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MLHR > SEC Filings for MLHR > Form 10-K on 29-Jul-2014All Recent SEC Filings

Show all filings for MILLER HERMAN INC

Form 10-K for MILLER HERMAN INC


29-Jul-2014

Annual Report


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

Management's Discussion and Analysis
You should read the issues discussed in Management's Discussion and Analysis in conjunction with the company's Consolidated Financial Statements and the Notes to the Consolidated Financial Statements included in this Form 10-K.

Executive Overview
Herman Miller's inspiring designs, inventive technologies and strategic services help people do great things and organizations to perform at their best. At present, most of our customers come to us for interior environments in corporate office and healthcare settings. We also have a growing presence in educational and consumer markets. Our primary products include furniture systems, seating, storage, freestanding furniture, healthcare environment products, casegoods and textiles.

More than 100 years of innovative business practices and a commitment to social responsibility have established Herman Miller as a recognized global company. A past recipient of the Smithsonian Institution's Cooper-Hewitt National Design Award, Herman Miller designs can be found in the permanent collections of museums worldwide. In 2013, Herman Miller again received the Human Rights Campaign Foundation's top rating in its annual Corporate Equality Index and was named among the 50 Best U.S. Manufacturers by Industry Week. Herman Miller is included in the Dow Jones Sustainability World Index.

Herman Miller's products are sold internationally through wholly-owned subsidiaries or branches in various countries including the United Kingdom, Canada, France, Germany, Italy, Japan, Mexico, Australia, Singapore, China, Hong Kong, India, and the Netherlands. The company's products are offered elsewhere in the world primarily through independent dealerships or joint ventures with customers in over 100 countries.

The company is globally positioned in terms of manufacturing operations. In the United States, the manufacturing operations are located in Michigan, Georgia, Wisconsin and North Carolina. In Europe, the manufacturing presence is located within the United Kingdom. The manufacturing operations in Asia include facilities located in Dongguan and Ningbo, China. The company manufactures products using a system of lean manufacturing techniques collectively referred to as the Herman Miller Performance System (HMPS). Herman Miller strives to maintain efficiencies and cost savings by minimizing the amount of inventory on hand. Accordingly, production is order-driven with direct materials and components purchased as needed to meet demand. The standard lead time for the majority of our products is 10 to 20 days. These factors result in a high rate of inventory turns and typically cause our inventory levels to appear relatively low compared to sales volume.

A key element of the company's manufacturing strategy is to limit fixed production costs by sourcing component parts from strategic suppliers. This strategy has allowed the company to increase the variable nature of our cost structure while retaining proprietary control over those production processes that we believe provide us a competitive advantage. As a result of this strategy, our manufacturing operations are largely assembly-based.

The business is comprised of various operating segments as defined by generally accepted accounting principles in the United States (U.S. GAAP). The operating segments are determined on the basis of how the company internally reports and evaluates financial information used to make operating decisions. For external reporting purposes, the company has identified the following reportable segments:

North American Furniture Solutions - Includes the operations associated with the design, manufacture, and sale of furniture products for work-related settings, including office, education, and healthcare environments, throughout the United States and Canada. The North American Furniture Solutions reportable segment is the aggregation of two operating segments. In addition, the company has determined that both operating segments within the North American Furniture Solutions reportable segment represent reporting units.

ELA Furniture Solutions - During fiscal 2014, the company renamed its international reportable business segment ELA Furniture Solutions in order to better describe the geographic regions it serves, which include EMEA, Latin America, and Asia-Pacific. Prior to this name change, the company referred to this segment as "Non-North America." ELA Furniture Solutions includes the operations associated with the design, manufacture, and sale of furniture products, primarily for work-related settings, in these aforementioned geographic regions

Specialty and Consumer - Includes the operations associated with the design, manufacture, and sale of high-end furniture products and textiles including Geiger wood products, Maharam textiles, Herman Miller Collection products and the company's North American consumer retail business.

The company also reports a corporate category consisting primarily of unallocated corporate expenses including restructuring and impairment costs.

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Core Strengths
The company relies on the following core strengths in delivering workplace solutions to customers.

Brands - The Herman Miller brand is recognized by customers as a pioneer in design and sustainability, and as an advocate that supports their needs and interests. Within the industries the company operates, Herman Miller, Nemschoff, Geiger, Maharam, POSH, and Colbrook Bosson Saunders (CBS) are acknowledged as leading brands that inspire architects and designers to create their best design solutions. Leveraging the company's brand equity across the lines of business to extend the company's reach to customers and consumers is an important element of the company's business strategy.

Problem-Solving Design and Innovation - The company is committed to developing research-based functionality and aesthetically innovative new products and has a history of doing so, in collaboration with a global network of leading independent designers. The company believes its skills and experience in matching problem-solving design with the workplace needs of customers provides the company with a competitive advantage in the marketplace. An important component of the company's business strategy is to actively pursue a program of new product research, design, and development. The company accomplishes this through the use of an internal research and engineering staff, engaging with third party design resources generally compensated on a royalty basis.

Operational Excellence - The company was among the first in our industry to embrace the concepts of lean manufacturing. HMPS provides the foundation for all of our manufacturing operations. The company is committed to continuously improving both product quality and production and operational efficiency. The company has extended this lean process work to its non-manufacturing processes as well as externally to our manufacturing supply chain and distribution channel. The company believes these concepts hold significant promise for further gains in reliability, quality and efficiency.

Building and Leading Networks - The company values relationships in all areas of the business. The company considers its network of innovative designers, owned and independent dealers, and suppliers to be among the most important competitive factors and vital to the long-term success of the business.

Channels of Distribution
The company's products and services are offered to most of its customers under standard trade credit terms between 30 and 45 days and are sold through the following distribution channels.

Independent Contract Furniture Dealers - Most of the company's product sales are made to a network of independently owned and operated contract furniture dealerships doing business in many countries around the world. These dealers purchase the company's products and distribute them to end customers. The company recognizes revenue on product sales through this channel once products are shipped and title passes to the dealer. Many of these dealers also offer furniture-related services, including product installation.

Owned Contract Furniture Dealers - At May 31, 2014, the company owned 3 contract furniture dealerships, some of which have operations in multiple locations. The financial results of these owned dealers are included in our Consolidated Financial Statements. Product sales to these dealerships are eliminated as inter-company transactions from our consolidated financial results. The company recognizes revenue on these sales once products are shipped to the end customer and installation is substantially complete. The company believes independent ownership of contract furniture dealers is generally the best model for a financially strong distribution network. With this in mind, the company's strategy is to continue to pursue opportunities to transition the remaining owned dealerships to independent owners. Where possible, the goal is to involve local managers in these ownership transitions.

Direct Customer Sales - The company also sells products and services directly to end customers without an intermediary (e.g. sales to the U.S. federal government). In most of these instances, the company contracts separately with a dealership or third-party installation company to provide sales-related services. The company recognizes revenue on these sales once products are shipped and installation is substantially complete.

Independent Retailers - Certain products are sold to end customers through independent retail operations. Revenue is recognized on these sales once products are shipped and title passes to the independent retailer.

E-Commerce - The company sells products through its online store, in which products are available for sale via the company's website, hermanmiller.com. This site complements our existing methods of distribution and extends the company's brand to new customers. The company recognizes revenue on these sales upon shipment of the product.

Challenges Ahead
Like all businesses, the company is faced with a host of challenges and risks. The company believes its core strengths and values, which provide the foundation for its strategic direction, have us well prepared to respond to the inevitable challenges the company will face in the future. While the company is confident in its direction, the company acknowledges the risks specific to the business and industry. Refer to Item 1A for discussion of certain of these risk factors.

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Future Avenues of Growth
In spite of the risks and challenges it faces, the company believes it's well positioned to successfully pursue its mission: Inspiring designs to help people do great things. To find opportunities for growth, at Herman Miller we're always examining the ways in which the world is changing and evolving. This helps us better meet the needs of our customers and ultimately, to exceed their expectations. We have identified 3 areas of fundamental social and technological change that are informing our business strategy.

Globalization & Demographics - Demographic shifts in the global workforce are significantly changing how and where value creation happens. Not only will the millennial generation overtake the majority representation of the workforce by 2015, but economies that once relied on industrial production are increasingly becoming driven by knowledge work.

Inherently Global & Seamlessly Digital - The ubiquity of technology allows people to connect with other people, content, work, businesses, and ideas wherever and whenever they want. This means the way people work is changing, where people work is changing, and how people work with each other is changing.

The Era of Ideas - With the ongoing optimization of industrial production and information sharing, the demand for more innovative business solutions increases. The global focus of work is shifting to the successful generation and deployment of new ideas. As creativity and idea generation drive greater value - people, not process, provide the distinguishing capability. In this shift, workplaces are fundamentally changing from standardized and process-driven designs to diverse places that harness human capability, creativity, and relationships.

We have developed a strategy to grow our business by shifting our focus in four fundamental ares in response to these changes. Through these shifts we are positioning the company to take advantage of existing markets, explore growth opportunities in new markets with supportive demographics, increase demand by addressing unmet needs, and expanding into areas that yield higher prospects for margins and profitability. The four fundamental shifts are described below:

From Product Centric to Solutions - The first strategic shift is to move from a product centric focus to one based upon delivering broader solutions to our customers. Herman Miller is retooling its core business to speak to customers with fresh insights, to spur new demand, and to change the game with unique solutions and services.

From North America Centric to Global - The second shift in our strategy aims to transform the business into a truly global organization. Herman Miller has a solid existing customer base, but we see fantastic opportunity in emerging markets with supportive demographics. We're positioning ourselves to take maximum advantage of these shifts.

From The Office to Everywhere - We describe the third fundamental strategic shift as moving from the office to everywhere. Herman Miller envisions continued leadership and viability in the contract furniture industry, but also sees distinct targeted opportunities through focused market segmentation. We envision a total offering for customers to enable "a lifestyle of purpose."

From Industry brand to Industry + Consumer brand - The fourth shift in our strategy involves our ambition to expand the connection of our powerful brand more directly with the consumers of our products. With a legacy of decades of design leadership, Herman Miller is a brand that people desire and want to know. We envision a business that harnesses our brand vision to pull consumers to us.

We ultimately aspire to create a lifestyle brand, and we intend to grow in targeted ways. First, we will invest in areas that increase our addressable markets across focused customer segments (such as healthcare, education, small and medium business, and consumer). Second, we will expand into emerging geographic markets that offer growth potential based upon their supportive demographics. Third, we will continue to invest in innovative products, which has been a hallmark of our success for many years. And finally, we will grow through targeted acquisitions.

Industry Analysis
The Business and Institutional Furniture Manufacturer's Association (BIFMA) is the trade association for the U.S. domestic office furniture industry. The company monitors the trade statistics reported by BIFMA and considers them an indicator of industry-wide sales and order performance. BIFMA publishes statistical data for the contract segment and the office supply segment within the U.S. furniture market. The U.S. contract segment relates primarily to large to mid-size corporations installed via a network of dealers. The office supply segment relates primarily to smaller customers via wholesalers and retailers. The company primarily participates, and is a leader in, the contract segment. The company's diversification strategy lessens our dependence on the U.S. office furniture market.

The company also analyzes BIFMA statistical information as a benchmark comparison against the performance of the domestic U.S. business and also to that of competitors. The timing of large project-based business may affect comparisons to this data in any one period. Finally, BIFMA regularly provides its members with industry forecast information, which the company uses internally as one of several considerations in its short and long-range planning process.

Looking forward, the general economic outlook for our industry in the U.S. is expected to be positive. BIFMA issued its most recent report in May 2014, which forecasts that the growth rate of office furniture orders in the U.S. will be 4.9 percent and 9.5 percent in calendar 2014 and 2015, respectively, while the growth rate of shipments will be 4.8 percent and 8.8 percent for calendar 2014 and 2015, respectively. This forecasted growth is based on an improvement in the U.S. economy, primarily driven by an improvement in employment and non-residential construction.

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Discussion of Business Conditions
We finished fiscal 2014 with net sales of $1,882.0 million, which is an increase of 6.0 percent from fiscal 2013. The largest contributor to the growth in sales during the year was the recent acquisition of Maharam, which continues to prove its strategic value and operational excellence. Compared to the prior fiscal year, Maharam provided additional sales of approximately $96.5 million to our fiscal 2014 results. In addition to the integration and strong performance of Maharam, we made significant progress in a number of other important areas, including acquiring the manufacturing capabilities of POSH - our Chinese affiliate, continuing to build momentum on our Living Office initiative, and completing our plan to reduce balance sheet volatility by restructuring our retirement plans.

This year marked an important strategic step in expanding our international market coverage and fulfillment capability by completing the acquisition of a manufacturing and distribution operation in Dongguan, China. Going forward, this provides us with expanded operational capabilities and an established workforce of more than 850 employees to serve China and greater Asia. We also furthered our shift to solution-centered environments through the advancement of our Living Office initiative. At NeoCon, we displayed our Living Office, earning the International Interior Design Association's award for best large showroom. We also contributed approximately $48.8 million in order to complete the termination of our domestic defined benefit pension plan, improving the health of our balance sheet and giving us greater control and visibility of retirement plan costs to make further strategic investments and return more cash to our shareholders. To that end, we increased our quarterly shareholder dividend by 12% to $0.14 per share during the third quarter of fiscal 2014. This represented the third such action in the past two years, over which time we've raised the dividend payout by more than 500%. In spite of the increased spending related to the strategic initiative surrounding the pension termination, we delivered solid cash flows from operations of $90.1 million for fiscal 2014.

The results for fiscal 2014 reflect restructuring and impairment charges of $26.5 million. Of this amount, $21.4 million related to the impairment of intangible asset values associated with our Nemschoff and POSH trade names. This partial write-down of asset carrying values was required based upon our assessment of forecasted sales and earnings performance for these businesses - both of which continue to grow and contribute profits, though not to levels initially forecasted at their respective acquisition dates. It is important to note that the purchase consideration for both the POSH and Nemschoff acquisitions included forms of contingent consideration that decreased in value significantly, subsequent to their respective acquisition dates. This resulted in net purchase consideration that was markedly lower than the initial purchase accounting would have indicated for both POSH and Nemschoff. In short, the impairment expenses were largely offset by cumulative life-to-date reductions in the amounts potentially owed under the contingent consideration provisions.

Our North American Furniture Solutions segment continued to experience headwinds from reductions in U.S. federal government spending, as fiscal 2014 sales were lower than fiscal 2013 sales by approximately $12.0 million. However, U.S. federal government orders for the third and fourth quarters both showed year over year improvements, which was clearly a welcome sign to the business.

ELA Furniture Solutions experienced mixed demand in its markets, with strong sales in Europe, particularly the United Kingdom (U.K.), as well as Latin America. This was partially offset by lagging sales in the Asia Pacific region. Overall, we are generally encouraged by the improving fundamentals in Europe and parts of Asia, as well as the opportunities that we are seeing in Mexico and greater Latin America.

Our Specialty and Consumer segment posted solid sales growth this fiscal year, driven principally by Maharam. However, sales for the segment grew organically as well, through the continued growth of Herman Miller Collection and our consumer focused business, which sells through independent retail distributors and our own e-commerce platforms. The investments we've made in the continued development of our channels to market, including the investment in our online marketing and fulfillment capabilities, have been a primary factor in this growth.

Subsequent to the end of the fiscal year, we made a significant move in expanding our reach into the consumer market with the acquisition of Design Within Reach, Inc. The transaction closed on July 28, 2014 and additional information is available in Note 18 to the Consolidated Financial Statements.

As we head into fiscal year 2015, there are a number of encouraging signs within the macroeconomic environment of the business. In North America, we are encouraged by what continues to be a generally improving economic backdrop that is highlighted by healthy service sector employment levels, stabilizing U.S. federal government demand, positive trends in non-residential construction, and an improvement in the AIA Architecture Billings Index. Internationally the picture also appears to be improving, with more encouraging signals from the UK and Europe and greater stability in parts of Asia. Of course there are still areas of concern, particularly given the unfolding geopolitical events in the Ukraine and more recently the Middle East. In total, however, we appear to be in a period of improving industry dynamics and are optimistic about the overall direction and momentum of the business.

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Reconciliation of Non-GAAP Financial Measures This report contains Adjusted operating earnings measures and Adjusted earnings per share - diluted that are Non-GAAP financial measures. Adjusted operating earnings and Adjusted earnings per share - diluted are calculated by excluding from Operating earnings and Earnings per share - diluted items that we believe are not indicative of our ongoing operating performance. Such items consist of the following:
Expenses associated with restructuring actions taken to adjust our cost structure to the current business climate

Transition-related expenses, including amortization and settlement expenses, relating to defined benefit pension plans that we have terminated

Increases in cost of sales related to the fair value step-up of inventories acquired

Non-cash impairment expenses, and

Changes in contingent consideration

We present Adjusted operating earnings and Adjusted earnings per share - diluted because we consider them to be important supplemental measures of our performance and believe them to be useful in analyzing ongoing results from operations. Adjusted operating earnings and Adjusted earnings per share - diluted are not measurements of our financial performance under GAAP and should not be considered an alternative to Operating earnings (loss) and Earnings
(loss) per share - diluted under GAAP. Adjusted operating earnings and Adjusted earnings per share - diluted have limitations as analytical tools and should not be considered in isolation or as a substitute for analysis of our results as reported under GAAP. In addition, in evaluating Adjusted operating earnings and Adjusted earnings per share - diluted, you should be aware that in the future we may incur expenses similar to the adjustments in this presentation. Our presentation of Adjusted operating earnings and Adjusted earnings per share - diluted should not be construed as an indication that our future results will be unaffected by unusual or infrequent items. We compensate for these limitations by providing prominence of our GAAP results and using Adjusted operating earnings and Adjusted earnings per share - diluted only as a supplement.

The following table reconciles Operating earnings (loss) to Adjusted operating earnings for the years indicated.

                                                Fiscal Year Ended
(Dollars In millions)                      May 31, 2014    June 1, 2013
Operating earnings (loss)                 $      (25.7 )  $      114.9
Percentage of net sales                           (1.4 )%          6.5 %
Add: Restructuring and impairment expense         26.5             1.2
Add: Inventory step-up                             1.4               -
Add: Legacy pension expenses (1)                 164.4            28.2
Less: POSH contingent consideration               (2.6 )             -
Adjusted operating earnings               $      164.0    $      144.3
Percentage of net sales                            8.7  %          8.1 %

The following table reconciles Earnings (loss) per share - diluted to Adjusted earnings per share - diluted for the years indicated.

                                                Fiscal Year Ended
                                           May 31, 2014   June 1, 2013
Earnings (loss) per share - diluted       $     (0.37 )  $         1.16
Add: Restructuring and impairment expense        0.32              0.01
Add: Inventory step-up                           0.01                 -
Add: Legacy pension expenses (1)                 1.76              0.30
Less: POSH contingent consideration             (0.04 )               -
Adjusted earnings per share - diluted     $      1.68    $         1.47

(1) At the end of fiscal 2012, the company modified the asset allocations strategy of its U.S. defined benefit pension plans. This change was made in response to the decision to close and ultimately terminate these plans. Legacy pension expenses are included as an adjustment to Operating earnings (loss) and Earnings (loss) per share - diluted only in periods subsequent to this change in allocation.

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Financial Results
The following is a comparison of our annual results of operations and
year-over-year percentage changes for the periods indicated.
(Dollars In millions)    Fiscal 2014     % Change from    Fiscal 2013     % Change from      Fiscal 2012
                           52 weeks          2013           52 weeks           2012           53 weeks
Net sales               $    1,882.0         6.0  %      $    1,774.9         2.9  %       $     1,724.1
Cost of sales                1,251.0         7.0  %           1,169.7         3.2  %             1,133.5
Gross margin                   631.0         4.3  %             605.2         2.5  %               590.6
Operating expenses             656.7        33.9  %             490.3         8.2  %               453.0
Operating earnings
(loss)                         (25.7 )    (122.4 )%             114.9       (16.5 )%               137.6
Net other expenses              17.7           -  %              17.7        (2.2 )%                18.1
Earnings (loss) before
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