six months of 2012. Our effective tax rate in the second quarter of 2013 and in the first six months of 2013 was less than our federal statutory rate of 35% primarily due to the favorable impact of the retroactive extension of the federal research and development tax credit. Our effective tax rate in the first six months of 2012 exceeded our federal statutory rate of 35% due primarily to state taxes and the relationship of permanent income tax deductions and tax credits to estimated pre-tax income for the respective years.

Liquidity and Capital Resources

Sources and Uses of Cash

Our principal sources of liquidity generally include operating cash flows and our bank credit agreement. Our principal uses of liquidity generally include capital expenditures, working capital and debt service. Information regarding our cash flows for the six months ended June 30, 2013 is presented in our Condensed Consolidated Statements of Cash Flows contained in this Form 10-Q, and is further discussed below.

As of June 30, 2013, our working capital (current assets minus current liabilities) was $180.7 million as compared to $167.4 million as of December 31, 2012. The primary reason for the increase in working capital was an increase in accounts receivable and a decrease in accrued liabilities, partially offset by a decrease in costs and estimated earnings in excess of billings and an increase in accounts payable.

Net cash provided by operating activities in the first six months of 2013 was $13.2 million. Our primary source of operating cash flow in the first six months of 2013 was net income of $15.1 million. This was partially offset by fluctuations in working capital accounts including a decrease in costs and estimated earnings in excess of billings, an increase in accounts payable, and an increase in accounts receivable.

Net cash provided by operating activities in the first six months of 2012 was $24.4 million. This was primarily the result of fluctuations in working capital including a decrease in accounts receivable and an increase in accounts payable, partially offset by an increase in costs and estimated earnings in excess of billings on uncompleted contracts.

Fluctuations in our working capital accounts result from timing differences between production, shipment and invoicing of our products, as well as changes in levels of production and costs of materials. We typically have a relatively large investment in working capital, as we are generally obligated to pay for goods and services early in the project while cash is not received until much later in the project. Our revenues in the Water Transmission segment are recognized on a percentage-of-completion method; therefore, there is little correlation between revenue and cash receipts and the elapsed time can be significant. As such, our payment cycle is a significantly shorter interval than our collection cycle, although the effect of this difference in the cycles may vary from period to period.

Net cash used in investing activities in the first six months of 2013 was $19.6 million, primarily related to capital expenditures for previously disclosed strategic investment projects and funds disbursed under a notes receivable arrangement of $2.9 million. We will distribute an additional $2.8 million under the arrangement during the third quarter of 2013. Capital expenditures in 2013 are expected to be approximately $26 million to $30 million for standard capital replacement and recently announced strategic investment projects. These projects include the installation of an additional horizontal accumulator and hydrotester, and the replacement of the existing


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front end of the 16 inch mill at our Atchison plant, as well as expansion at our Saginaw plant, which will enable production of pipe up to 126 inches in diameter as well as increase overall capacity. Expenditures for these strategic investments during the first six months of 2013 included $3.6 million for the replacement of the existing front end of the 16 inch mill and $1.4 million for a new hydrotester at our Atchison plant, and $7.5 million for expansion projects at our Saginaw plant. This was partially offset by proceeds received from the sale of property and equipment of $1.7 million.

Net cash used in investing activities in the first six months of 2012 was $8.1 million, primarily for capital expenditures for storm water upgrades at our Portland, Oregon facility and planned capacity expansion in our Tubular Products plants.

Net cash provided by financing activities in the first six months of 2013 was $6.5 million, which resulted primarily from borrowings under our Credit Agreement totaling $86.0 million, partially offset by repayments under our Credit Agreement and Note Purchase Agreement totaling $77.0 million.

Net cash used in financing activities in the first six months of 2012 was $16.5 million, which resulted primarily from repayments under our Credit Agreement and Note Purchase Agreement totaling $86.1 million, partially offset by net borrowings of $71.8 million.

We anticipate that our existing cash and cash equivalents, cash flows expected to be generated by operations, and amounts available under our credit agreements will be adequate to fund our working capital and capital requirements for the forseeable future. We also expect to continue to rely on cash generated from operations or funds available from our line of credit to make required principal payments on our long-term debt during 2013. To the extent necessary, we may also satisfy capital requirements through additional bank borrowings, senior notes, term notes, subordinated debt, and capital and operating leases, if such resources are available on satisfactory terms. We have from time to time evaluated and continue to evaluate opportunities for acquisitions and expansion. Any such transactions, if consummated, may use a portion of our working capital or necessitate additional bank borrowings or other sources of funding.

Line of Credit and Long-Term Debt

We had the following significant components of debt at June 30, 2013: a $165.0 million Credit Agreement, under which $60.8 million was outstanding; $2.1 million of Series A Term Notes, $1.5 million of Series B Term Notes, $2.9 million of Series C Term Notes and $1.3 million of Series D Term Notes.

The Credit Agreement bears interest at rates related to LIBOR plus 1.75% to 2.75%, or the lending institution's prime rate, plus 0.75% to 1.75%. We were able to borrow at LIBOR plus 2.0% under the Credit Agreement at June 30, 2013. Borrowings under the Credit Agreement are collateralized by substantially all of our personal property. The Credit Agreement will expire on October 24, 2017. At June 30, 2013 we had $101.1 million available under the Credit Agreement while remaining in compliance with our financial covenants, net of outstanding letters of credit. The Credit Agreement bears interest at a weighted average rate of 2.48% at June 30, 2013.

The Series A Term Note in the principal amount of $2.1 million matures on February 25, 2014 and requires annual payments in the amount of $2.1 million plus interest of 10.50% paid quarterly on February 25, May 25, August 25 and November 25. The Series B Term Notes in the principal amount of $1.5 million mature on June 21, 2014 and require annual payments in the amount of $1.5 million plus interest of 10.22% paid quarterly on March 21, June 21, September 21 and December 21. The Series C Term Notes in the principal amount of $2.9 million mature on October 26, 2014 and require annual . . .

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