CONTINENTAL MATERIALS CORPORATION COMPANY OVERVIEW
The Company experienced various changes in 2019 including the sale of
substantially all the assets of its ready-mix concrete and
The HVAC segment produces and sells a variety of products including wall
furnaces, fan coils, evaporative coolers, boiler room equipment, dryer boxes,
and related accessories from the Company's wholly-owned subsidiaries,
In addition to the above reporting segments, an "Unallocated Corporate" classification is used to report the unallocated expenses of the corporate office which provides treasury, insurance, property and tax services as well as strategic business planning and general management services. Expenses related to the corporate information technology group are allocated to all locations, including the corporate office. This classification also holds one property owned by the Company.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
Cash provided by continuing operations during 2019 was
Cash provided by continuing operations in 2018 was
Investing activities provided
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During 2019, the Company repaid
Certain products within the Company's portfolio are seasonal, primarily furnaces
and evaporative coolers in the HVAC segment which are sensitive to weather
conditions particularly during their respective peak selling seasons. Other
products within the HVAC segment, specifically fan-coils and dryer boxes, and
Door segment sales are, to a significant extent, dependent on construction
activity. Historically, the Company has experienced operating losses during the
first quarter and typically improved in the second and third quarters reflecting
more favorable weather conditions for legacy products. Fourth quarter results
have typically varied based on weather conditions affecting the Company's
discontinued operations as well as in the principal markets for the Company's
heating equipment. The sale of the Company's ready-mix and
Historically, the Company would typically experience operating cash flow deficits during the first half of the year reflecting operating results, the use of sales dating programs (extended payment terms) related to the HVAC segment and payment of the prior year's accrued incentive bonuses and Company profit-sharing contributions, if any. As a result, the Company's borrowings against its revolving credit facility tended to peak during the second quarter and then decline over the remainder of the year. In the current year, a legal settlement and the sale of TMC assets in the first quarter provided sufficient cash reserves such that borrowings against the revolving credit facility were significantly less than historical experience. The cash reserves allowed the Company to complete the acquisitions of four operating businesses without taking on additional debt. The divestiture and acquisition activity is expected to smooth cash flow over the course of the fiscal year and result in more consistent levels of borrowings throughout future years.
Revolving Credit and Term Loan Agreement
The Company entered into a Second Amended and Restated Credit Agreement (the
"Credit Agreement") effective
The Credit Agreement either limits or requires prior approval by the lender of additional borrowings, acquisition of stock of other companies, purchase of treasury shares and payment of cash dividends. Payment of accrued interest is due monthly or at the end of the applicable LIBOR period.
The Credit Agreement as amended provides for the following:
· The Revolving Commitment is
· Borrowings under the Revolving Commitment are limited to (a) 85% of eligible
accounts receivable, (b) the lesser of 60% of eligible inventories and
· Financial Covenants include:
o Minimum EBITDA for the three months ending
o Minimum EBITDA for the three months ending
o The Minimum Fixed Charge Coverage Ratio is not permitted to be below 1.06 to
1.0 for each computation period measured at the end of each fiscal quarter,
provided that the Fixed Charge Coverage Ratio shall not be tested if the
average daily Excess Availability during the
A computation period is the nine months ending
months for all subsequent fiscal quarters.
· The maturity date of the credit facility is
· Interest rate pricing for the revolving credit facility is currently LIBOR plus
2.0% or the prime rate.
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Definitions under the Credit Agreement as amended are as follows:
· Fixed Charge Coverage Ratio means, for any Computation Period, the ratio of (a)
the sum (without duplication) for such period of (i) EBITDA, minus (ii) income
taxes paid in cash by the Loan Parties, minus (iii) all unfinanced Capital
Expenditures, minus (iv) all amounts paid in cash in respect of any Permitted
Capital Securities Repurchase, to (b) the sum for such period of (i) cash
Interest Expense, plus (ii) scheduled payments of principal of Funded Debt
(excluding the Revolving Loans), plus (iii) cash payments made in respect of
Capital Leases, plus (iv) the amount by which reclamation or similar costs paid
in such period exceed the cash proceeds received from the sale of quarry assets
and cash refunds of escrow balances; provided, however that for purposes
hereof, to the extent during any period there are excess cash proceeds from the
sale of quarry assets after netting such proceeds against the reclamation or
similar costs in such period, such excess cash proceeds may be carried forward
and netted against the reclamation or similar costs in a later period, plus (v)
all amounts paid in respect of any earnout or other deferred payment in
connection with any Permitted Acquisition.
· EBITDA means, for any Computation Period (or another time period to the extent
expressly provided herein), the sum of the following with respect to the
Company and its Subsidiaries each as determined in accordance with GAAP:
· Consolidated Net Income, plus (without duplication) each of the following items
to the extent deducted in determining such Consolidated Net Income:
i. federal, state and other income taxes deducted in the determination of
Consolidated Net Income;
ii. Interest Expense deducted in the determination of Consolidated Net Income;
iii. depreciation, depletion and amortization expense deducted in the
determination of Consolidated Net Income;
iv. non-recurring fees and costs paid by the Company and its Subsidiaries in
respect of the following: (i) fees, expenses (including legal fees and
expenses) and due diligence costs associated with Permitted Acquisitions,
whether or not consummated; (ii) legal fees and costs associated with the
Valco trial preparation; (iii) fees, costs and expenses (including legal fees
and expenses) in connection with the amendment and restatement of this
agreement and all matters reasonably related thereto; (iv) fees, costs and
expenses (including legal fees and expenses) in connection with the purchase
of Capital Securities of the Company by Bee Street Holdings LLC or a
Subsidiary thereof and transactions and other matters reasonably related
thereto; (v) additional fees and costs associated with the exploration of the
Hitch Rack Ranch facility in Colorado Springs, Colorado to determine the
sustainability for mining and the pursuit of mining permits; and (vi) fees,
costs and expenses in connection with reclamation or similar transactions
related to the sale of quarry assets;
v. any other non-cash charges and any extraordinary charges deducted in the
determination of Consolidated Net Income, including any asset impairment
charges (including write downs of goodwill); and
vi. the amount of any earnout or other deferred payment paid in connection with
any Permitted Acquisition; minus
· any gains from Asset Dispositions, any extraordinary gains and any gains from
discontinued operations included in the determination of Consolidated Net
Income
Outstanding funded revolving debt was
The Company believes that its existing cash balance, anticipated cash flow from operations and borrowings available under the Credit Agreement will be sufficient to cover expected cash needs, including planned capital expenditures, for
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the next twelve months. The Company expects to be in compliance with all debt covenants, as amended, throughout the facility's remaining term.
Insurance Policies
The Company maintains insurance policies with the following per incident deductibles and policy limits:
Per Occurrence Policy Aggregate
Deductible Limits Limits
Product liability $ 250,000 $ 1,000,000 $ 2,000,000
General liability 250,000 1,000,000 5,000,000
Workers' compensation 350,000 350,000 Statutory
Auto and truck liability 100,000 2,000,000 No limit
Should any or all policy limits be exceeded, the Company maintains umbrella
policies which cover the next
Off-Balance Sheet Arrangements
The Company has not entered into any off-balance sheet arrangements that are
likely to have a material current or future effect on our financial condition,
revenues, expenses, results of operations, liquidity, capital expenditures or
capital resources other than the effect, during the first quarter of 2019, from
the implementation of ASU No. 2016-02, Leases (Topic 842). The implementation of
the ASU resulted in the recognition of operating right-of-use assets of
Cybersecurity Risks and Incidents
The Company is dependent upon the capacity, reliability and security of our information technology (IT) systems for our manufacturing, sales, financial and administrative functions. We also face the challenge of supporting our IT systems and implementing upgrades when necessary, including the prompt detection and remediation of any cybersecurity breaches.
Our IT systems' security measures are focused on the prevention, detection and
remediation of damage from computer viruses, natural disaster, unauthorized
access, cyber-attack and other similar disruptions. However, our IT systems
remain vulnerable to intrusion and damage despite our implementation of security
measures that we feel protect our IT systems. To date, we are not aware of any
cybersecurity breaches that have negatively impacted our manufacturing
operations, sales or financial and administrative functions or that resulted in
the compromise of personal information of our employees, customers or suppliers.
Should we learn of such a breach, the Company would promptly notify the
RESULTS OF OPERATIONS
In the ensuing discussions of the results of operations, we define the term gross profit as the amount determined by deducting cost of sales before depreciation, depletion and amortization from sales. The gross profit ratio is gross profit divided by sales.
DISCUSSION OF CONSOLIDATED RESULTS OF OPERATIONS
2019 vs. 2018
Consolidated sales in 2019 were
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The consolidated gross profit ratio in 2019 was 21.7% compared to 22.7% for 2018. The Door Segment and HVAC segments reported increases in gross profit while the Construction Material segment reported a decrease in gross profit primarily due to the charges associated with the decision to cease mining operations at the Pikeview quarry.
Selling and administrative expenses were
Depreciation and amortization charges were
2019 included an aggregated charge of
The Company recognized a net
2019 included
The Company reported an operating loss in 2019 of
Interest income in 2019 was
The Company's effective income tax rate reflects federal and state statutory income tax rates adjusted for non-deductible expenses, tax credits and other tax items. The effective income tax rate related to the net loss for 2019 and 2018 was a benefit of 23.7% and 27.2%, respectively.
The Company operates businesses within the Building Products industry group. The businesses are grouped into three reportable segments. The following addresses various aspects of operating performance focusing on the reportable segments.
DISCUSSION OF CONSOLIDATED RESULTS OF DISCONTINUED OPERATIONS
The results of discontinued operations reflect the operations of the ready-mix
and
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HVAC Segment Group The table below presents a summary of operating information for the HVAC segment group for the fiscal years 2019 and 2018 (amounts in thousands).
Year Ended
DECEMBER 28, DECEMBER 29,
2019 2018
Revenues from external customers $ 82,149 $ 73,478
Segment gross profit 19,706 14,876
Gross profit as percent of sales 24.0 % 20.2 %
Segment operating income $ 948 $ 931
Operating income as a percent of sales 1.2 % 1.3 %
Segment assets $ 50,822 $ 29,003
Return on assets 1.9 % 3.2 %
2019 vs. 2018
Sales in the HVAC segment increased
The HVAC segment's gross profit ratio increased to 24.0% in 2019 from 20.2% in 2018. The increase was primarily due to impact of the acquisitions noted above.
Selling and administrative expenses in 2019 were
Certain businesses in the HVAC group are sensitive to changes in the prices for a number of different raw materials, commodities and purchased parts. Prices of steel and copper in particular can have a significant effect on the results of operations of this group. The Company is not currently a party to any hedging arrangements with regard to steel or copper.
Door Segment Group
The table below presents a summary of operating information for the Door Segment group for the fiscal years 2019 and 2018 (amounts in thousands).
Year Ended
DECEMBER 28, DECEMBER 29,
2019 2018
Revenues from external customers $ 24,369 20,158
Segment gross profit 7,062 5,656
Gross profit as percent of sales 29.0 % 28.1 %
Segment operating income $ 2,174 2,233
Operating income as a percent of sales 8.9 % 11.1 %
Segment assets $ 14,248 8,003
Return on assets 15.3 % 27.9 %
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2019 vs. 2018
The Door segment sells hollow metal doors, door frames and related hardware, wood doors, sliding door systems, lavatory fixtures and electronic access and security systems. Nearly all of the Door segments sales are for commercial and institutional buildings such as schools, hotels, and healthcare facilities. Approximately 65% to 70% of the sales of the Door segment are related to jobs obtained through a competitive bidding process. Bid prices may be higher or lower than bid prices on similar jobs in the prior year. The Door segment does not track unit sales of the various products through its accounting or management reporting, but instead tracks gross profit by job. Management relies on the trend in sales and the gross profit rate by job and in the aggregate in managing the business.
Door sales in 2019 were
Selling and administrative expenses increased by
The table below presents a summary of operating information for the Construction
Materials segment group for the fiscal years 2019 and 2018 (amounts in
thousands).
Year Ended
DECEMBER 28, DECEMBER 29,
2019 2018
Revenues from external customers $ 6,751 $ 7,150
Segment gross (loss) profit (2,222) 2,220
Gross (loss) profit as percent of sales (32.9) % 31.0 %
Segment operating loss $ (18,492) $ (7,878)
Operating loss as a percent of sales (273.9) % (110.2) %
Segment assets $ 10,463 $ 11,315
Return on assets (176.7) % (69.6) %
The ready-mix concrete and
Management made a strategic decision to cease mining operations at the Pikeview
quarry at the end of the third quarter of 2019 when it was determined that
continued mining was not in the best economic interests of the consolidated
portfolio. The third quarter 2019 included a
Prior to the decision to cease mining operations, the CACS segment produced and
sold sand, crushed limestone and gravel (collectively "aggregates") from
deposits in and around
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decreased in 2019 compared to 2018 primarily attributable to the Grisenti pit
being fully mined and the ensuing work to complete reclamation with minimal
sales. Sales at the Pikeview quarry were nominal in 2019 as the Company
prioritized completing the reclamation at Grisenti. In 2018, the aggregate
operations supplied the ready-mix business with
Selling and administrative expenses were
The fiscal year ended
Gains on disposition of assets were
In connection with the movement to full reclamation status at all mining
properties in 2019, management completed an assessment to determine if certain
assets should be considered held for sale. Based on this assessment,
OUTLOOK
The Company's HVAC segment anticipates growth in 2020 sales due to the impact of a full year of the operations acquired in 2019. Fan coil sales are expected to increase due to continued construction spending in the lodging industry and investments made in sales and marketing during 2019. Sales of furnaces, heaters and evaporative coolers are primarily for replacement purposes and therefore are not heavily reliant on new construction. Sales of these products are generally dependent on the overall strength of the economy, especially employment levels. Sales of ASME tanks, hydronics accessories and dryer related products are dependent on construction levels, which are expected to grow in 2020.
Sales in the Door segment are expected to increase in 2020 due to full year impact of the operations acquired in 2019. Sales are somewhat dependent on the level of commercial construction activity, which is also expected to grow in 2020.
Sales in the Construction Materials segment are expected to remain consistent
with 2019. Sales are dependent upon the level of commercial construction
activity in the
CRITICAL ACCOUNTING POLICIES
The Company annually assesses goodwill for potential impairment as of the last day of its fiscal year. In addition, to the extent that events occur, either involving the relevant reporting unit or in their industries, the Company revisits its assessment of the recorded goodwill to determine if impairment has occurred and should be recognized. As of December
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28, 2019, the Company had recorded
In connection with acquisition activity in 2019, the Company recorded
The Company follows ASU 2017-04, Intangibles -
Management prepared a discounted cash flow (DCF) valuation to estimate the fair value of each reporting unit. The DCF valuation was calculated using an appropriate discount rate. The calculated fair values were compared to the reporting unit's carrying value including goodwill. In each case the fair value exceeded carrying costs resulting in no impairment. See additional discussion in Note 1.
Long-lived Assets (other than
The Company reviews long-lived assets by asset group for impairment whenever
events or changes in circumstances indicate that the related carrying amounts
may not be recoverable. Determining whether impairment has occurred typically
requires various estimates and assumptions, including determining which cash
flows are directly related to the potentially impaired asset, the amount and
useful life over which cash flows will occur and the asset's residual value, if
any. In turn, measurement of an impairment loss requires a determination of fair
value, which is based on the best information available given the Company's
historical experience and internal business plans. In 2019, the Company
recognized
Liabilities
The Company purchases insurance coverage for workers' compensation, general product and automobile liability, retaining certain levels of risk (self-insured portion). See the above section titled "Insurance Policies" for information related to per incident deductibles and policy limits. Provision for workers' compensation claims is estimated by management based on information provided by the independent third party administrator and periodic review of all outstanding claims. The Company's independent claims administrator tracks all claims and assigns a liability to each individual claim based upon facts known at the time of estimation. In addition, management periodically reviews each individual claim with both the third party claims administrator and legal counsel and the third party administrator revises the estimated liability accordingly. The Company also retains an independent expert who applies actuarial methodology to the claims data provided by the Company's independent claims administrator to estimate the ultimate aggregate settlement amount of the claims using specific loss development factors based on the Company's prior experience. The Company then establishes its reserve for workers' compensation claims based upon the actuarial evaluation and management's knowledge of the outstanding claims. Management tracks changes to the incurred and paid amounts of individual workers compensation claims up to the date of final closure. In recent years, the net amounts that the claims have ultimately settled for have indicated that the reserve recorded by the Company has been sufficient.
With regard to product liability, provisions for both claims and un-asserted claims that would be covered under the self-insured portion of the policies are reviewed as circumstances dictate, at least annually, and are recorded in accordance
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with accounting guidance on contingent liabilities provided in the FASB Accounting Standards Codification (Codification). Management also incorporates information from discussions with legal counsel handling the individual claims when revising its estimates. Provision for automobile claims is estimated based upon information provided by the Company's independent claims administrator and the Company's own experience. The number of automobile claims and the amounts involved are generally not material. Historically, there have not been many instances of significant variances between actual final settlements and our estimates regarding automobile and product liability claims.
The Company has recorded an estimate of liability for final reclamation of its
mining properties in the
Management believes that the assumptions and estimates used to determine the reserve are reasonable; however, changes in the aforementioned assumptions and estimates, as well as the effects of unknown future events or circumstances, including legislative requirements, could materially affect estimated costs.
Sales
The Company recognizes revenue as performance obligations to customers are met. Sales are recorded net of estimates of applicable provisions for discounts, volume incentives, returns and allowances based upon current program terms and historical experience. At the time of revenue recognition, the Company also provides an estimate of potential bad debt and warranty expense as well as an amount anticipated to be granted to customers under cooperative advertising programs based upon current program terms and historical experience. Additionally, certain HVAC companies offer discounts for early payment of amounts due under dating and other extended payment programs. The Company records reserves for these items based upon historical experience.
Guidance provided by the Codification mandates that cash consideration (including sales incentives) given by a vendor to a customer is presumed to be a reduction of the selling prices of the vendor's products or services unless both of the following conditions are met: a) the vendor receives an identifiable benefit in exchange for the consideration and b) the vendor can reasonably estimate the fair value of the benefit. Under this guidance, volume incentives and customer discounts provided to our customers are presumed to be a reduction in the selling price of our products and accordingly we record these as a reduction of gross sales. We require that our customers submit proof of both the advertisement and the cost of the advertising expenditure before we allow a deduction for cooperative advertising. Since the Company receives an identifiable and quantifiable benefit, these costs are recorded as selling and administrative expenses. These programs did not have a material effect on operations in 2019 or 2018.
Recently Issued Accounting Standards
The "Recently Issued Accounting Pronouncements" section of Note 1 discusses new accounting policies adopted by the Company since 2018 and the expected impact of accounting pronouncements recently issued but not yet required to be
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adopted. To the extent the adoption of new accounting standards has an effect on our financial condition, results of operations or liquidity, the impacts are discussed in the applicable notes to the Consolidated Financial Statements.
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