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ETH > SEC Filings for ETH > Form 10-Q on 31-Oct-2013All Recent SEC Filings

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Form 10-Q for ETHAN ALLEN INTERIORS INC


31-Oct-2013

Quarterly Report


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

The following discussion of financial condition and results of operations should be read in conjunction with (i) our Consolidated Financial Statements, and notes thereto, included in Item 1 of Part I of this Quarterly Report on Form 10-Q and
(ii) our Annual Report on Form 10-K for the year ended June 30, 2013.

Forward-Looking Statements

Management's discussion and analysis of financial condition and results of operations and other sections of this Quarterly Report contain forward-looking statements relating to our future results. Such forward-looking statements are identified by use of forward-looking words such as "anticipates", "believes", "plans", "estimates", "expects", and "intends" or words or phrases of similar expression. These forward-looking statements are subject to management decisions and various assumptions, risks and uncertainties, including, but not limited to:
the potential effects of natural disasters affecting our suppliers or trading partners; the effects of labor strikes; weather conditions that may affect sales; volatility in fuel, utility, transportation and security costs; changes in global or regional political or economic conditions, including changes in governmental and central bank policies; changes in business conditions in the furniture industry, including changes in consumer spending patterns and demand for home furnishings; effects of our brand awareness and marketing programs, including changes in demand for our existing and new products; our ability to locate new design center sites and/or negotiate favorable lease terms for additional design centers or for the expansion of existing design centers; competitive factors, including changes in products or marketing efforts of others; pricing pressures; fluctuations in interest rates and the cost, availability and quality of raw materials; the effects of terrorist attacks or conflicts or wars involving the United States or its allies or trading partners; those matters discussed in Items 1A and 7A of our Annual Report on Form 10-K for the year ended June 30, 2013 and in our SEC filings; and our future decisions. Accordingly, actual circumstances and results could differ materially from those contemplated by the forward-looking statements.


ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES

Critical Accounting Policies

The Company's consolidated financial statements are based on the accounting policies used. Certain accounting polices require that estimates and assumptions be made by management for use in the preparation of the financial statements. Critical accounting policies are those that are central to the presentation of the Company's financial condition and results and that require subjective or complex estimates by management. There have been no material changes with respect to the Company's critical accounting policies from those disclosed in its 2013 Annual Report on Form 10-K filed with the SEC on August 16, 2013.

Results of Operations

Written orders booked by our retail division in the first quarter of our 2014 fiscal year ending September 30, 2013, grew 11.4% over the first quarter of fiscal 2013. This included comparable design center written order growth of 13.8%. However, net sales of $141.8 million in the first quarter of fiscal 2014 by our retail division for the quarter were 4.9% lower than the first quarter of the prior fiscal year. This led to an 11.9% increase in our retail backlog at the end of the first fiscal quarter this year.

During this first quarter, we undertook a major initiative to prepare our network of design centers for the launch in October 2013 of our "The New Eclecticism" campaign. This launch includes an assortment of new, attractively priced accessory products and is our latest initiative to expand our reach to more consumers by adding fashion, color, and a spirit of mixing things up to our time-honored story of quality, value and style. To make room on our design center floors for these new products, our retail division held significantly more clearance event sales at substantial discounts which resulted in lower gross margins and profitability during the quarter. Our wholesale division net sales during the current fiscal quarter benefitted however, from shipping floor samples of these new products to all of our Company operated design centers and to our independently operated design centers. These shipments led to an increase in wholesale net sales in the first quarter of fiscal 2014 of 1.6% compared to the comparable prior year period. Sales from our wholesale division to our retail division are included in the wholesale net sales but are eliminated from our consolidated net sales. Consolidated net sales were 3.1% lower during the first quarter of fiscal 2014 than the comparable quarter last year, primarily as a result of these lower net sales by our retail division.

We continue to invest significantly in (i) getting our messages across with strong advertising and marketing campaigns, (ii) the strength of our interior design professionals and management in our retail business, (iii) new technologies across key aspects of our vertically integrated business, and (iv) the ramp up of our North American manufacturing capacity where we manufacture approximately 70% of our products. Our competitive advantages arise from:

? providing high quality products of the finest craftsmanship,

? offering complimentary design service through an estimated 2,000 motivated interior design professionals network-wide,

? our wide array of custom product offerings across our upholstery, case goods, and accessory product categories,

? enhancing our technology in all aspects of the business, and

? leveraging our vertically integrated structure.

We continue to make considerable investments to strengthen the level of service, professionalism, and interior design competence, as well as to improve the efficiency of our retail operations. We believe that over time, we will continue to benefit from (i) continuous repositioning of our retail network, (ii) frequent new product introductions, (iii) new and innovative marketing promotions and effective use of targeted advertising media, and (iv) continued use of the latest technology coupled with personal service from our interior design professionals. We believe our network of professionally trained interior design professionals differentiates us significantly from others in our industry.


ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES

During fiscal 2013, the Company's retail division expanded for the first time into non-English language locations in Montreal, Canada and in Belgium. These international retail locations are initially incurring losses but we expect them to reach breakeven by the end of fiscal 2014.

We measure the performance of our design centers based on net sales and written orders booked on a comparable period to period basis. Comparable design centers are those which have been operating for at least 15 months. Minimal net sales, derived from the delivery of customer ordered product, are generated during the first three months of operations of newly opened (including relocated) design centers. Design centers acquired by us from independent retailers are included in comparable design center sales in their 13th full month of Ethan Allen-owned operations. The frequency of our promotional events as well as the timing of the end of those events can impact the orders booked during a given quarter.

Quarter Ended September 30, 2013 Compared to Quarter Ended September 30, 2012

Consolidated revenue for the three months ended September 30, 2013 decreased 3.1% to $181.7 million, from $187.4 million for the three months ended September 30, 2012. The decrease is primarily due to lower shipments in our retail segment discussed below.

At September 30, 2013, the Company operated 147 of the 297 global network design centers compared with 149 of the 302 at September 30, 2012. Our global network included 70 design centers in China at the end of the current quarter compared to 73 at the end of the first quarter of fiscal 2013. Our international net sales, including those of our Company operated design centers, were approximately 10% of consolidated net sales in both the current and prior year first quarters. The majority of our international sales are to our independent retailer in China.

Wholesale revenue for the first quarter of fiscal 2014 increased 1.6% to $113.2 million from $111.4 million in the prior year comparable period. As noted above, our wholesale net sales benefitted from shipments of floor product samples in support of our launch of "The New Eclecticism" campaign during the quarter partly offset by decreased sales to our independent retailer in China.

Retail revenue from Company operated design centers for the three months ended September 30, 2013 decreased 4.9% to $141.8 million from $149.1 million for the three months ended September 30, 2012. We began the quarter with lower retail backlogs which limited our product deliveries and net sales during the quarter. We sold two design centers in Houston to our independent retailer in the second quarter of fiscal 2013, and had two fewer Company operated design centers as compared to one year ago. We ended the current quarter with 147 Company operated design centers. Company operated design center total written business increased 11.4% while comparable design center written business increased 13.8% during the first quarter of fiscal 2014 compared to the comparable quarter of fiscal 2013.

Gross profit was $98.7 million for the quarter ended September 30, 2013, down 5.3% from the $104.3 million in the prior year comparable quarter. The decrease was driven by 3.1% lower net sales and lower gross margin. Gross margin for the September 30, 2013 quarter was 54.4%, down from 55.6% the prior year quarter, due to (i) a greater volume of clearance sales in the current fiscal quarter as we prepared for our sales initiative beginning in October 2013, (ii) a lower proportion of retail division net sales to our consolidated net sales (78.1% compared to 79.5% the prior year), (iii) a higher proportion of product manufactured in our domestic manufacturing plants as opposed to offshore sourcing, and (iv) a higher proportion of our retail sales with promotional discounts in lieu of full price sales with long term financing costs.

Operating expenses decreased $3.5 million or 4.1% to $82.8 million from $86.3 million in the prior year quarter due primarily to (i) lower variable costs on the 3.1% decline in net sales, (ii) lower losses on the sale of vacant retail real estate, and (iii) a higher proportion of our retail sales with promotional discounts in lieu of full price sales with long term financing costs. These operating expense declines were partly offset by higher medical and workers compensation costs and international expansion costs.


ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES

Operating income and profit margin for the quarter ended September 30, 2013 was $15.9 million, or 8.8% of net sales, a decrease of $2.0 million or 11.2% from the prior year quarter's $18.0 million, or 9.6% of net sales. Wholesale operating income for the three months ended September 30, 2013 was $16.1 million, or 14.3% of sales, compared to $16.0 million, or 14.4% of sales, in the prior year quarter. Retail operating loss for the first quarter of fiscal 2014 was $0.2 million, or a negative 0.1% of sales, compared to operating income of $1.0 million, or 0.7% of sales the prior year driven primarily by lower retail net sales in the current fiscal quarter.

Interest and other income, net remained consistent with the prior year at $0.1 million.

Interest and other related financing costs amounted to $1.9 million in the current period compared to $2.2 million in the prior year comparable period. The $0.3 million reduction resulted from reductions in debt outstanding. Since September 2012, debt has been reduced by $24.0 million through Senior Note repurchases.

Income tax expense for the three months ended September 30, 2013 totaled $5.1 million compared to $5.8 million for the three months ended September 30, 2012. Our effective tax rate for the current quarter was 36.2% compared to 36.4% in the prior year quarter. The current quarter effective tax rate primarily includes tax expense on the current quarter's net income, interest expense on uncertain tax positions, and the impact of maintaining valuation allowances on certain deferred tax assets, partly offset by the recognition of some uncertain tax positions. The prior period effective tax rate primarily includes the tax expense on the previous quarter's net income, interest expense on uncertain tax positions, and the impact of maintaining valuation allowances on deferred tax assets in the retail segment.

Net income for the three months ended September 30, 2013, was $9.0 million compared to $10.1 million in the prior year comparable period. This resulted in net income per diluted share of $0.31 for the quarter ended September 30, 2013 compared to $0.35 per diluted share for the quarter ended September 30, 2012.

Liquidity and Capital Resources

At September 30, 2013, we held unrestricted cash and cash equivalents of $91.2 million, marketable securities of $13.4 million, and restricted cash and investments of $14.9 million. At June 30, 2013, we held unrestricted cash and cash equivalents of $72.6 million, marketable securities of $15.5 million, and restricted cash and investments of $15.4 million. Our principal sources of liquidity include cash and cash equivalents, marketable securities, cash flow from operations, amounts available under our credit facility, and other borrowings.

In September 2005, we issued $200.0 million in ten-year senior unsecured notes due 2015 (the "Senior Notes"). The Senior Notes were issued by Global, bearing an annual coupon rate of 5.375% with interest payable semi-annually in arrears on April 1 and October 1. We used the net proceeds of $198.4 million to improve our retail network, invest in our manufacturing and logistics operations, and for other general corporate purposes. In fiscal years 2011 through 2013, the Company repurchased an aggregate $70.6 million of the Senior Notes in several unsolicited transactions.

We also maintain a $50 million senior secured, asset-based revolving credit facility (the "Facility"). We have not had any revolving loans under the Facility at any time. At both September 30, 2013 and June 30, 2013, there were $0.6 million of standby letters of credit outstanding under the Facility. The Facility is subject to borrowing base availability and includes a right for the Company to increase the total facility to $100 million subject to certain conditions. The Facility is secured by all property owned, leased or operated by the Company in the United States excluding any real property owned by the Company and contains customary covenants which may limit the Company's ability to incur debt, engage in mergers and consolidations, make restricted payments (including dividends), sell certain assets, and make investments. Remaining availability under the Facility totaled $49.4 million at September 30, 2013 and at June 30, 2013 and as a result, covenants and other restricted payment limitations did not apply. The Facility expires March 25, 2016, or June 26, 2015 if the Senior Notes have not been refinanced prior to that date.

At both September 30, 2013 and June 30, 2013, we were in compliance with all covenants of the Senior Notes and the Facility.


                  ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES



A summary of net cash provided by (used in) operating, investing, and financing
activities for the three month periods ended September 30, 2013 and 2012 is
provided below (in millions):



                                                             Three months ended
                                                                September 30,
                                                             2013           2012
Operating Activities
Net income plus depreciation and amortization              $    13.3       $  14.7
Working capital items                                            6.9          (9.9 )
Other operating activities                                       0.9           1.9
Total provided by operating activities                     $    21.1       $   6.7

Investing Activities
Capital expenditures and acquisitions                      $    (3.3 )     $  (8.9 )
Net purchases of marketable securities                           1.9          (1.8 )
Other investing activities                                       1.4           0.8
Total used in investing activities                         $       -       $  (9.9 )

Financing Activities
Payments on long-term debt and capital lease obligations   $    (0.1 )     $  (0.1 )
Payment of cash dividends                                       (2.6 )        (2.6 )
Other financing activities                                       0.1           0.1
Total used in financing activities                         $    (2.6 )     $  (2.6 )

Operating Activities

In the first three months of fiscal 2014, cash of $21.1 million was generated by operating activities, an increase of $14.4 million from the comparable prior fiscal period. The net increase in cash generated from operating activities was largely due to a $13.5 million increase in cash generated from favorable changes in our customer deposits balances (an $8.3 million cash increase in the current fiscal year compared with a $5.2 million cash use during the prior year quarter). The remaining $0.9 million increase netted higher cash generated from other working capital elements (defined below) against lower cash generated through income during the periods. Working capital items consist of accounts receivable, inventories, prepaid and other current assets, customer deposits, payables, and accrued expenses and other current liabilities.

Investing Activities

In the first three months of fiscal 2014, less than $0.1 million of cash was used in investing activities, which is $9.9 million less cash used than was used during the first three months of fiscal 2013. Less cash was used in fiscal 2014 primarily due to a decrease in capital expenditures in the current period as well as a decrease in our net purchases of marketable securities. We anticipate that cash from operations will be sufficient to fund future capital expenditures.

Financing Activities

In the first three months of both fiscal 2014 and fiscal 2013, $2.6 million was used in financing activities. The regular quarterly dividend was $.09 per share in both periods, however it was increased to $.10 per share in July 2013 which will be payable in October 2013. The Company has continuously paid dividends for every quarter since 1996 and we expect to continue to do so as economic conditions and liquidity permit.


ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES

As of September 30, 2013, our outstanding debt totaled $131.2 million, which consists of $129.2 million in Senior Notes which mature in September 2015 (fiscal 2016), and $2.0 million in capital leases which mature at various times through February 2018. The aggregate scheduled maturities of long-term debt for each of the next five fiscal years are $0.5 million in fiscal 2015, $129.7 million in fiscal 2016, $0.5 million in fiscal 2017 and $0.2 million in fiscal 2018. At June 30, 2013, our outstanding debt totaled $131.3 million, the current and long-term portions of which amounted to less than $0.5 million and $130.8 million respectively.

There has been no material change to the amount or timing of cash payments related to our outstanding contractual obligations as set forth in Part II, Item
7 - Management's Discussion and Analysis of Financial Condition and Results of Operations of our Annual Report on Form 10-K for the year ended June 30, 2013 as filed with the SEC on August 16, 2013.

We believe that our cash flow from operations, together with our other available sources of liquidity including refinancing alternatives, will be adequate to make all required payments of principal and interest on our debt, to permit anticipated capital expenditures, and to fund working capital and other cash requirements. As of September 30, 2013, we had working capital of $136.5 million compared to $127.6 million at June 30, 2013, an increase of $8.9 million, or 6.9%. The Company had a current ratio of 1.94 to 1 at September 30, 2013 and 1.96 to 1 at June 30, 2013.

In addition to using available cash to fund changes in working capital, capital expenditures, acquisition activity, the repayment of debt, the payment of dividends, and debt repurchases, we have been authorized by our Board of Directors to repurchase shares of our common stock from time to time, either directly or through agents, in the open market at prices and on terms satisfactory to us. All of our common stock repurchases and retirements are recorded as treasury stock and result in a reduction of shareholders' equity. During the three months ended September 30, 2013 and 2012, there were no repurchases and/or retirements of our common stock. At September 30, 2013, we had a remaining Board authorization to repurchase 1,101,490 shares of our common stock.

Off-Balance Sheet Arrangements and Other Commitments, Contingencies and Contractual Obligations

We do not utilize or employ any off-balance sheet arrangements, including special-purpose entities, in operating our business. As such, we do not maintain any (i) retained or contingent interests, (ii) derivative instruments (other than as specified below), or (iii) variable interests which could serve as a source of potential risk to our future liquidity, capital resources and results of operations.

We may, from time to time in the ordinary course of business, provide guarantees on behalf of selected affiliated entities or become contractually obligated to perform in accordance with the terms and conditions of certain business agreements. The nature and extent of these guarantees and obligations may vary based on our underlying relationship with the benefiting party and the business purpose for which the guarantee or obligation is being provided. The only such program in place at September 30, 2013 and June 30, 2013 was for our consumer credit program.

Ethan Allen Consumer Credit Program

The terms and conditions of our consumer credit program, which is financed and administered by a third-party financial institution on a non-recourse basis to Ethan Allen, are set forth in an agreement between the Company and that financial service provider (the "Program Agreement"). Any independent retailer choosing to participate in the consumer credit program is required to enter into a separate agreement with that same third-party financial institution which sets forth the terms and conditions under which the retailer is to perform in connection with its offering of consumer credit to its customers (the "Retailer Agreement"). We have obligated ourselves on behalf of any independent retailer choosing to participate in our consumer credit program by agreeing, in the event of default, breach, or failure of the independent retailer to perform under such Retailer Agreement, to take on certain responsibilities of the independent retailer, including, but not limited to, delivery of goods and reimbursement of customer deposits. Customer receivables originated by independent retailers remain non-recourse to Ethan Allen. Our obligation remains in effect for the term of the Program Agreement that expires in July 2014. While the maximum potential amount of future payments (undiscounted) that we could be required to make under this obligation is indeterminable, recourse provisions exist that would enable us to recover, from the independent retailer, any amount paid or incurred by us related to our performance. Based on the underlying creditworthiness of our independent retailers, including their historical ability to satisfactorily perform in connection with the terms of our consumer credit program, we believe this obligation will expire without requiring funding by us. To ensure funding for delivery of products sold, the terms of this agreement also contain a right for the credit card issuer to demand from the Company collateral of up to $12 million if the Company does not meet certain covenants. As of September 30, 2013 and June 30, 2013, the Company maintained a restricted cash and investment collateral account of $6 million to satisfy the current collateral requirement.


ETHAN ALLEN INTERIORS INC. AND SUBSIDIARIES

Product Warranties

Our products, including our case goods, upholstery and home accents, generally carry explicit product warranties that extend from one to ten years and are provided based on terms that are generally accepted in the industry. All of our domestic independent retailers are required to enter into, and perform in accordance with the terms and conditions of, a warranty service agreement. We record provisions for estimated warranty and other related costs at time of sale based on historical warranty loss experience and make periodic adjustments to those provisions to reflect actual experience. On rare occasions, certain warranty and other related claims involve matters of dispute that ultimately are resolved by negotiation, arbitration or litigation. In certain cases, a material warranty issue may arise which is beyond the scope of our historical experience. We provide for such warranty issues as they become known and are deemed to be both probable and estimable. It is reasonably possible that, from time to time, additional warranty and other related claims could arise from disputes or other matters beyond the scope of our historical experience. As of September 30, 2013 and June 30, 2013, our product warranty liability totaled $0.9 million and $0.8 million, respectively.

Business Outlook

The home furnishings industry remains in a slow recovery period following the 'Great Recession'. Many macroeconomic factors have improved including unemployment, consumer confidence, and housing related market indicators in the U.S. However, the U.S. home furnishings industry remains highly competitive and promotional. We are also concerned that a failure by the U.S. Congress to take more definitive action by early 2014 to address concerns with respect to the U.S. debt ceiling and stabilizing government spending in order to avoid another government shutdown could have significant negative consequences for the U.S. economy, consumer demand and spending habits and, as a result, our business. We remain cautiously optimistic about our performance due to the many strong programs already in place and others we currently plan to introduce in the coming months.

We expect the home furnishings industry to remain extremely competitive with respect to both the sourcing of products and the wholesale and retail sale of those products for the foreseeable future. Domestic manufacturers continue to face pricing pressures because of the lower manufacturing costs in some other countries, particularly within Asia. While we have also turned to overseas sourcing to remain competitive, we choose to differentiate ourselves by maintaining a substantial North American manufacturing base, where we can leverage our vertically integrated structure to our advantage. We continue to believe that a balanced approach to product sourcing, which includes the domestic manufacture of certain product offerings coupled with the import of . . .

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