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EML > SEC Filings for EML > Form 10-K on 12-Mar-2014All Recent SEC Filings

Show all filings for EASTERN CO

Form 10-K for EASTERN CO


12-Mar-2014

Annual Report


ITEM 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Summary

Net sales for 2013 decreased 10% to $142.5 million from $157.5 million in 2012. Net income for 2013 decreased 20% to $6.9 million, or $1.11 per diluted share, from $8.6 million, or $1.38 per diluted share in 2012. Net sales in the Industrial Hardware segment decreased approximately 17% in 2013, resulting primarily from weaker demand for lightweight composite products such as the sleeper boxes for the Class 8 truck market and panels used in the electronic white board market and lower demand for Industrial Hardware products sold to the distribution, trailer, truck accessory, service body and military markets. Net sales in the Security Products segment decreased approximately 3% in 2013, primarily due to lower sales volume of products sold to the cash management, computer and commercial laundry markets. The Metal Products segment net sales decreased approximately 5% in 2013, resulting primarily from a reduction in sales of a tie plate for the railroad industry.


                Fourth Quarter 2013 Compared to Fourth Quarter 2012



The following table shows, for the fourth quarter of 2013 and 2012, selected
line items from the consolidated statements of income as a percentage of net
sales, by segment.

                                               2013 Fourth Quarter
                                     Industrial  Security    Metal
                                      Hardware   Products  Products   Total
Net sales                                100.0 %   100.0 %   100.0 %   100.0 %
Cost of products sold                     73.6 %    73.8 %    84.1 %    76.3 %
Gross margin                              26.4 %    26.2 %    15.9 %    23.7 %
Selling and administrative expense        17.0 %    17.6 %     7.6 %    14.8 %
Operating profit                           9.4 %     8.6 %     8.3 %     8.9 %

                                               2012 Fourth Quarter
                                     Industrial  Security    Metal
                                      Hardware   Products  Products   Total
Net sales                                100.0 %   100.0 %   100.0 %   100.0 %
Cost of products sold                     77.2 %    77.5 %    82.1 %    78.4 %
Gross margin                              22.8 %    22.5 %    17.9 %    21.6 %
Selling and administrative expense        14.2 %    17.0 %     6.9 %    13.5 %
Operating profit                           8.6 %     5.5 %    11.0 %     8.1 %

The following table shows the amount of change from the fourth quarter of 2012 to the fourth quarter of 2013 in sales, cost of products sold, gross margin, selling and administrative expenses and operating profit, by segment (dollars in thousands).

                                        Industrial     Security        Metal
                                          Hardware     Products     Products       Total
Net sales                             $     (2,973 ) $      655   $      770   $  (1,548 )
Volume                                       -21.0 %        4.2 %        5.6 %      -7.2 %
Prices                                        -0.1 %        0.7 %        1.8 %       0.6 %
New Products                                   3.3 %        0.8 %        2.6 %       2.3 %
                                             -17.8 %        5.7 %       10.0 %      -4.3 %

Cost of products sold                 $     (2,790 ) $       55   $      806   $  (1,929 )
                                             -21.7 %        0.6 %       12.8 %      -6.9 %

Gross margin                          $       (183 ) $      600   $      (36 ) $     381
                                              -4.8 %       23.3 %       -2.6 %       4.9 %

Selling and administrative expenses   $        (44 ) $      181   $      111   $     248
                                              -1.9 %        9.3 %       20.8 %       5.1 %

Operating profit                      $       (139 ) $      419   $     (147 ) $     133
                                              -9.7 %       67.0 %       17.2 %       4.6 %

Net sales in the fourth quarter of 2013 decreased 4% to $34.3 million from $35.8 million a year earlier. The decrease in sales in the fourth quarter from 2012 to 2013 is primarily attributable to a drop in sales of our lightweight composite panels for use in the electronic white board industry and sleeper cabs of Class 8 trucks, as well as lower sales of Industrial Hardware products to the distribution, service body and military markets in 2013 compared to 2012. Net sales were favorably impacted by increased sales volume of existing products in many of the markets to which we sell, the introduction of new products and selective price increases to customers.


Cost of products sold in the fourth quarter decreased $1.9 million or 7% from 2012 to 2013. The most significant factors resulting in changes in cost of products sold in the fourth quarter of 2013 compared to 2012 fourth quarter included:

an increase of $0.2 million or 32% in utilities;

an increase of $0.1 million or 1% in costs for payroll and payroll related charges;

an increase of $0.1 million or 71% for miscellaneous expenses;

a decrease of $2.2 million or 15% in raw materials;

and a decrease of $0.1 million or 7% in costs for supplies and tools.

Gross margin as a percentage of net sales for the fourth quarter of 2013 was 24% compared to 22% in the fourth quarter of 2012. The increase is primarily the result of the changes in cost of products sold enumerated above, the mix of products produced, the introduction of new products and selective price increases to customers.

Selling and administrative expenses for the fourth quarter of 2013 increased $0.2 million or 5% compared to the prior year quarter. The most significant factors resulting in changes in selling and administrative expenses in the fourth quarter of 2013 compared to 2012 fourth quarter included:

an increase of $0.1 million or 4% in payroll and payroll related charges;

and an increase of $0.1 million or 37% in travel expenses.

Net income for the fourth quarter of 2013 increased 12% to $1.9 million (or $.31 per diluted share) from $1.7 million (or $.28 per diluted share) a year earlier.

Authoritative Accounting Guidance

In May 2011, the FASB issued authoritative guidance which clarifies the concepts related to highest and best use and valuation premise, blockage factors and other premiums and discounts, the fair value measurement of financial instruments held in a portfolio and of those instruments classified as a component of shareowners' equity. The guidance includes enhanced disclosure requirements about recurring Level 3 fair value measurements, the use of non-financial assets, and the level in the fair value hierarchy of assets and liabilities not recorded at fair value. This guidance became effective for the Company on January 1, 2012. This guidance did not have an impact on our consolidated financial statements or disclosures, as there are presently no recurring Level 3 fair value measurements.

In June 2011, the FASB issued authoritative guidance aimed at increasing the prominence of items reported in other comprehensive income in the financial statements. In December 2011, the FASB also issued an accounting standards update that indefinitely deferred certain financial statement presentation provisions contained in its original June 2011 guidance. The guidance requires companies to present comprehensive income in a single statement below net income or in a separate statement of comprehensive income immediately following the income statement. Companies will no longer be allowed to present comprehensive income on the statement of changes in shareholders' equity. In both options, companies must present the components of net income, total net income, the components of other comprehensive income, total other comprehensive income and total comprehensive income. This update does not change which items are reported in other comprehensive income or the requirement to report reclassifications of items from other comprehensive income to net income. This guidance became effective for the Company on January 1, 2012 and required retrospective application for all periods presented. The adoption of this guidance did not impact the presentation of the consolidated financial statements of the Company.

In September 2011, the FASB issued authoritative guidance on testing goodwill for impairment. This guidance provides an entity the option to first perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If an entity determines that the fair value of a reporting unit is less than its carrying amount, it is required to perform the currently prescribed two-step goodwill impairment test to identify potential goodwill impairment and measure the amount of goodwill impairment loss to be recognized for that reporting unit, if any. The Company adopted this guidance effective January 1, 2012 and it had no impact on the consolidated financial statements of the Company.

In July 2012, the FASB issued authoritative guidance to amend previous guidance on the annual and interim testing of indefinite-lived intangible assets for impairment. The guidance provides entities with the option of first assessing qualitative factors to determine whether it is more likely than not that the fair value of an indefinite-lived intangible asset is less than its carrying amount. If it is determined, on the basis of qualitative factors, that the fair value of the indefinite-lived intangible asset


is more likely than not less than the carrying amount, a quantitative impairment test would still be required. The Company adopted this guidance effective December 30, 2012 and it had no impact on the consolidated financial statements of the Company.

In February 2013, the FASB issued authoritative guidance which adds new disclosure requirements for items reclassified out of Accumulated Other Comprehensive Income. The guidance requires that an entity present either in a single note or parenthetically on the face of the financial statements, the effect of significant amounts reclassified from each component of Accumulated Other Comprehensive Income based on its source and the income statement line items affected by the reclassification. The guidance is effective for interim and annual reporting periods beginning on or after December 15, 2012. The Company adopted this guidance effective December 30, 2012 and it had no impact on the consolidated financial statements of the Company.

In July 2013, the FASB issued authoritative guidance that requires an entity to net its liability for unrecognized tax positions against a net operating loss carryforward, a similar tax loss or a tax credit carryforward when settlement in this manner is available under the tax law. The guidance is effective for interim and annual reporting periods beginning on or after December 15, 2013. The Company adopted this guidance effective December 29, 2013 and it had no impact on the consolidated financial statements of the Company.

The Company has implemented all new accounting pronouncements that are in effect and that could impact its consolidated financial statements and does not believe that there are any other new accounting pronouncements that have been issued, but are not yet effective, that might have a material impact on the consolidated financial statements of the Company.

Critical Accounting Policies and Estimates

The preparation of the financial statements in accordance with accounting principles generally accepted in the United States ("U.S. GAAP") requires management to make judgments, estimates and assumptions regarding uncertainties that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported amounts of revenues and expenses. Areas of uncertainty that require judgments, estimates and assumptions include items such as the accounting for derivatives; environmental matters; the testing of goodwill and other intangible assets for impairment; proceeds on assets to be sold; pensions and other postretirement benefits; and tax matters. Management uses historical experience and all available information to make its estimates and assumptions, but actual results will inevitably differ from the estimates and assumptions that are used to prepare the Company's financial statements at any given time. Despite these inherent limitations, management believes that Management's Discussion and Analysis of Financial Condition and Results of Operations and the financial statements and related footnotes provide a meaningful and fair presentation of the Company.

Management believes that the application of these estimates and assumptions on a consistent basis enables the Company to provide the users of the financial statements with useful and reliable information about the Company's operating results and financial condition.

Allowance for Doubtful Accounts

The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. The Company reviews the collectibility of its receivables on an ongoing basis taking into account a combination of factors. The Company reviews potential problems, such as past due accounts, a bankruptcy filing or deterioration in the customer's financial condition, to ensure the Company is adequately accrued for potential loss. Accounts are considered past due based on when payment was originally due. If a customer's situation changes, such as a bankruptcy or creditworthiness, or there is a change in the current economic climate, the Company may modify its estimate of the allowance for doubtful accounts. The Company will write off accounts receivable after reasonable collection efforts have been made and the accounts are deemed uncollectible.

Inventory Reserve

Inventories are valued at the lower of cost or market. Cost is determined by the last-in, first-out ("LIFO") method at the Company's U.S. facilities. Accordingly, a LIFO valuation reserve is calculated using the dollar value link chain method.

We review the net realizable value of inventory in detail on an ongoing basis, giving consideration to deterioration, obsolescence and other factors. Based on these assessments, we provide for an inventory reserve in the period in which an impairment is identified. The reserve fluctuates with market conditions, design cycles and other economic factors.


Goodwill and Other Intangible Assets

Intangible assets with finite useful lives are amortized generally on a straight-line basis over the periods benefited. Goodwill and other intangible assets with indefinite useful lives are not amortized. During the third quarter of 2012 the Company elected to change its annual impairment testing of goodwill and trademarks from the second quarter of its fiscal year to the fourth quarter of its fiscal year. The Company discussed this change in accounting principle with its Independent Registered Public Accounting Firm and attached their Preference Letter as an exhibit to the Form 10-Q for the quarter ending September 29, 2012. The Company performed its most recent qualitative assessment as of the end of fiscal 2013 and determined it is more likely than not that no impairment of goodwill existed at the end of 2013. The Company will perform annual qualitative assessments in subsequent years as of the end of each fiscal year. Additionally, the Company will perform interim analysis whenever conditions warrant.

Pension and Other Postretirement Benefits

The amounts recognized in the consolidated financial statements related to pension and other postretirement benefits are determined from actuarial valuations. Inherent in these valuations are assumptions about such factors as expected return on plan assets, discount rates at which liabilities could be settled, rate of increase in future compensation levels, mortality rates, and trends in health insurance costs. These assumptions are reviewed annually and updated as required. In accordance with U.S. GAAP, actual results that differ from the assumptions are accumulated and amortized over future periods and, therefore, affect the expense recognized and obligations recorded in future periods.

The discount rate used is based on a single equivalent discount rate derived with the assistance of our actuaries by matching expected future benefit payments in each year to the corresponding spot rates from the Citigroup Pension Liability Yield Curve, comprised of high quality (rated AA or better) corporate bonds. The expected long-term rate of return on assets is also developed with input from the Company's actuarial firms. We consider the Company's historical experience with pension fund asset performance, the current and expected allocation of our plan assets, and expected long-term rates of return. The long-term rate-of-return assumption used for determining net periodic pension expense for 2013 was 8.0%. The Company reviews the long-term rate of return each year. Future actual pension income and expense will depend on future investment performance, changes in future discount rates, and various other factors related to the population of participants in the Company's pension plans.

The Company expects to make cash contributions of approximately $2.5 million and $63,000 to its pension plans and postretirement plan, respectively, in 2014.

RESULTS OF OPERATIONS

Fiscal 2013 Compared to Fiscal 2012

The following table shows, for 2013 and 2012, selected line items from the
consolidated statements of income as a percentage of net sales, by segment.

                                     Industrial  Security    Metal
                                      Hardware   Products  Products   Total
                                                      2013
Net sales                                100.0 %   100.0 %   100.0 % 100.0 %
Cost of products sold                     76.4 %    78.0 %    84.5 %  78.8 %
Gross margin                              23.6 %    22.0 %    15.5 %  21.2 %
Selling and administrative expense        15.7 %    16.3 %     7.1 %  13.9 %
Operating profit                           7.9 %     5.7 %     8.4 %   7.3 %

                                                      2012
Net sales                                100.0 %   100.0 %   100.0 % 100.0 %
Cost of products sold                     76.0 %    76.3 %    88.2 %  78.8 %
Gross margin                              24.0 %    23.7 %    11.8 %  21.2 %
Selling and administrative expense        13.5 %    15.5 %     6.5 %  12.6 %
Operating profit                          10.5 %     8.2 %     5.3 %   8.6 %


The following table shows the amount of change from 2012 to 2013 in sales, cost of products sold, gross margin, selling and administrative expenses, and operating profit, by segment (dollars in thousands):

                                        Industrial    Security       Metal
                                          Hardware    Products    Products       Total
Net sales                             $    (11,901 ) $  (1,387 ) $  (1,763 ) $ (15,051 )
Volume                                       -20.4 %      -4.9 %      -8.5 %     -12.8 %
Prices                                         0.0 %       0.7 %       1.6 %       0.6 %
New Products                                   3.9 %       1.4 %       1.9 %       2.6 %
                                             -16.5 %      -2.8 %      -5.0 %      -9.6 %

Cost of products sold                 $     (8,844 ) $    (206 ) $  (2,808 ) $ (11,858 )
                                             -16.1 %      -0.5 %      -9.1 %      -9.5 %

Gross margin                          $     (3,057 ) $  (1,181 ) $   1,045   $  (3,193 )
                                             -17.7 %      -9.9 %      25.3 %      -9.6 %

Selling and administrative expenses   $       (288 ) $     152   $     108   $     (28 )
                                              -3.0 %       2.0 %       4.8 %      -0.1 %

Operating profit                      $     (2,769 ) $  (1,333 ) $     937   $  (3,165 )
                                             -36.6 %     -32.4 %      50.1 %     -23.4 %

Industrial Hardware Segment

Net sales in the Industrial Hardware segment decreased 17% in 2013 from the 2012 level. The decrease in sales in 2013 reflected a decrease in sales of existing products, resulting from lower sales to the distribution, trailer, truck accessory, service body and military markets as well as lightweight composite panels used in an interactive electronic board product and lightweight composite sleeper cabs for the Class 8 truck market in 2013 compared to the prior year period. The decrease was reduced by an increase in sales of other products to the Class 8 truck market, such as vents, and to the fire and rescue market, the bus market and the off-highway market in 2013 compared to the same periods in 2012, selective price increases to customers and the introduction of new products. All of the new products were developed internally and included rotary latches, an adjustable rod assembly, a striker pin, a lever latch, a cab door handle and a venting line of products for the Class 8 truck market; a dual latch rotary and a handle for the fire and rescue market; a trigger latch for the bus market; a platform and small panels made from lightweight composite material; as well as a variety of locking and latching products for the many markets we serve.

Cost of products sold for the Industrial Hardware segment decreased $8.8 million or 16% from 2012 to 2013. The most significant factors resulting in changes in cost of products sold in 2013 compared to 2012 included:

an increase of $0.3 million or 22% for depreciation;

an increase of $0.3 million or 121% in foreign exchange;

a decrease of $6.4 million or 19% in raw materials;

a decrease of $1.2 million or 8% in costs for payroll and payroll related charges;

a decrease of $0.9 million or 1,640% in miscellaneous expense;

a decrease of $0.3 million or 25% in costs for supplies and tools;

a decrease of $0.2 million or 18% in shipping expenses;

a decrease of $0.1 million or 14% for equipment rental;

a decrease of $0.1 million or 14% related to costs for maintenance and repairs;

a decrease of $0.1 million or 29% in engineering expenses;

and a decrease of $0.1 million or 23% for rent.

Gross margin for 2013 of 24% was comparable to the 2012 period as a percentage of net sales for the Industrial Hardware segment.

Selling and administrative expenses in the Industrial Hardware segment decreased $0.3 million or 3% from 2012 to 2013. The most significant factor resulting in changes in selling and administrative expenses in the Industrial Hardware segment in 2013 compared to 2012 included:

a decrease of $0.3 million or 5% in payroll and payroll related charges.


Security Products Segment

Net sales in the Security Products segment decreased 3% in 2013 from the 2012 level. The decrease in sales in 2013 in the Security Products segment compared to the prior year period was the result of lower sales volume of existing products to the cash management, computer and commercial laundry markets. Selective price increases and the introduction of new products offset a portion of the sales decrease. Sales of new products included clamps, a tubular slam lock, locking t-handles for truck caps and a locking flush mount tonneau cover handle for the vehicular market, a puck lock for the OEM market, luggage locks for the travel market, a round body steel padlock for the retail hardware market and mini "D" ring handle assembly for the storage market.

Cost of products sold for the Security Products segment decreased $0.2 million or 1% from 2012 to 2013. The most significant factors resulting in changes in cost of products sold in 2013 compared to 2012 included:

an increase of $1.1 million or 18% in payroll and payroll related charges;

an increase of $0.2 million or 207% in foreign exchange;

and a decrease of $1.5 million or 6% in raw materials.

Gross margin as a percentage of sales in the Security Products segment decreased from 24% in 2012 to 22% in 2013. The decrease reflects the mix of products produced and the changes in cost of products sold discussed above, as well as the lower sales volume in 2013 compared to 2012.

Selling and administrative expenses in the Security Products segment increased $0.2 million or 2% from 2012 to 2013. The most significant factors resulting in changes in selling and administrative expenses in the Security Products segment in 2013 compared to 2012 included:

an increase of $0.2 million or 3% in payroll and payroll related charges;

an increase of $0.1 million or 10% in commission payments;

an increase of $0.1 million or 19% in advertising expenses;

an increase of $0.1 million or 33% in travel expenses;

and a decrease of $0.3 million or 31% in other administrative expenses.

Metal Products Segment

Net sales in the Metal Products segment decreased 5% in 2013 from the 2012 level. Sales of mine products increased 2% in 2013 compared to 2012. The increase in sales of mining products was driven by continued strong demand in 2013 primarily in the U.S. mining market compared to the prior year period and the introduction of new mining products. New mining products included a flange nut, a rope thread and a cable head. The Company was not impacted during 2012 or 2013 by the coal mining industry forecast of softening demand for coal projected to begin during the second half of 2012 resulting from new clean air rules enacted by the U.S. Environmental Protection Agency ("EPA"). The Company is actively trying to develop additional new products to replace any softening in future sales volume of mining products that may result from the EPA clean air regulations. Sales of contract casting products decreased 44% from 2012 levels. The decrease in sales of contract casting was primarily the result of a reduction in sales of a tie plate for the railroad industry. Contract casting sales benefited from the sales of new products including rail clamps for a solar panel application and new beam clamps.

Cost of products sold for the Metal Products segment decreased $2.8 million or 9% from 2012 to 2013. The most significant factors resulting in changes in cost of products sold in 2013 compared to 2012 included:

an increase of $0.1 million or 8% for utility costs;

an increase of $0.1 million or 11% in costs for depreciation;

a decrease of $1.2 million or 16% in raw materials;

a decrease of $1.1 million or 24% in costs for supplies and tools;

a decrease of $0.5 million or 4% in costs for payroll and payroll related charges;

and a decrease of $0.2 million or 80% in miscellaneous expense.

Gross margin as a percentage of sales in the Metal Products segment increased from 12% in 2012 to 16% in 2013. The improvement in gross margin compared to the prior year is due to the mix of products produced, elimination of products with unacceptable profit margins, price increases to customers, and cost reductions related to improved production efficiency.

. . .

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