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TWIN Twin Disc

Filed: 4 May 21, 8:30am
 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

Form 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarter ended March 26, 2021

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number 1-7635

 

 

TWIN DISC, INCORPORATED

(Exact name of registrant as specified in its charter)

 

Wisconsin

39-0667110

(State or other jurisdiction of

(I.R.S. Employer

Incorporation or organization)

Identification No.)

 

1328 Racine Street, Racine, Wisconsin 53403

(Address of principal executive offices)

 

(262) 638-4000

(Registrant's telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Exchange Act:

 

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Common Stock (No Par Value)

TWIN

The NASDAQ Stock Market LLC

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.

Yes ☑               No☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).                 Yes ☑               No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer ☐Accelerated Filer ☑
Non-accelerated filer ☐Smaller reporting company ☑
Emerging growth company☐ 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ☐               No ☑

 

At April 28, 2021, the registrant had 13,647,116 shares of its common stock outstanding.

 

 

 
 
 

Part I.                  FINANCIAL INFORMATION

 

Item 1.   Financial Statements

TWIN DISC, INCORPORATED

CONDENSED CONSOLIDATED BALANCE SHEETS

(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

(UNAUDITED)

 

  

March 26, 2021

  

June 30, 2020

 
         

ASSETS

        

Current assets:

        

Cash

 $11,594  $10,688 

Trade accounts receivable, net

  31,309   30,682 

Inventories

  116,693   120,607 

Prepaid expenses

  5,478   5,269 

Other

  7,781   6,739 

Total current assets

  172,855   173,985 
         

Property, plant and equipment, net

  75,607   72,732 

Intangible assets, net

  17,420   18,973 

Deferred income taxes

  29,261   24,445 

Other assets

  3,340   3,992 
         

Total assets

 $298,483  $294,127 
         

LIABILITIES AND EQUITY

        

Current liabilities:

        

Current maturities of long-term debt

 $2,000  $4,691 

Accounts payable

  25,756   25,663 

Accrued liabilities

  41,123   36,380 

Total current liabilities

  68,879   66,734 
         

Long-term debt

  39,226   37,896 

Lease obligations

  17,352   13,495 

Accrued retirement benefits

  24,977   27,938 

Deferred income taxes

  5,217   5,501 

Other long-term liabilities

  1,979   2,605 
         

Total liabilities

  157,630   154,169 
         

Commitments and contingencies (Note D)

          
         

Equity:

        

Twin Disc shareholders' equity:

        

Preferred shares authorized: 200,000; issued: none; no par value

  0   0 

Common shares authorized: 30,000,000; issued: 14,632,802; no par value

  40,446   42,756 

Retained earnings

  148,457   156,655 

Accumulated other comprehensive loss

  (33,646)  (41,226)
   155,257   158,185 

Less treasury stock, at cost (985,686 and 1,226,809 shares, respectively)

  15,106   18,796 
         

Total Twin Disc shareholders' equity

  140,151   139,389 
         

Noncontrolling interest

  702   569 
         

Total equity

  140,853   139,958 
         

Total liabilities and equity

 $298,483  $294,127 

 

The notes to condensed consolidated financial statements are an integral part of these statements.

 

2

 

 

 

TWIN DISC, INCORPORATED

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

(IN THOUSANDS, EXCEPT PER SHARE DATA)

(UNAUDITED)

 

  

For the Quarter Ended

  

For the Three Quarters Ended

 
  

March 26, 2021

  

March 27, 2020

  

March 26, 2021

  

March 27, 2020

 
                 

Net sales

 $57,640  $68,636  $152,377  $187,462 

Cost of goods sold

  43,678   52,087   119,835   145,566 

Gross profit

  13,962   16,549   32,542   41,896 
                 

Marketing, engineering and administrative expenses

  13,196   15,349   39,000   48,106 

Restructuring expenses

  251   532   777   4,902 

Goodwill and other impairment charge

  0   27,603   0   27,603 

Income (loss) from operations

  515   (26,935)  (7,235)  (38,715)
                 

Interest expense

  606   488   1,769   1,324 

Other expense (income), net

  (557)  898   2,314   1,618 
   49   1,386   4,083   2,942 
                 

Income (loss) before income taxes and noncontrolling interest

  466   (28,321)  (11,318)  (41,657)

Income tax expense (benefit)

  300   (3,145)  (3,267)  (3,722)
                 

Net income (loss)

  166   (25,176)  (8,051)  (37,935)

Less: Net earnings attributable to noncontrolling interest, net of tax

  (72)  (54)  (147)  (122)
                 

Net income (loss) attributable to Twin Disc

 $94  $(25,230) $(8,198) $(38,057)
                 

Income (loss) per share data:

                

Basic income (loss) per share attributable to Twin Disc common shareholders

 $0.01  $(1.92) $(0.62) $(2.89)

Diluted income (loss) per share attributable to Twin Disc common shareholders

 $0.01  $(1.92) $(0.62) $(2.89)
                 

Weighted average shares outstanding data:

                

Basic shares outstanding

  13,269   13,175   13,240   13,147 

Diluted shares outstanding

  13,295   13,175   13,240   13,147 
                 

Comprehensive loss

                

Net income (loss)

 $166  $(25,176) $(8,051) $(37,935)

Benefit plan adjustments, net of income taxes of $177, $490, $529 and $828, respectively

  583   1,593   1,691   2,698 

Foreign currency translation adjustment

  (3,008)  (1,266)  5,503   (2,615)

Unrealized gain (loss) on cash flow hedge, net of income taxes of $60, $178, $115 and $177, respectively

  193   (582)  372   (579)

Comprehensive loss

  (2,066)  (25,431)  (485)  (38,431)

Less: Comprehensive income attributable to noncontrolling interest

  (34)  (46)  (133)  (132)
                 

Comprehensive loss attributable to Twin Disc

 $(2,100) $(25,477) $(618) $(38,563)

 

The notes to condensed consolidated financial statements are an integral part of these statements.

 

3

 

 

 

TWIN DISC, INCORPORATED

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

(UNAUDITED)

 

  

For the Three Quarters Ended

 
  

March 26, 2021

  

March 27, 2020

 
         

Cash flows from operating activities:

        

Net loss

 $(8,051) $(37,935)

Adjustments to reconcile net loss to net cash provided by operating activities, net of acquired assets:

        

Depreciation and amortization

  8,366   8,917 

Restructuring expenses

  215   2,556 

Goodwill and other impairment charge

  0   27,603 

Provision for deferred income taxes

  (6,052)  (6,225)

Stock compensation expense and other non-cash changes, net

  1,934   859 

Net change in operating assets and liabilities

  8,603   9,556 
         

Net cash provided by operating activities

  5,015   5,331 
         

Cash flows from investing activities:

        

Acquisitions of fixed assets

  (3,851)  (9,155)

Proceeds from sale of fixed assets

  76   109 

Proceeds on note receivable

  700   0 

Other, net

  (18)  (27)
         

Net cash used by investing activities

  (3,093)  (9,073)
         

Cash flows from financing activities:

        

Borrowings under revolving loan arrangement

  56,463   78,597 

Repayments of revolver loans

  (58,497)  (76,805)

Repayments of other long term debt

  (411)  (1,164)

Payments of withholding taxes on stock compensation

  (224)  (913)

Dividends paid to noncontrolling interest

  0   (127)
         

Net cash used by financing activities

  (2,669)  (412)
         

Effect of exchange rate changes on cash

  1,653   226 
         

Net change in cash

  906   (3,928)
         

Cash:

        

Beginning of period

  10,688   12,362 
         

End of period

 $11,594  $8,434 

 

The notes to condensed consolidated financial statements are an integral part of these statements.

 

4

 

 

TWIN DISC, INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)

(UNAUDITED)

 

 

A.

Basis of Presentation

 

The unaudited condensed consolidated financial statements have been prepared by Twin Disc, Incorporated (the “Company”) pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and, in the opinion of the Company, include adjustments, consisting primarily of normal recurring items, necessary for a fair statement of results for each period. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such SEC rules and regulations. The Company believes that the disclosures made are adequate to make the information presented not misleading. It is suggested that these financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s Annual Report filed on Form 10-K for June 30, 2020. The year-end condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States.

 

Recently Adopted Accounting Standards

 

In August 2018, the Financial Accounting Standards Board (“FASB”) issued updated guidance (ASU 2018-13) as part of the disclosure framework project, which focuses on improving the effectiveness of disclosures in the notes to the financial statements. The amendments in this update modify the disclosure requirements on fair value measurements in Topic 820, Fair Value Measurement. The Company adopted this guidance effective July 1, 2020. The adoption of this guidance did not have a material impact on the Company’s financial statements and disclosures.

 

In August 2018, the FASB issued updated guidance (ASU 2018-14) intended to modify the disclosure requirements for employers that sponsor defined benefit pension or postretirement plans. The Company adopted this guidance effective July 1, 2020. The adoption of this guidance did not have a material impact on the Company’s financial statements and disclosures.

 

New Accounting Releases

 

In June 2016, the FASB issued updated guidance (ASU 2016-13) and also issued subsequent amendments to the initial guidance under ASU 2018-19, ASU 2019-04, ASU 2019-05 and ASU 2019-10 (collectively Topic 326). Topic 326 requires the measurement and recognition of expected credit losses for financial assets held at amortized cost. This replaces the existing incurred loss model with an expected loss model and requires the use of forward-looking information to calculate credit loss estimates. The amendments in this guidance are effective for filers, excluding smaller reporting companies, for fiscal years beginning after December 15, 2019, and for smaller reporting companies for fiscal years beginning after December 15, 2022 (the Company’s fiscal 2024), with early adoption permitted for certain amendments. Topic 326 must be adopted by applying a cumulative effect adjustment to retained earnings. The Company is currently evaluating the potential impact of this guidance on the Company’s disclosures.

 

In December 2019, the FASB issued guidance (ASU 2019-12) intended to simplify the accounting for income taxes. The amendments in this guidance are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020 (the Company’s fiscal 2022), with early adoption permitted. The Company is currently evaluating the potential impact of this guidance on the Company’s disclosures.

 

In March 2020 and January 2021, the FASB issued guidance (ASU 2020-04 and ASU 2021-01, respectively), intended to provide optional expedients and exceptions for applying generally accepted accounting principles to contracts, hedging relationships, and other transactions affected by the discontinuation of the London Interbank Offered Rate (“LIBOR”) or by another reference rate expected to be discontinued. The amendments in this guidance are effective beginning on March 12, 2020, and the Company may elect to apply the amendments prospectively through December 31, 2022. The Company is currently evaluating the potential impact of this guidance on the Company’s financial statements and disclosures.

 

5

 

Special Note Regarding Smaller Reporting Company Status

 

Under SEC Release 33-10513; 34-83550, Amendments to Smaller Reporting Company Definition, the Company qualifies as a smaller reporting company and accordingly, it has scaled some of its disclosures of financial and non-financial information in this quarterly report. The Company will continue to determine whether to provide additional scaled disclosures of financial or non-financial information in future quarterly reports, annual reports and/or proxy statements if it remains a smaller reporting company under SEC rules.

 

 

B.

Inventories

 

The major classes of inventories were as follows:

 

 

  

March 26, 2021

  

June 30, 2020

 

Inventories:

        

Finished parts

 $60,040  $62,394 

Work in process

  19,001   17,844 

Raw materials

  37,652   40,369 
  $116,693  $120,607 

 

 

C.

Warranty

 

The Company engages in extensive product quality programs and processes, including actively monitoring and evaluating the quality of its suppliers. However, its warranty obligation is affected by product failure rates, the number of units affected by the failure and the expense involved in satisfactorily addressing the situation. The warranty reserve is established based on our best estimate of the amounts necessary to settle future and existing claims on products sold as of the balance sheet date. When evaluating the adequacy of the reserve for warranty costs, management takes into consideration the term of the warranty coverage, historical claim rates and costs of repair, knowledge of the type and volume of new products and economic trends. While we believe the warranty reserve is adequate and that the judgment applied is appropriate, such amounts estimated to be due and payable in the future could differ materially from what actually transpires. The following is a listing of the activity in the warranty reserve for the quarters and three quarters ended March 26, 2021 and March 27, 2020:

 

  

For the Quarter Ended

  

For the Three Quarters Ended

 
  

March 26, 2021

  

March 27, 2020

  

March 26, 2021

  

March 27, 2020

 

Reserve balance, beginning of period

 $4,474  $5,775  $4,460  $3,736 

Current period expense and adjustments

  805   3,127   2,550   9,255 

Payments or credits to customers

  (995)  (2,973)  (2,814)  (7,039)

Translation

  (28)  (9)  60   (32)

Reserve balance, end of period

 $4,256  $5,920  $4,256  $5,920 

 

Included in expense in the three quarters ended March 26, 2021 and March 27, 2020 is a non-recurring warranty charge in the amount of $549 and $6,123, respectively, to accrue for estimated costs to resolve a unique product performance issue at certain installations.

 

The current portion of the warranty accrual ($3,314 and $5,053 as of March 26, 2021 and March 27, 2020, respectively) is reflected in accrued liabilities, while the long-term portion ($942 and $867 as of March 26, 2021 and March 27, 2020, respectively) is included in other long-term liabilities on the consolidated balance sheets.

 

 

D.

Contingencies

 

The Company is involved in litigation of which the ultimate outcome and liability to the Company, if any, is not presently determinable. Management believes that final disposition of such litigation will not have a material impact on the Company’s results of operations, financial position or cash flows.

 

 

E.

Business Segments

 

The Company and its subsidiaries are engaged in the manufacture and sale of marine and heavy-duty off-highway power transmission equipment. Principal products include marine transmissions, azimuth drives, surface drives, propellers and boat management systems, as well as power-shift transmissions, hydraulic torque converters, power take-offs, industrial clutches and controls systems. The Company sells to both domestic and foreign customers in a variety of market areas, principally pleasure craft, commercial and military marine markets, as well as in the energy and natural resources, government and industrial markets. The Company's worldwide sales to both domestic and foreign customers are transacted through a direct sales force and a distributor network.

 

6

 

The Company has two reportable segments: manufacturing and distribution. Its segment structure reflects the way management makes operating decisions and manages the growth and profitability of the business. It also corresponds with management’s approach of allocating resources and assessing the performance of its segments. The accounting practices of the segments are the same as those described in the summary of significant accounting policies. Transfers among segments are at established inter-company selling prices. Management evaluates the performance of its segments based on net income.

 

Information about the Company’s segments is summarized as follows:

 

  

For the Quarter Ended

  

For the Three Quarters Ended

 
  

March 26, 2021

  

March 27, 2020

  

March 26, 2021

  

March 27, 2020

 

Net sales

                

Manufacturing segment sales

 $52,138  $58,877  $132,338  $170,611 

Distribution segment sales

  26,221   28,387   71,950   72,839 

Inter/Intra segment elimination – manufacturing

  (15,074)  (13,993)  (37,892)  (42,928)

Inter/Intra segment elimination – distribution

  (5,645)  (4,635)  (14,019)  (13,060)
  $57,640  $68,636  $152,377  $187,462 

Net income (loss) attributable to Twin Disc

                

Manufacturing segment net income (loss)

 $2,422  $(26,859) $(3,352) $(34,650)

Distribution segment net income

  697   991   2,352   2,925 

Corporate and eliminations

  (3,025)  638   (7,198)  (6,332)
  $94  $(25,230) $(8,198) $(38,057)

 

 

 

March 26, 2021

  

June 30, 2020

 
Assets        

Manufacturing segment assets

 $366,594  $365,417 

Distribution segment assets

  48,121   43,118 

Corporate assets and elimination of intercompany assets

  (116,232)  (114,408)
  $298,483  $294,127 

 

 

Disaggregated revenue:

 

The following table presents details deemed most relevant to the users of the financial statements for the quarters and three quarters ended March 26, 2021 and March 27, 2020.

 

Net sales by product group for the quarter ended March 26, 2021 is summarized as follows:

 

          

Elimination of

     
  

Manufacturing

  

Distribution

  

Intercompany Sales

  

Total

 

Industrial

 $5,652  $1,491  $(1,307) $5,836 

Land-based transmissions

  13,793   6,892   (5,419)  15,266 

Marine and propulsion systems

  32,671   15,016   (13,951)  33,736 

Other

  22   2,822   (42)  2,802 

Total

 $52,138  $26,221  $(20,719) $57,640 

 

Net sales by product group for the quarter ended March 27, 2020 is summarized as follows:

 

          

Elimination of

     
  

Manufacturing

  

Distribution

  

Intercompany Sales

  

Total

 

Industrial

 $5,709  $1,760  $(619) $6,850 

Land-based transmissions

  15,185   9,051   (6,599)  17,637 

Marine and propulsion systems

  37,968   15,817   (11,409)  42,376 

Other

  15   1,759   (1)  1,773 

Total

 $58,877  $28,387  $(18,628) $68,636 

 

7

 

Net sales by product group for the three quarters ended March 26, 2021 is summarized as follows:

 

          

Elimination of

     
  

Manufacturing

  

Distribution

  

Intercompany Sales

  

Total

 

Industrial

 $15,744  $4,168  $(3,369) $16,543 

Land-based transmissions

  34,388   19,267   (14,388)  39,267 

Marine and propulsion systems

  82,152   41,996   (34,095)  90,053 

Other

  54   6,519   (59)  6,514 

Total

 $132,338  $71,950  $(51,911) $152,377 

 

Net sales by product group for the three quarters ended March 27, 2020 is summarized as follows:

 

          

Elimination of

     
  

Manufacturing

  

Distribution

  

Intercompany Sales

  

Total

 

Industrial

 $18,409  $4,712  $(2,183) $20,938 

Land-based transmissions

  49,159   20,769   (21,466)  48,462 

Marine and propulsion systems

  102,988   43,445   (32,337)  114,096 

Other

  55   3,913   (2)  3,966 

Total

 $170,611  $72,839  $(55,988) $187,462 

 

 

 

F.

Stock-Based Compensation

 

Performance Stock Awards (PSA)

 

During the first three quarters of fiscal 2021 and 2020, the Company granted a target number of 265.3 and 131.7 PSAs, respectively, to various employees of the Company, including executive officers. The fiscal 2021 PSAs will vest if the Company achieves performance-based target objectives relating to average return on invested capital, average annual sales and average free cash flow (as defined in the PSA Grant Agreement), in the cumulative three fiscal year period ending June 30, 2023. These PSAs are subject to adjustment if the Company’s return on invested capital, net sales, and free cash flow for the period falls below or exceeds the specified target objective, and the maximum number of performance shares that can be awarded if the target objective is exceeded is 397.9. Based upon actual results to date, the Company is currently accruing compensation expense for these PSAs.

 

The fiscal 2020 PSAs will vest if the Company achieves performance-based target objectives relating to average return on invested capital, average annual sales and average annual EPS (as defined in the PSA Grant Agreement), in the cumulative three fiscal year period ending June 30, 2022. These PSAs are subject to adjustment if the Company’s return on invested capital, net sales, and EPS for the period falls below or exceeds the specified target objective, and the maximum number of performance shares that can be awarded if the target objective is exceeded is 184.8. Based upon actual results to date, the Company is not currently accruing compensation expense for these PSAs.

 

There were 433.1 and 214.0 unvested PSAs outstanding at March 26, 2021 and March 27, 2020, respectively. The fair value of the PSAs (on the date of grant) is expensed over the performance period for the shares that are expected to ultimately vest. Compensation expense (benefit) of $132 and ($439) was recognized for the quarters ended March 26, 2021 and March 27, 2020, respectively, related to PSAs. Compensation expense (benefit) of $360 and ($419) was recognized for the three quarters ended March 26, 2021 and March 27, 2020, respectively, related to PSAs. The weighted average grant date fair value of the unvested awards at March 26, 2021 was $9.26. At March 26, 2021, the Company had $3,661 of unrecognized compensation expense related to the unvested shares that would vest if the specified target objective was achieved for the fiscal 2021, 2020 and 2019 awards. The total fair value of PSAs vested as of March 26, 2021 and March 27, 2020 was $0.

 

Restricted Stock Awards (RS)

 

The Company has unvested RS awards outstanding that will vest if certain service conditions are fulfilled. The fair value of the RS grants is recorded as compensation expense over the vesting period, which is generally 1 to 3 years. During the first three quarters of fiscal 2021 and 2020, the Company granted 250.3 and 180.4 service based restricted shares, respectively, to employees and non-employee directors. There were 377.5 and 231.4 unvested shares outstanding at March 26, 2021 and March 27, 2020, respectively. A total of 6.8 and 20.5 shares of restricted stock were forfeited during the three quarters ended March 26, 2021 and March 27, 2020, respectively. Compensation expense of $302 and $338 was recognized for the quarters ended March 26, 2021 and March 27, 2020, respectively. Compensation expense of $991 and $862 was recognized for the three quarters ended March 26, 2021 and March 27, 2020, respectively. The total fair value of restricted stock grants vested as of March 26, 2021 and March 27, 2020 was $533 and $1,241, respectively. As of March 26, 2021, the Company had $1,662 of unrecognized compensation expense related to restricted stock which will be recognized over the next three years.

 

8

 

Restricted Stock Unit Awards (RSU)

 

Under the 2018 Long Term Incentive Plan, the Company has been authorized to issue RSUs. The RSUs entitle the employee to shares of common stock of the Company if the employee remains employed by the Company through a specified date, generally three years from the date of grant. The fair value of the RSUs (on the date of grant) is recorded as compensation expense over the vesting period. There were 34.8 and 38.0 unvested RSUs outstanding at March 26, 2021 and March 27, 2020, respectively. Compensation expense of $90 and $82 was recognized for the quarters ended March 26, 2021 and March 27, 2020, respectively. Compensation expense of $253 and $245 was recognized for the three quarters ended March 26, 2021 and March 27, 2020, respectively. The total fair value of restricted stock units vested as of March 26, 2021 and March 27, 2020 was $25 and $0, respectively. The weighted average grant date fair value of the unvested awards at March 26, 2021 was $25.79. As of March 26, 2021, the Company had $100 of unrecognized compensation expense related to restricted stock which will be recognized over the next two years.

 

 

G.

Pension and Other Postretirement Benefit Plans

 

The Company has non-contributory, qualified defined benefit plans covering substantially all domestic employees hired prior to October 1, 2003 and certain foreign employees. Additionally, the Company provides health care and life insurance benefits for certain domestic retirees. The components of the net periodic benefit cost for the defined benefit pension plans and the other postretirement benefit plan are as follows:

 

 

  

For the Quarter Ended

  

For the Three Quarters Ended

 
  

March 26, 2021

  

March 27, 2020

  

March 26, 2021

  

March 27, 2020

 

Pension Benefits:

                

Service cost

 $144  $205  $432  $612 

Prior service cost

  16   0   48   0 

Interest cost

  715   909   2,072   2,703 

Expected return on plan assets

  (1,133)  (1,245)  (3,400)  (3,733)

Amortization of transition obligation

  9   9   28   26 

Amortization of prior service cost

  (4)  (4)  (12)  (11)

Amortization of actuarial net loss

  811   673   2,434   2,241 

Net periodic benefit cost

 $558  $547  $1,602  $1,838 
                 

Postretirement Benefits:

                

Service cost

 $4  $4  $12  $13 

Interest cost

  39   55   116   164 

Amortization of prior service cost

  (69)  (69)  (206)  (206)

Net periodic benefit gain

 $(26) $(10) $(78) $(29)

 

 

The service cost component is included in cost of goods sold and marketing, engineering and administrative expenses. All other components of net periodic benefit cost are included in other expense (income), net.

 

The Company expects to contribute approximately $2,346 to its pension plans in fiscal 2021. As of March 26, 2021, the amount of $2,095 in contributions has been made.

 

The Company has reclassified $583 (net of $177 in taxes) of benefit plan adjustments from accumulated other comprehensive loss during the quarter ended March 26, 2021, and $1,593 (net of $490 in taxes) during the quarter ended March 27, 2020. The Company has reclassified $1,691 (net of $529 in taxes) of benefit plan adjustments from accumulated other comprehensive loss during the three quarters ended March 26, 2021, and $2,698 (net of $828 in taxes) during the three quarters ended March 27, 2020. These reclassifications are included in the computation of net periodic benefit cost.

 

 

H.

Income Taxes

 

For the three quarters ended March 26, 2021 and March 27, 2020, the Company’s effective income tax rate was 28.9% and 8.9%, respectively. In the prior year, the Company’s management determined that the carrying value of certain goodwill and intangibles exceeded the fair value and a $27,603 impairment loss was calculated which resulted in a decrease to the prior year effective tax rate of 13.8%. During the current fiscal year, the Company was able to take advantage of the newly enacted high tax exception regulations. The Company filed its federal tax return utilizing this exception and had no global intangible low taxed income (“GILTI”) inclusion increasing the current rate by 12%.

 

9

 

The spread of the COVID-19 outbreak (the global pandemic declared by the World Health Organization in March 2020) has caused significant volatility and uncertainty in U.S. and international markets. On March 27, 2020 the U.S. government enacted the Coronavirus Aid, Relief and Economic Security (the “CARES Act”). The CARES Act includes many measures to assist companies, including temporary changes to income and non-income-based tax laws, some of which were enacted under the Tax Cuts and Jobs Act in 2017. In addition, governments around the world continue to initiate various forms of assistance. The full impact of the COVID-19 outbreak continues to evolve as of the date of this report. As such it is uncertain as to the full magnitude that the COVID-19 outbreak will have on the Company’s financial condition, liquidity, and future results of operations.

 

The Consolidated Appropriations Act (“CAA”) of 2021 was signed into law on December 27, 2020. Changes in the tax treatment of certain items have been reflected during the third quarter of fiscal 2021. These changes did not have a material impact to the Company’s effective tax rate. On March 11, 2021, the American Rescue Plan Act of 2021 (“ARPA”) was signed into law, which, among other things, further changed the executive compensation rules. Under the ARPA, which is effective for tax years beginning after December 31, 2026, the definition of covered employee has been expanded to include employees who are among the five highest compensated employees for the year, not limited to only officers. This is in addition to the existing pool of officers who are defined as “covered employees” under Internal Revenue Code Section 162(m). Management will continue to monitor these new rules and apply them as required. Currently, there is minimal impact anticipated.

 

The Company maintains valuation allowances when it is more likely than not that all or a portion of a deferred tax asset will not be realized. Changes in valuation allowances from period to period are included in the tax provision in the period of change. In determining whether a valuation allowance is required, the Company takes into account such factors as prior earnings history, expected future earnings, carry-back and carry-forward periods, and tax strategies that could potentially enhance the likelihood of realization of a deferred tax asset. In addition, all other available positive and negative evidence is taken into consideration, including all new impacts of tax reform. The Company has evaluated the realizability of the net deferred tax assets related to its operations and based on this evaluation management has concluded that no valuation allowances are required.

 

Accounting policies for interim reporting require the Company to adjust its effective tax rate each quarter to be consistent with the estimated annual effective tax rate. Under this effective tax rate methodology, the Company applies an estimated annual income tax rate to its year-to-date ordinary earnings to derive its income tax provision each quarter.

 

The Company has approximately $926 of unrecognized tax benefits, including related interest and penalties, as of March 26, 2021, which, if recognized, would favorably impact the effective tax rate. There were no significant changes in the total unrecognized tax benefits due to the settlement of audits, the expiration of statutes of limitations or for other items during the quarter ended March 26, 2021. It appears possible that the amount of unrecognized tax benefits could change in the next twelve months due to on-going audit activity.

 

Annually, the Company files income tax returns in various taxing jurisdictions inside and outside the United States. In general, the tax years that remain subject to examination in foreign jurisdictions are 2014 through 2020. The tax year open to exam in the Netherlands is 2019. The tax years open to examination in the U.S. are for years subsequent to fiscal 2016. It is reasonably possible that other audit cycles will be completed during fiscal 2021.

 

 

I.

Intangible Assets

 

As of March 26, 2021, the following acquired intangible assets have definite useful lives and are subject to amortization:

 

  

Net Book Value Rollforward

  

Net Book Value By Asset Type

 
  

Gross Carrying

Amount

  

Accumulated

Amortization /

Impairment

  

Net Book

Value

  

Customer Relationships

  

Technology

Know-how

  

Trade Name

  

Other

 

Balance at June 30, 2020

 $39,245  $(20,272) $18,973  $11,554  $5,784  $1,388  $247 

Addition

  2   -   2   0   0   0   2 

Amortization

  -   (2,516)  (2,516)  (1,406)  (917)  (137)  (56)

Translation adjustment

  961   -   961   585   294   70   12 

Balance at March 26, 2021

 $40,208  $(22,788) $17,420  $10,733  $5,161  $1,321  $205 

 

10

 

Other intangibles consist mainly of computer software. Amortization is recorded on the basis of straight-line or accelerated, as appropriate, over the estimated useful lives of the assets.

 

The weighted average remaining useful life of the intangible assets included in the table above is approximately 8 years.

 

Intangible amortization expense was $838 and $1,148 for the quarters ended March 26, 2021, and March 27, 2020, respectively. Intangible amortization expense was $2,516 and $3,420 for the three quarters ended March 26, 2021, and March 27, 2020, respectively. Estimated intangible amortization expense for the remainder of fiscal 2021 and each of the next five fiscal years is as follows:

 

Fiscal Year

    

2021

 $821 

2022

  3,136 

2023

  2,964 

2024

  2,814 

2025

  2,626 

2026

  1,282 

 

 

J.

Long-term Debt

 

Long-term debt at March 26, 2021 and June 30, 2020 consisted of the following:

 

  

March 26, 2021

  

June 30, 2020

 

Credit Agreement Debt

        

Revolving loans (expire June 2023)

 $15,335  $16,641 

Term loan (due March 2026)

  17,500   17,500 

PPP loan

  8,200   8,200 

Other

  191   246 

Subtotal

  41,226   42,587 

Less: current maturities

  (2,000)  (4,691)

Total long-term debt

 $39,226  $37,896 

 

Credit Agreement Debt: The Company’s credit agreement debt represents borrowings made under the credit agreement, as amended, which it entered into with BMO Harris Bank N.A, (“BMO”) on June 29, 2018 (“Credit Agreement”). Under the agreement, the Company, among other obligations, is subject to a minimum EBITDA financial covenant.

 

On January 27, 2021, the Company and BMO entered into a forbearance agreement and amendment to the Credit Agreement (the “Forbearance Agreement”). Under this agreement, BMO agreed to forbear from exercising its rights and remedies against the Company with respect to its noncompliance with the minimum EBITDA covenant, for the period beginning with the date of the amendment through September 30, 2021. After this date, the forbearance period ends and, therefore, on December 31, 2021, the Company is subject to a total funded debt to EBITDA ratio of 3.00 to 1.00.

 

For the quarter ended March 26, 2021, as a result of the Forbearance Agreement, the Company was not required to meet the minimum EBITDA financial covenant. The Company expects to be in compliance with the terms of the Credit Agreement following the forbearance period, and therefore continues to classify its debt as long term.

 

The Company remains in compliance with its liquidity and other covenants, and has agreed to provide additional financial reports to BMO.

 

The Credit Agreement, including its amendments, is more fully described in the Company’s Annual Report filed on Form 10-K for June 30, 2020, as well as in Item 2 of this quarterly report.

 

As of March 26, 2021, current maturities include $2,000 of term loan payments due within a year.

 

11

 

The PPP Loan: On April 17, 2020, the Company entered into a promissory note (the “PPP Note”) evidencing an unsecured loan in the amount of $8,200 made to the Company under the Paycheck Protection Program ("PPP"). The PPP is a liquidity facility program established by the U.S. government as part of the CARES Act in response to the negative economic impact of the COVID-19 outbreak. The PPP Loan to the Company is being administered by BMO. The PPP Loan has a two-year term and bears interest at a rate of 1.0% per annum. Monthly principal and interest payments are deferred until April 2022. PPP Loan recipients can be granted forgiveness for all or a portion of loans granted subject to certain conditions, based on the use of the loan proceeds for payment of payroll costs and any payments of mortgage interest, rent and utilities. The Company has applied for loan forgiveness, and is awaiting approval by the Small Business Administration (“SBA”).

 

In accounting for the terms of the PPP Loan, the Company is guided by ASC 470 Debt, and ASC 450-30 Gain Contingency. Accordingly, it recorded the proceeds of the PPP Loan of $8,200 as debt and it will derecognize the liability when the loan is paid off or it believes forgiveness is reasonably certain. The Company believes that the possibility of loan forgiveness is to be regarded as a contingent gain and therefore will not recognize the gain (and derecognize the loan) until all uncertainty is removed (i.e. all conditions for forgiveness are met).

 

The PPP Loan is more fully described in the Company’s Annual Report filed on Form 10-K for June 30, 2020, as well as in Item 2 of this quarterly report.

 

Other: Other long-term debt pertains mainly to a financing arrangement in Europe. These liabilities carry terms of three to five years and implied interest rates ranging from 7% to 25%. A total amount of $68 in principal was paid on these liabilities during the current fiscal year.

 

During the three quarters ended March 26, 2021, the average interest rate was 4.02% on the Term Loan, and 4.25% on the Revolving Loans.

 

As of March 26, 2021, the Company’s borrowing capacity on the Revolving Loans under the terms of the Credit Agreement was $42,226, and the Company had approximately $26,891 of available borrowings. In addition to the Credit Agreement, the Company has established unsecured lines of credit that are used from time to time to secure certain performance obligations by the Company.

 

The Company’s borrowings described above approximate fair value at March 26, 2021 and June 30, 2020. If measured at fair value in the financial statements, long-term debt (including the current portion) would be classified as Level 2 in the fair value hierarchy.

 

The Company is party to an interest rate swap arrangement with Bank of Montreal, with an initial notional amount of $20,000 and a maturity date of March 4, 2026 to hedge the Term Loan. As of March 26, 2021, the notional amount was $16,500. This swap has been designated as a cash flow hedge under ASC 815, Derivatives and Hedging. This swap is included in the disclosures in Note O, Derivative Financial Instruments.

 

 

K.

Shareholders Equity

 

The Company, from time to time, makes open market purchases of its common stock under authorizations given to it by the Board of Directors, of which 315.0 shares as of March 26, 2021 remain authorized for purchase.  The Company did not make any open market purchases of its shares during the quarters ended March 26, 2021 and March 27, 2020.

 

12

 

The following is a reconciliation of the Company’s equity balances for the first three fiscal quarters of 2021 and 2020:

 

  

Twin Disc, Inc. Shareholders’ Equity

 
          

Accumulated

             
          

Other

      

Non-

     
  

Common

  

Retained

  

Comprehensive

  

Treasury

  

Controlling

  

Total

 
  

Stock

  

Earnings

  

Income (Loss)

  

Stock

  

Interest

  

Equity

 

Balance, June 30, 2020

 $42,756  $156,655  $(41,226) $(18,796) $569  $139,958 

Net (loss) income

  0   (3,979)  0   0   42   (3,937)

Translation adjustments

  0   0   3,600   0   12   3,612 

Benefit plan adjustments, net of tax

  0   0   553   0   0   553 

Unrealized gain on cash flow hedge, net of tax

  0   0   75   0   0   75 

Compensation expense

  518   0   0   0   0   518 

Shares (acquired) issued, net

  (2,460)  0   0   2,236   0   (224)

Balance, September 25, 2020

  40,814   152,676   (36,998)  (16,560)  623   140,555 

Net (loss) income

  0   (4,313)  0   0   33   (4,280)

Translation adjustments

  0   0   4,887   0   12   4,899 

Benefit plan adjustments, net of tax

  0   0   555   0   0   555 

Unrealized gain on cash flow hedge, net of tax

  0   0   104   0   0   104 

Compensation expense

  562   0   0   0   0   562 

Shares (acquired) issued, net

  (1,458)  0   0   1,458   0   0 

Balance, December 25, 2020

  39,918   148,363   (31,452)  (15,102)  668   142,395 

Net income

  0   94   0   0   72   166 

Translation adjustments

  0   0   (2,970)  0   (38)  (3,008)

Benefit plan adjustments, net of tax

  0   0   583   0   0   583 

Unrealized gain on cash flow hedge, net of tax

  0   0   193   0   0   193 

Compensation expense

  524   0   0   0   0   524 

Shares issued (acquired), net

  4   0   0   (4)  0   0 

Balance, March 26, 2021

 $40,446  $148,457  $(33,646) $(15,106) $702  $140,853 

 

 

  

Twin Disc, Inc. Shareholders’ Equity

 
          

Accumulated

             
          

Other

      

Non-

     
  

Common

  

Retained

  

Comprehensive

  

Treasury

  

Controlling

  

Total

 
  

Stock

  

Earnings

  

Income (Loss)

  

Stock

  

Interest

  

Equity

 

Balance, June 30, 2019

 $45,047  $196,472  $(37,971) $(21,332) $602  $182,818 

Net (loss) income

  0   (6,311)  0   0   18   (6,293)

Translation adjustments

  0   0   (3,014)  0   18   (2,996)

Benefit plan adjustments, net of tax

  0   0   557   0   0   557 

Unrealized loss on cash flow hedge, net of tax

  0   0   (143)  0   0   (143)

Cash dividends

                  (127)  (127)

Compensation expense

  459   0   0   0   0   459 

Shares (acquired) issued, net

  (2,324)  0   0   1,412   0   (912)

Balance, September 27, 2019

  43,182   190,161   (40,571)  (19,920)  511   173,363 

Net (loss) income

  0   (6,516)  0   0   50   (6,466)

Translation adjustments

  0   0   1,647   0   0   1,647 

Benefit plan adjustments, net of tax

  0   0   548   0   0   548 

Unrealized gain on cash flow hedge, net of tax

  0   0   146   0   0   146 

Compensation expense

  248   0   0   0   0   248 

Shares (acquired) issued, net

  (1,125)  0   0   1,124   0   (1)

Balance, December 27, 2019

  42,305   183,645   (38,230)  (18,796)  561   169,485 

Net (loss) income

  0   (25,230)  0   0   54   (25,176)

Translation adjustments

  0   0   (1,257)  0   (9)  (1,266)

Benefit plan adjustments, net of tax

  0   0   1,593   0   0   1,593 

Unrealized loss on cash flow hedge, net of tax

  0   0   (582)  0   0   (582)

Compensation expense

  (19)  0   0   0   0   (19)

Balance, March 27, 2020

 $42,286  $158,415  $(38,476) $(18,796) $606  $144,035 

 

13

 

Reconciliations for the changes in accumulated other comprehensive income (loss), net of tax, by component for the quarters ended September 25, 2020, December 25, 2020, and March 26, 2021, and September 27, 2019, December 27, 2019, and March 27, 2020 are as follows:

 

  

Translation

  

Benefit Plan

  

Cash Flow

 
  

Adjustment

  

Adjustment

  

Hedges

 

Balance at June 30, 2020

 $3,454  $(43,576) $(1,104)

Translation adjustment during the quarter

  3,600   0   0 

Amounts reclassified from accumulated other comprehensive income

  0   553   75 

Net current period other comprehensive income

  3,600   553   75 

Balance at September 25, 2020

  7,054   (43,023)  (1,029)

Translation adjustment during the quarter

  4,887   0   0 

Amounts reclassified from accumulated other comprehensive income

  0   555   104 

Net current period other comprehensive income

  4,887   555   104 

Balance at December 25, 2020

  11,941   (42,468)  (925)

Translation adjustment during the quarter

  (2,970)  0   0 

Amounts reclassified from accumulated other comprehensive income

  0   583   193 

Net current period other comprehensive (loss) income

  (2,970)  583   193 

Balance at March 26, 2021

 $8,971  $(41,885) $(732)

 

  

Translation

  

Benefit Plan

  

Cash Flow

 
  

Adjustment

  

Adjustment

  

Hedges

 

Balance at June 30, 2019

 $4,439  $(41,901) $(509)

Translation adjustment during the quarter

  (3,014)  0   0 

Amounts reclassified from accumulated other comprehensive income

  0   557   (143)

Net current period other comprehensive (loss) income

  (3,014)  557   (143)

Balance at September 27, 2019

  1,425   (41,344)  (652)

Translation adjustment during the quarter

  1,647   0   0 

Amounts reclassified from accumulated other comprehensive income

  0   548   146 

Net current period other comprehensive income

  1,647   548   146 

Balance at December 27, 2019

  3,072   (40,796)  (506)

Translation adjustment during the quarter

  (1,257)  0   0 

Amounts reclassified from accumulated other comprehensive income

  0   1,593   (582)

Net current period other comprehensive (loss) income

  (1,257)  1,593   (582)

Balance at March 27, 2020

 $1,815  $(39,203) $(1,088)

 

Reconciliation for the changes in benefit plan adjustments, net of tax for the quarter and three quarters ended March 26, 2021 are as follows:

 

  

Amount Reclassified

  

Amount Reclassified

  
  

Quarter Ended

  

Three Quarters Ended

  
  

March 26, 2021

  

March 26, 2021

  

Changes in benefit plan items

         

Actuarial losses

 $824 (a) $2,410 (a) 

Transition asset and prior service benefit

  (64)(a)  (190)(a) 

Total amortization

  760   2,220  

Income taxes

  177   529  

Total reclassification net of tax

 $583  $1,691  

 

Reconciliation for the changes in benefit plan adjustments, net of tax for the quarter and three quarters ended March 27, 2020 is as follows:

 

  

Amount Reclassified

  

Amount Reclassified

  
  

Quarter Ended

  

Three Quarters Ended

  
  

March 27, 2020

  

March 27, 2020

  

Changes in benefit plan items

         

Actuarial losses

 $670 (a) $2,240 (a) 

Transition asset and prior service benefit

  (64)(a)  (191)(a) 

Total amortization

  606   2,049  

Other benefit plan adjustments

  (1,477)  (1,477) 

Income taxes

  490   828  

Total reclassification net of tax

 $1,593  $2,698  

 

 

(a)

These accumulated other comprehensive income components are included in the computation of net periodic pension cost (see Note G, "Pension and Other Postretirement Benefit Plans" for further details).

 

14

 

 

L.

Restructuring of Operations

 

The Company has implemented various restructuring programs in response to unfavorable macroeconomic trends in certain of the Company’s markets since the fourth quarter of fiscal 2015. These programs primarily involved the reduction of workforce in several of the Company’s manufacturing locations, under a combination of voluntary and involuntary programs. In its European operations, the Company also implemented actions to reorganize for productivity.

 

These actions resulted in restructuring charges of $251 and $777 in the quarter and three quarters ended March 26, 2021, respectively, and restructuring charges of $532 and $1,717 for the quarter and three quarters ended March 27, 2020.

 

Restructuring activities since June 2015 have resulted in the elimination of 249 full-time employees in the manufacturing segment. Accumulated costs to date under these programs within the manufacturing segment through March 26, 2021 were $13,182.

 

During the second quarter of fiscal 2020, a marine propulsion development program, for which the Company had provided development and production services, was terminated. The cost of exiting the contract consisted of a noncash write-off of assets and liabilities relating to the program amounting to $2,185, and a cash settlement to satisfy supplier commitments associated with the program amounting to $1,000. The Company classified the total contract exit cost of $3,185 as a restructuring charge, within the manufacturing segment, in the three quarters ended March 27, 2020.

 

The following is a roll-forward of restructuring activity:         

 

 

Accrued restructuring liability, June 30, 2020

 $84 

Additions

  777 

Payments, adjustments and write-offs during the year

  (646)

Accrued restructuring liability, March 26, 2021

 $215 

 

 

M.

Earnings Per Share

 

The Company calculates basic earnings per share based upon the weighted average number of common shares outstanding during the period, while the calculation of diluted earnings per share includes the dilutive effect of potential common shares outstanding during the period. The calculation of diluted earnings per share excludes all potential common shares if their inclusion would have an anti-dilutive effect. Certain restricted stock award recipients have a non-forfeitable right to receive dividends declared by the Company, and are therefore included in computing earnings per share pursuant to the two-class method. 

 

15

 

The components of basic and diluted earnings per share were as follows:

 

  

For the Quarter Ended

  

For the Three Quarters Ended

 
  

March 26, 2021

  March 27, 2020  March 26, 2021  

March 27, 2020

 

Basic:

                

Net income (loss)

 $166  $(25,176) $(8,051) $(37,935)

Less: Net earnings attributable to noncontrolling interest

  (72)  (54)  (147)  (122)

Less: Undistributed earnings attributable to unvested shares

  0   0   0   0 

Net income (loss) available to Twin Disc shareholders

  94   (25,230)  (8,198)  (38,057)
                 

Weighted average shares outstanding - basic

  13,269   13,175   13,240   13,147 
                 

Basic Income (Loss) Per Share:

                

Net income (loss) per share - basic

 $0.01  $(1.92) $(0.62) $(2.89)
                 

Diluted:

                

Net income (loss)

 $166  $(25,176) $(8,051) $(37,935)

Less: Net earnings attributable to noncontrolling interest

  (72)  (54)  (147)  (122)

Less: Undistributed earnings attributable to unvested shares

  0   0   0   0 

Net income (loss) available to Twin Disc shareholders

  94   (25,230)  (8,198)  (38,057)
                 

Weighted average shares outstanding - basic

  13,269   13,175   13,240   13,147 

Effect of dilutive stock awards

  26   0   0   0 

Weighted average shares outstanding - diluted

  13,295   13,175   13,240   13,147 
                 

Diluted Income (Loss) Per Share:

                

Net income (loss) per share - diluted

 $0.01  $(1.92) $(0.62) $(2.89)

 

 

The following potential common shares were excluded from diluted EPS for the quarter ended March 26, 2021 because they were anti-dilutive, and for the three quarters ended March 26, 2021 as the Company reported a net loss: 433.1 related to the Company’s unvested PSAs, 377.5 related to the Company’s unvested RS awards, and 9.1 and 34.8, respectively, related to the Company’s unvested RSUs.

 

The following potential common shares were excluded from diluted EPS for the quarter and three quarters ended March 27, 2020 as the Company reported a net loss: 214.0 related to the Company’s unvested PSAs, 231.4 related to the Company’s unvested RS awards, and 38.0 related to the Company’s unvested RSUs.

 

 

N.

Lease Liabilities

 

The Company leases certain office and warehouse space, as well as production and office equipment.

 

The Company determines if an arrangement is a lease at contract inception. The lease term begins upon lease commencement, which is when the Company takes possession of the asset, and may include options to extend or terminate the lease when it is reasonably certain that such options will be exercised. As its lease agreements typically do not provide an implicit rate, the Company primarily uses an incremental borrowing rate based upon the information available at lease commencement. In determining the incremental borrowing rate, the Company considers its current borrowing rate, the term of the lease, and the economic environments where the lease activity is concentrated.

 

The components of lease expense were as follows:

 

 

  

For the Quarter Ended

  

For the Three Quarters Ended

 
  

March 26, 2021

  

March 27, 2020

  

March 26, 2021

  

March 27, 2020

 

Finance lease cost:

                

Amortization of right-of-use assets

 $154  $49  $421  $127 

Interest on lease liabilities

  73   14   201   40 

Operating lease cost

  717   789   2,097   2,384 

Short-term lease cost

  17   18   29   43 

Variable lease cost

  36   17   118   42 

Total lease cost

  997   887   2,866   2,636 

Less: Sublease income

  (23)  (53)  (135)  (159)

Net lease cost

 $974  $834  $2,731  $2,477 

 

16

 

Other information related to leases was as follows:

 

  

For the Quarter Ended

  

For the Three Quarters Ended

 
  

March 26, 2021

  

March 27, 2020

  

March 26, 2021

  

March 27, 2020

 

Cash paid for amounts included in the measurement of lease liabilities:

                

Operating cash flows from operating leases

 $747  $780  $2,275  $2,367 

Operating cash flows from finance leases

  125   45   343   112 

Financing cash flows from finance leases

  73   14   201   40 

Right-of-use-assets obtained in exchange for lease obligations:

                

Operating leases

  19   149   125   2,573 

Finance leases

  86   188   4,757   465 

Weighted average remaining lease term (years):

                

Operating leases

          10.5   10.9 

Finance lease

          12.2   4.3 

Weighted average discount rate:

                

Operating leases

          7.4%  7.4%

Finance leases

          5.2%  6.6%

 

Approximate future minimum rental commitments under non-cancellable leases as of March 26, 2021 were as follows:         

 

  

Operating Leases

  

Finance Leases

 

2021

 $626  $197 

2022

  2,391   789 

2023

  2,119   780 

2024

  1,898   736 

2025

  1,663   496 

Thereafter

  11,535   4,313 

Total future lease payments

  20,232   7,311 

Less: Amount representing interest

  (6,331)  (1,865)

Present value of future payments

 $13,901  $5,446 

 

The following table provides a summary of leases recorded on the condensed consolidated balance sheet.

 

 

Balance Sheet Location

 

March 26, 2021

  

June 30, 2020

 

Lease Assets

         

Operating lease right-of-use assets

Property, plant and equipment, net

 $13,880  $14,448 

Finance lease right-of-use assets

Property, plant and equipment, net

  5,335   959 
          

Lease Liabilities

         

Operating lease liabilities

Accrued liabilities

 $1,470  $1,724 

Operating lease liabilities

Lease obligations

  12,431   12,738 

Finance lease liabilities

Accrued liabilities

  525   233 

Finance lease liabilities

Lease obligations

  4,921   757 

 

 

O.

Derivative Financial Instruments

 

From time to time, the Company enters into derivative instruments to manage volatility arising from risks relating to interest rates and foreign exchange. The Company does not purchase, hold or sell derivative financial instruments for trading purposes. The Company’s practice is to terminate derivative transactions if the underlying asset or liability matures or is sold or terminated, or if it determines the underlying forecasted transaction is no longer probable of occurring.

 

The Company reports all derivative instruments on its consolidated balance sheets at fair value and establishes criteria for designation and effectiveness of transactions entered into for hedging purposes.

 

Interest Rate Swap Contracts

 

The Company has 1 outstanding interest rate swap contract as of March 26, 2021, with a notional amount of $16,500. It has been designated as a cash flow hedge in accordance with ASC 815, Derivatives and Hedging.

 

17

 

The primary purpose of the Company’s cash flow hedging activities is to manage the potential changes in value associated with interest payments on the Company’s LIBOR-based indebtedness. The Company records gains and losses on interest rate swap contracts qualifying as cash flow hedges in accumulated other comprehensive loss to the extent that these hedges are effective and until the Company recognizes the underlying transactions in net earnings, at which time these gains and losses are recognized in interest expense on its consolidated statements of operations and comprehensive loss. Cash flows from derivative financial instruments are classified as cash flows from financing activities on the consolidated statements of cash flows. These contracts generally have original maturities of greater than 12 months.

 

Net unrealized after-tax losses related to cash flow hedging activities that were included in accumulated other comprehensive loss were $732 and $1,104 as of March 26, 2021 and June 30, 2020, respectively. The unrealized amounts in accumulated other comprehensive loss will fluctuate based on changes in the fair value of open contracts during each reporting period.

 

The Company estimates that $359 of net unrealized losses related to cash flow hedging activities included in accumulated other comprehensive loss will be reclassified into earnings within the next twelve months.

 

Foreign Currency Forward Contracts

 

The Company primarily enters into forward exchange contracts to reduce the earnings and cash flow impact of non-functional currency denominated receivables and payables. The Company had 0 outstanding forward exchange contracts at March 26, 2021. At June 30, 2020, one of the Company's foreign subsidiaries had 1 outstanding forward exchange contract to purchase U.S. dollars in the notional value of $1,247 with a weighted average maturity of 7 days. The fair value of the Company’s contract was a loss of $9 at June 30, 2020.

 

Fair Value of Derivative Instruments

 

The fair value of derivative instruments included in the condensed consolidated balance sheets were as follows:

 

 

Balance Sheet Location

 

March 26, 2021

  

June 30, 2020

 

Derivative designated as hedge:

         

Interest rate swap

Accrued liabilities

 $335  $392 

Interest rate swap

Other long-term liabilities

  623   1,052 

 

The impact of the Company’s derivative instruments on the consolidated statement of operations and comprehensive loss for the quarter and three quarters ended March 26, 2021 and March 27, 2020, respectively, was as follows:

 

 

Statement of Comprehensive

 

For the Quarter Ended

  

For the Three Quarters Ended

 
 

Income Location

 

March 26, 2021

  

March 27, 2020

  

March 26, 2021

  

March 27, 2020

 

Derivative designated as hedge:

                 

Interest rate swap

Interest expense

 $98  $37  $297  $79 

Interest rate swap

Unrealized gain (loss) on cash flow hedge

  193   (582)  372   (579)
                  

Derivatives not designated as hedges:

                 

Foreign currency forward contracts

Other income (expense), net

 $0  $0  $(13) $0 

 

18

 

 

Item 2.    Management Discussion and Analysis

 

In the financial review that follows, we discuss our results of operations, financial condition and certain other information. This discussion should be read in conjunction with our consolidated financial statements as of March 26, 2021, and related notes, as reported in Item 1 of this Quarterly Report.

 

Some of the statements in this Quarterly Report on Form 10-Q are “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements include the Company’s description of plans and objectives for future operations and assumptions behind those plans. The words “anticipates,” “believes,” “intends,” “estimates,” and “expects,” or similar anticipatory expressions, usually identify forward-looking statements. In addition, goals established by the Company should not be viewed as guarantees or promises of future performance. There can be no assurance the Company will be successful in achieving its goals.

 

In addition to the assumptions and information referred to specifically in the forward-looking statements, other factors, including but not limited to those factors discussed under Item 1A, Risk Factors, of the Company’s Annual Report filed on Form 10-K for June 30, 2020, as supplemented in this Quarterly Report, could cause actual results to be materially different from what is expressed or implied in any forward-looking statement.

 

Results of Operations

 

(In thousands)

                                
  

Quarter Ended

  

Three Quarters Ended

 
  

March 26,

2021

  

% of Net

Sales

  

March 27,

2020

  

% of Net

Sales

  

March 26,

2021

  

% of Net

Sales

  

March 27,

2020

  

% of Net

Sales

 

Net sales

 $57,640      $68,636      $152,377      $187,462     

Cost of goods sold

  43,678       52,087       119,835       145,566     

Gross profit

  13,962   24.2%  16,549   24.1%  32,542   21.4%  41,896   22.3%

Marketing, engineering and administrative expenses

  13,196   22.9%  15,349   22.4%  39,000   25.6%  48,106   25.7%

Restructuring of operations

  251   0.4%  532   0.8%  777   0.5%  4,902   2.6%

Goodwill and other impairment charge

  -   0.0%  27,603   40.2%  -   0.0%  27,603   14.7%

Income (loss) from operations

 $515   0.9% $(26,935)  -39.2% $(7,235)  -4.7% $(38,715)  -20.7%

 

 

Comparison of the Third Quarter of Fiscal 2021 with the Third Quarter of Fiscal 2020

 

Net sales for the third quarter decreased 16.0%, or $11.0 million, to $57.6 million from $68.6 million in the same quarter a year ago. The Company continued to experience a broad-based softening in demand across the oil and gas, industrial and marine markets, due in large part to the continued impacts of the COVID-19 crisis on the Company’s global markets. With sequential sales growth of $9.2 million (19.0%), the Company has begun to benefit from the start of a global economic recovery. Global demand for industrial products declined 14.8% from the prior year, while off-highway transmission demand fell by 13.4% and marine and propulsion fell by 20.4%. The North American region suffered the most significant sales decline ($6.5 million or 28.8%) due to continued weakness in the North American oil and gas market and a general decline across all markets. The North American region declined from 33% of total sales in the prior year third quarter to 28% in the fiscal 2021 third quarter. The European region saw a softer decline ($2.6 million or 9.8%), with similar weakness across the markets served. Sales into the Asia Pacific region decreased slightly ($0.9 million or 5.8%), as a weaker Asian commercial marine market was partially offset by stable demand for oil and gas units in China and an improving marine market in Australia. Currency translation had a favorable impact on third quarter fiscal 2021 sales compared to the third quarter of the prior year totaling $3.9 million primarily due to the strengthening of the euro and Australian dollar against the U.S. dollar.

 

Sales at our manufacturing segment decreased 11.4%, or $6.7 million, versus the same quarter last year. The U.S. manufacturing operations experienced a 22.9%, or $7.0 million, decrease in sales versus the third fiscal quarter of 2020, with weakness across all product lines, including weaker demand for the Company’s oil and gas related products, industrial and marine products. The Company’s operation in the Netherlands was down $2.5 million (15.7%) compared to the third fiscal quarter of 2020, with many boat construction projects being delayed due to the COVID-19 crisis. The Company’s Belgian operation saw an increase compared to the prior year third quarter (16.0% or $1.0 million), with a positive translation effect combining with improved European market conditions. Similarly, the Company’s Italian manufacturing operations, also benefiting from some positive exchange impact and an improving European market, were up $1.7 million (33.0%) compared to the third quarter of fiscal 2020. The Company’s Swiss manufacturing operation, which supplies customized propellers for the global mega yacht and patrol boat markets, was up $0.1 million (9.1%) compared to the prior year third quarter.

 

19

 

Our distribution segment experienced a decrease in sales of $2.2 million (7.6%) compared to the third quarter of fiscal 2020. The Company’s Asian distribution operations in Singapore, China and Japan were down 18.6% from the prior year on softer demand for commercial marine and patrol craft products in the region. The Company’s North America distribution operation saw a decrease of 10.2% on weaker demand for commercial marine products. The Company’s distribution operation in Australia, which provides boat accessories, propulsion and marine transmission systems for the pleasure craft market, saw strong growth (48.3% increase from the prior year third fiscal quarter), on improving pleasure craft marine market trends in the region. The Company’s European distribution operation saw a decrease of $1.1 million (19.4%) on overall market weakness.

 

Gross profit as a percentage of sales for the third quarter of fiscal 2021 improved slightly to 24.2%, compared to 24.1% for the same period last year. The current quarter result reflects the benefit of an Employee Retention Credit (“ERC”, part of various COVID-19 relief programs provided by the U.S. government) of $1.2 million recorded at the Company’s domestic operation. This benefit was offset by an unfavorable product mix profile ($1.4 million) and the impact of reduced volume ($2.7 million).

 

For the fiscal 2021 third quarter, marketing, engineering and administrative (“ME&A”) expenses, as a percentage of sales, were 22.9%, compared to 22.4% for the fiscal 2020 third quarter. ME&A expenses decreased $2.2 million (14.0%) versus the same period last fiscal year. The decrease in ME&A spending for the quarter was comprised of decreases to domestic salaries and benefits ($0.6 million), marketing expenses ($0.4 million), the domestic ERC ($0.6 million), amortization expense ($0.3 million) and general cost containment actions. These decreases were partially offset by a translation driven increase ($0.6 million).

 

The Company incurred $0.3 million in restructuring charges during the third quarter of fiscal 2021, primarily associated with ongoing cost reduction actions at its European operations and actions to adjust the cost structure at the Company’s domestic operation. The Company continues to focus on actively managing its cost structure and reducing fixed costs in light of the ongoing market challenges.

 

Interest expense increased to $0.6 million in the third quarter of fiscal 2021, compared to $0.5 million for the third quarter of the prior fiscal year. This increase reflects a higher average interest rate during the current year, partially offset by a lower average balance.

 

Other income of $0.6 million for the third fiscal quarter was primarily attributable to translation gains related to the Company’s euro denominated liabilities ($0.9 million).

 

The fiscal 2021 third quarter effective tax rate was 64.4% compared to 11.1% in the prior fiscal year third quarter. In the prior year the Company’s management determined that the carrying value of certain goodwill and intangibles exceeded the fair value and a $27.6 million impairment loss was calculated which resulted in a decrease to the prior year effective tax rate of 13.8%. During the current fiscal year, the Company was able to take advantage of the newly enacted high tax exception regulations. The Company filed its federal tax return utilizing this exception and had no Global Intangible Low-Taxed Income (“GILTI”) inclusion, significantly increasing the current rate.

 

Comparison of the First Three Quarters of Fiscal 2021 with the First Three Quarters of Fiscal 2020

 

Net sales for the first three quarters decreased 18.7%, or $35.1 million, to $152.4 million from $187.5 million in the same period a year ago. The Company experienced a broad-based softening in demand across the oil and gas, industrial and marine markets, due in large part to the continued impacts of the COVID-19 crisis on the Company’s global markets. Global demand for industrial products declined 21.0% from the prior year, while off-highway transmission demand fell by 19.0% and marine and propulsion fell by 21.1%. The North American region suffered the most significant sales decline ($22.1 million or 32.8%) due to continued weakness in the North American oil and gas market and a general decline across all markets. The North American region declined from 36% of total sales in the prior year first three quarters to 30% in the fiscal 2021 comparable period. The European region saw a slightly milder decline ($12.7 million or 18.0%), with similar weakness across the markets served. Sales into the Asia Pacific region were comparatively flat (up $0.5 million or 1.3%), due to stable demand for oil and gas units in China and an improving marine market in Australia. Currency translation had a favorable impact on first three quarter fiscal 2021 sales compared to the same period of the prior year totaling $7.5 million primarily due to the stronger euro and Australian dollar against the U.S. dollar.

 

20

 

Sales at our manufacturing segment decreased 22.4%, or $38.3 million, versus the first three quarters of last year. The U.S. manufacturing operation experienced a 34.3%, or $32.1 million, decrease in sales versus the first three quarters of fiscal 2020, with weakness across all product lines, including weaker demand for the Company’s oil and gas related products, industrial and marine products. The Company’s operation in the Netherlands was down $9.2 million (21.2%) compared to the first three quarters of fiscal 2020, with many boat construction projects being delayed due to the COVID-19 crisis. The Company’s Belgian operation saw an increase compared to the prior year (7.0% or $1.1 million), with a positive translation effect offsetting much of the overall market weakness. The Company’s Italian manufacturing operations, also benefiting from some positive exchange impact, along with and improving European economy, were up $2.0 million (13.3%) compared to the first three quarters of fiscal 2020. The Company’s Swiss manufacturing operation, which supplies customized propellers for the global mega yacht and patrol boat markets, was down $0.1 million (4.3%) compared to the prior year comparable period.

 

Our distribution segment experienced a slight increase in sales of $0.9 million (1.2%) compared to the first three quarters of fiscal 2020. The Company’s Asian distribution operations in Singapore, China and Japan were down 5.1% from the prior year on weaker demand for commercial marine and patrol craft products in the region, partially offset by a positive translation impact. The Company’s North America distribution operation saw a decrease of 11.5% on reduced overall market demand. The Company’s distribution operation in Australia, which provides boat accessories, propulsion and marine transmission systems for the pleasure craft market, saw strong growth (47.8% increase from the prior year first three quarters), on improving pleasure craft marine market trends in the region. The Company’s European distribution operation saw a decrease of $2.1 million (14.0%) on overall market weakness.

 

Gross profit as a percentage of sales for the first three quarters of fiscal 2021 decreased to 21.4%, compared to 22.3% for the same period last year. The prior year result included a $6.1 million charge related to a product performance issue recorded in the first quarter of fiscal 2020, while the current year includes the benefit of the domestic ERC and a government COVID-19 relief subsidy in the Netherlands ($1.9 million). Offsetting these favorable movements were the impact of reduced volume ($7.9 million), an increase in the profit in inventory elimination ($2.3 million), the impact of a reclassification of costs from ME&A to cost of goods sold ($1.3 million) and an unfavorable product mix ($5.5 million), primarily associated with reduced activity in the North American oil and gas market.

 

For the fiscal 2021 first three quarters, marketing, engineering and administrative (“ME&A”) expenses, as a percentage of sales, were 25.6%, compared to 25.7% for the fiscal 2020 comparable period. ME&A expenses decreased $9.1 million (18.9%) versus the same period last fiscal year. The decrease in ME&A spending for the first three quarters was comprised of decreases to domestic salaries and benefits ($3.2 million), marketing expenses ($1.2 million), corporate travel ($1.0 million), amortization expense ($1.0 million), the reclassification of costs from ME&A to cost of goods sold ($1.3 million) and general cost containment actions ($2.6 million). These decreases were partially offset by a translation driven increase ($1.2 million).

 

The Company incurred $0.8 million in restructuring charges during the first three quarters of fiscal 2021, primarily associated with ongoing cost reduction actions at its European operations and actions to adjust the cost structure at the Company’s domestic operation. The Company continues to focus on actively managing its cost structure and reducing fixed costs in light of the ongoing market challenges.

 

Interest expense increased to $1.8 million in the first three quarters of fiscal 2021, compared to $1.3 million for the same period of the prior fiscal year. This increase reflects a higher average interest rate during the current year, partially offset by a lower average balance.

 

Other expense of $2.3 million for the first three fiscal quarters was primarily attributable to translation losses related to the Company’s euro denominated liabilities.

 

The effective tax rate for the first three quarters of fiscal 2021 was 28.9% compared to just 8.9% in the comparable period of the prior fiscal year. In the prior year the Company’s management determined that the carrying value of certain goodwill and intangibles exceeded the fair value and a $27.6 million impairment loss was calculated which resulted in a decrease to the prior year effective tax rate of 13.8%. During the current fiscal year, the Company was able to take advantage of the newly enacted high tax exception regulations. The Company filed its federal tax return utilizing this exception and had no GILTI inclusion, thus increasing the current rate.

 

Financial Condition, Liquidity and Capital Resources

 

Comparison between March 26, 2021 and June 30, 2020

 

As of March 26, 2021, the Company had net working capital of $104.0 million, which represents a decrease of $3.3 million, or 3.1%, from the net working capital of $107.3 million as of June 30, 2020.

 

21

 

Cash increased $0.9 million to $11.6 million as of March 26, 2021, versus $10.7 million as of June 30, 2020. The majority of the cash as of March 26, 2021 is at the Company’s overseas operations in Europe ($3.8 million) and Asia-Pacific ($6.0 million).

 

Trade receivables of $31.3 million were up $0.6 million, or approximately 2.0%, when compared to last fiscal year-end. The impact of foreign currency translation was to increase accounts receivable by $1.0 million versus June 30, 2020. As a percent of sales, trade receivables finished at 54.3% in the third quarter of fiscal 2021 compared to 45.9% for the comparable period in fiscal 2020 and 51.7% for the fourth quarter of fiscal 2020.

 

Inventories decreased by $3.9 million, or 3.2%, versus June 30, 2020 to $116.7 million. The impact of foreign currency translation was to increase inventories by $3.2 million versus June 30, 2020. The remaining decrease was seen primarily at the Company’s North American operation, driven by improved purchasing discipline and the initial impacts of a renewed sales, inventory and operations planning (SIOP) process. On a consolidated basis, as of March 26, 2021, the Company’s backlog of orders to be shipped over the next six months approximates $71.4 million, compared to $66.6 million at June 30, 2020 and $87.4 million at March 27, 2020. As a percentage of six-month backlog, inventory has decreased from 181% at June 30, 2020 to 163% at March 26, 2021.

 

Net property, plant and equipment was up $2.9 million (4.0%) to $75.6 million versus $72.7 million at June 30, 2020. The primary reason for the increase is the recording of the right-of-use asset for the lease of the recently completed building in Lufkin, TX. In addition, the Company had capital spending ($3.9 million) and a favorable exchange impact ($1.1 million), partially offset by depreciation ($5.9 million). The capital spending in the first three quarters reflects primarily maintenance capital, along with investment in the new facility in Lufkin, TX. In total, the Company expects to invest between $5 and $7 million in capital assets in fiscal 2021. The Company continues to review its capital plans based on overall market conditions and availability of capital, and may make changes to its capital plans accordingly. The Company’s capital program is focused on modernizing key core manufacturing, assembly and testing processes and improving efficiencies at its facilities around the world.

 

Accounts payable as of March 26, 2021 of $25.8 million was up $0.1 million, or 0.4%, from June 30, 2020. The impact of foreign currency translation was to increase accounts payable by $0.8 million versus June 30, 2020. The remaining decrease is primarily related to the reduced purchasing activities in light of reduced volume in the quarter and a focus on inventory reduction.

 

Total borrowings and long-term debt as of March 26, 2021 decreased $1.4 million to $41.2 million versus $42.6 million at June 30, 2020. During the first three quarters, the Company reported positive free cash flow of $1.2 million (defined as operating cash flow less acquisitions of fixed assets) and ended the quarter with total debt, net of cash, of $29.6 million, compared to $31.9 million at June 30, 2020, for a net improvement of $2.3 million.

 

Total equity increased $0.9 million, or 0.6%, to $140.9 million as of March 26, 2021. The net loss during the first three quarters decreased equity by $8.2 million, partially offset by a favorable foreign currency translation of $5.5 million. The net change in common stock and treasury stock resulting from the accounting for stock-based compensation increased equity by $1.4 million. The net remaining increase in equity of $2.2 million primarily represents the amortization of net actuarial loss and prior service cost on the Company’s defined benefit pension plans.

 

On June 29, 2018, the Company entered into a Credit Agreement (the “Credit Agreement”) with BMO Harris Bank N.A. (“BMO”) that provided for the assignment and assumption of the previously existing loans between the Company and Bank of Montreal (the “2016 Credit Agreement”) and subsequent amendments into a term loan (the “Term Loan”) and revolving credit loans (each a “Revolving Loan” and, collectively, the “Revolving Loans,” and, together with the Term Loan, the “Loans”). Pursuant to the Credit Agreement, BMO agreed to make the Term Loan to the Company in a principal amount not to exceed $35.0 million and the Company may, from time to time prior to the maturity date, enter into Revolving Loans in amounts not to exceed, in the aggregate, $50.0 million (the “Revolving Credit Commitment”). The Credit Agreement also allows the Company to obtain Letters of Credit from BMO, which if drawn upon by the beneficiary thereof and paid by BMO, would become Revolving Loans. Under the Credit Agreement, the Company may not pay cash dividends on its common stock in excess of $3.0 million in any fiscal year.

 

On March 4, 2019, the Company entered into a second amendment (the “Second Amendment”) to the Credit Agreement. The Second Amendment reduced the principal amount of the term loan commitment under the Credit Agreement from $35.0 million to $20.0 million. In connection with the Second Amendment, the Company issued an amended and restated term note in the amount of $20.0 million to the Bank, which amended the original $35.0 million note provided under the Credit Agreement.

 

22

 

Prior to entering into the Second Amendment, the outstanding principal amount of the term loan (the “Term Loan”) under the Credit Agreement was $10.8 million. On the date of the Second Amendment, the Bank made an additional advance on the Term Loan to the Company in the amount of $9.2 million. The Second Amendment also extended the maturity date of the Term Loan from January 2, 2020 to March 4, 2026, and added a requirement that the Company make principal installments of $0.5 million per quarter starting with the quarter ending June 30, 2019.

 

The Second Amendment also reduced the applicable margin for purposes of determining the interest rate applicable to the Term Loan. Previously, the applicable margin was 3.00%, which was added to the Monthly Reset LIBOR Rate or the Adjusted LIBOR, as applicable. Under the Second Amendment, the applicable margin was between 1.375% and 2.375%, depending on the Company’s total funded debt to EBITDA ratio.

 

The Second Amendment also adjusted certain financial covenants made by the Company under the Credit Agreement. Specifically, the Company covenanted (i) not to allow its total funded debt to EBITDA ratio to be greater than 3.00 to 1.00 (the cap had previously been 3.50 to 1.00 for quarters ending on or before September 30, 2019 and 3.25 to 1.00 for quarters ending on or about December 31, 2019 through September 30, 2020), and (ii) that its tangible net worth will not be less than $100.0 million plus 50% of net income for each fiscal year ending on and after June 30, 2019 for which net income is a positive number (the $100.0 million figure had previously been $70.0 million). 

 

On January 28, 2020, the Company entered into a third amendment (the “Third Amendment”) to the Credit Agreement. The Third Amendment restated the financial covenant provisions related to the maximum allowable ratio of total funded debt to EBITDA from 3.00 to 1.00 to 4.00 to 1.00 for the quarter ended December 27, 2019, 5.00 to 1.00 for the quarter ending March 27, 2020, 4.00 to 1.00 for the quarter ending June 30, 2020, 3.50 to 1.00 for the quarter ending September 25, 2020 and 3.00 to 1.00 for quarters ending on or after December 25, 2020. For purposes of determining EBITDA, the Third Amendment added back extraordinary expenses (not to exceed $3.9 million) related to the previously reported isolated product performance issue on one of the Company’s oil and gas transmission models at certain installations. Under the Third Amendment, the applicable margin for revolving loans, letters of credit, and term loans was between 1.25% and 3.375%, depending on the Company’s total funded debt to EBITDA ratio.

 

On July 22, 2020, the Company entered into a fifth amendment (the “Fifth Amendment”) to the Credit Agreement that amends the Credit Agreement dated as of June 29, 2018, as amended between the Company and BMO. The Fifth Amendment reduced BMO’s Revolving Credit Commitment from $50.0 million to $45.0 million. The Fifth Amendment also gives the Company the option to make interest-only payments on the Term Loan for quarterly payments occurring on September 30, 2020 and December 31, 2020, and limits the Company’s Capital Expenditures for the fiscal year ending June 30, 2021 to $10.0 million.

 

The Fifth Amendment provides the Company with relief from its Total Funded Debt to EBITDA ratio financial covenant under the Credit Agreement through (and including) the earlier of June 30, 2021 or a date selected by the Company. During the financial covenant relief period:

 

 

The “Applicable Margin” to be applied to Revolving Loans, the Term Loan, and the Commitment/Facility Fee will be increased to 3.25%, 3.875%, and 0.20%, respectively.

 

 

The Company may not make certain restricted payments (specifically, cash dividends, distributions, purchases, redemptions or other acquisitions of or with respect to shares of its common stock or other common equity interests).

 

 

The Company must maintain liquidity (as defined in the Fifth Amendment) of at least $15.0 million.

 

 

The Company must maintain minimum EBITDA of at least (1) $1.0 million for the fiscal quarter ending June 30, 2020 and the two fiscal quarters ending on or about September 30, 2020; (2) $2.5 million for the three fiscal quarters ending on or about December 31, 2020; (3) $6.0 million for the four fiscal quarters ending on or about March 31, 2021; and (4) $10.0 million for the four fiscal quarters ending June 30, 2021.

 

For purposes of the minimum EBITDA covenant and the Total Funded Debt to EBITDA ratio, the Fifth Amendment clarified that EBITDA shall exclude any gain that is realized on the forgiveness of the Small Business Administration Paycheck Protection Program loan that the Company previously received.

 

23

 

The Fifth Amendment also changed the definition of “LIBOR” (used in calculating interest on Eurodollar Loans), “Monthly Reset LIBOR Rate” (used in calculating interest on LIBOR Loans), and “LIBOR Quoted Rate” (used in the definition of “Base Rate,” which is used in calculating interest on Letters of Credit that are drawn upon and not timely reimbursed).

 

The Company also entered into a Deposit Account Control Agreement with the Bank, reflecting the Bank’s security interest in deposit accounts the Company maintains with the Bank. Under the Fifth Amendment, the Bank may not provide a notice of exclusive control of a deposit account (thereby obtaining exclusive control of the account) prior to the occurrence or existence of a Default or an Event of Default under the Credit Agreement or otherwise upon the occurrence or existence of an event or condition that would, but for the passage of time or the giving of notice, constitute a Default or an Event of Default under the Credit Agreement.

 

On January 27, 2021, the Company entered into a Forbearance Agreement and Amendment No. 6 to the Credit Agreement (the “Forbearance Agreement”) that further amended the Credit Agreement.

 

The Company entered into the Forbearance Agreement because the Company was not in compliance with its financial covenant to maintain a minimum EBITDA of at least $2.5 million for the three fiscal quarters ended as of December 25, 2020. In the Forbearance Agreement, the Bank has agreed to forbear from exercising its rights and remedies against the Company under the Credit Agreement with respect to the Company’s noncompliance with the minimum EBITDA covenant during the period (the “Forbearance Period”) commencing January 27, 2021 and ending on the earlier of (i) September 30, 2021, and (ii) the date on which a default under the Forbearance Agreement or Credit Agreement occurs. During the Forbearance Period, the Bank may continue to honor requests of the Company for draws on the revolving note provided by the Bank under the Credit Agreement, except that the revolving credit commitment is reduced from $45.0 million to $42.5 million during the Forbearance Period.

 

The Forbearance Agreement also added to the Company’s financial reporting requirements under the Credit Agreement by requiring the Company to provide the Bank with monthly forecasts of the Company’s financial statements, and monthly reports on the Company’s six-month backlog.

 

When the Forbearance Period ends, the Bank’s forbearance under the Forbearance Agreement will cease, and the Company is subject to the Total Funded Debt to EBITDA ratio financial covenant of 3.00 to 1.00. Further, upon an event of default and upon notice from the Bank, the Company’s obligations under the Loan Documents would be accelerated and become due at the default rate, and the Bank may exercise its rights and remedies under the Credit Agreement for any occurrence and continuation of default under the Credit Agreement.

 

For the quarter ended March 26, 2021, as a result of the Forbearance Agreement, the Company was not required to meet the minimum EBITDA financial covenant. The Company expects to be in compliance with the terms of the Credit Agreement following the forbearance period, and therefore continues to classify its debt as long term.

 

The Company remains in compliance with its liquidity and other covenants, and has agreed to provide additional financial reports to BMO.

 

Borrowings under the Credit Agreement are secured by substantially all of the Company’s personal property, including accounts receivable, inventory, machinery and equipment, and intellectual property. The Company has also pledged 100% of its equity interests in certain domestic subsidiaries and 65% of its equity interests in certain foreign subsidiaries. The Company also entered into a Collateral Assignment of Rights under Purchase Agreement for its acquisition of Veth Propulsion. To effect these security interests, the Company entered into various amendment and assignment agreements that consent to the assignment of certain agreements previously entered into between the Company and the Bank of Montreal in connection with the 2016 Credit Agreement. The Company also amended and assigned to BMO a Negative Pledge Agreement that it has previously entered into with Bank of Montreal, pursuant to which it agreed not to sell, lease or otherwise encumber real estate that it owns except as permitted by the Credit Agreement and the Negative Pledge Agreement.

 

Upon the occurrence of an Event of Default, BMO may take the following actions upon written notice to the Company: (1) terminate its remaining obligations under the Credit Agreement; (2) declare all amounts outstanding under the Credit Agreement to be immediately due and payable; and (3) demand the Company to immediately Cash Collateralize L/C Obligations in an amount equal to 105% of the aggregate L/C Obligations or a greater amount if BMO determines a greater amount is necessary. If such Event of Default is due to the Company’s bankruptcy, BMO may take the three actions listed above without notice to the Company.

 

24

 

On April 17, 2020, the Company entered into a promissory note (the “PPP Note”) evidencing an unsecured loan in the amount of $8.2 million (the “PPP Loan”) made to the Company under the Paycheck Protection Program (“PPP”). The PPP was established under the CARES Act and is a program under the U.S. Small Business Administration (the “SBA”). The PPP Loan to the Company is administered by BMO. The PPP Loan has a two-year term and bears interest at a rate of 1.0% per annum. Monthly principal payments are deferred until April 2022.

 

Under the terms of the CARES Act, PPP loan recipients can be granted forgiveness for all or a portion of loans granted under the PPP. Such forgiveness will be determined, subject to limitations, based on the use of loan proceeds for payment of payroll costs and any payments of mortgage interest, rent, and utilities. However, no assurance is provided that the Company will obtain forgiveness for any portion of the PPP Loan.

 

In connection with the PPP Loan, the Company entered into a fourth amendment to the Credit Agreement (the “Fourth Amendment”) on April 17, 2020. The Fourth Amendment: (1) permits the Company to incur indebtedness in the form of the PPP Loan notwithstanding the Credit Agreement’s restrictions limiting the Company’s ability to incur indebtedness, and (2) provides that the PPP Loan (to the extent that the PPP Loan is forgiven) shall be disregarded for purposes of calculating financial covenants in the Credit Agreement. Any unforgiven portion of the PPP Loan and the interest thereon will not be disregarded for purposes of calculating the covenants.

 

The Company has closely tracked qualified expenses to ensure its compliance with the PPP requirements and to support its application for forgiveness. As of March 26, 2021, the Company estimates that the amount of expenses qualifying for forgiveness it has incurred to date is approximately $8.2 million. These expenses are included in cost of goods sold and marketing, engineering and administrative expenses in the accompanying statement of operations and comprehensive loss. The Company submitted its forgiveness application to BMO on March 3, 2021. BMO reviewed and approved this application, and forwarded it to the Small Business Administration for processing on March 17, 2021. The Company’s application requested and provided support for complete forgiveness of the $8.2 million PPP Loan. If, and when, forgiveness of this amount is assured, the Company would record this as a gain on debt extinguishment. This is described further in Note J, Long-term Debt, of the notes to the consolidated financial statements.

 

There are no material off-balance-sheet arrangements, and the Company continues to have sufficient liquidity for near-term needs. The Company had approximately $26.9 million of available borrowings under the Credit Agreement as of March 26, 2021. The Company expects to continue to generate enough cash from operations, as well as have sufficient capacity under its credit facilities, to meet its operating and investing needs. As of March 26, 2021, the Company also had cash of $11.6 million, primarily at its overseas operations. These funds, with some restrictions and tax implications, are available for repatriation as deemed necessary by the Company. In fiscal 2021, the Company expects to contribute $2.3 million to its defined benefit pension plans, the minimum contribution required.

 

Net working capital decreased $3.3 million, or 3.1%, during the first three quarters of fiscal 2021, and the current ratio fell to 2.5 for March 26, 2021 from 2.6 at June 30, 2020. The decrease in net working capital was primarily driven by an increase in accrued expenses and a decrease in inventory.

 

The Company expects capital expenditures to be approximately $5 million - $7 million in fiscal 2021. These anticipated expenditures reflect the Company’s plans to invest in modern equipment and facilities (including the new Lufkin, TX facility), its global sourcing program and new products.

 

Management believes that available cash, the BMO credit facility, and potential access to debt markets will be adequate to fund the Company’s capital requirements for the foreseeable future.

 

The Company has approximately $0.9 million of unrecognized tax benefits, including related interest and penalties, as of March 27, 2021, which, if recognized, would favorably impact the effective tax rate. See Note H, Income Taxes, of the Condensed Consolidated Financial Statements for disclosures surrounding uncertain income tax positions.

 

The Company maintains defined benefit pension plans for some of its operations in the United States and Europe. The Company has established the Benefits Committee (a non-Board management committee) to oversee the operations and administration of the defined benefit plans. The Company estimates that fiscal 2021 contributions to all defined benefit plans will total $2.3 million. As of March 26, 2021, $2.1 million in contributions have been made.

 

25

 

New Accounting Releases

 

See Note A, Basis of Presentation, to the condensed consolidated financial statements for a discussion of recently issued accounting standards.

 

Critical Accounting Policies

 

The preparation of this Quarterly Report requires management’s judgment to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the dates of the financial statements, and the reported amounts of revenues and expenses during the reporting period. There can be no assurance that actual results will not differ from those estimates.

 

The Company’s critical accounting policies are described in Item 7 of the Company’s Annual Report filed on Form 10-K for June 30, 2020. There have been no significant changes to those accounting policies subsequent to June 30, 2020.

 

 

Item 3.

Quantitative and Qualitative Disclosure About Market Risk

 

The Company is electing not to provide this disclosure due to its status as a Smaller Reporting Company.

 

 

Item 4.

Controls and Procedures

 

(a)

Evaluation of Disclosure Controls and Procedures

 

The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“the Exchange Act”) as of the end of the period covered by this report. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective in recording, processing, summarizing, and reporting, on a timely basis, information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act, and that such information is accumulated and communicated to the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely discussions regarding required disclosure.

 

(b)

Changes in Internal Control Over Financial Reporting

 

Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). During the most recent fiscal quarter, no changes were made which have materially affected, or which are reasonably likely to materially affect, our internal control over financial reporting.

 

 

Part II.                  OTHER INFORMATION

 

Item 1.

Legal Proceedings

 

The Company is a defendant in several product liability or related claims which are considered either adequately covered by appropriate liability insurance or involving amounts not deemed material to the business or financial condition of the Company.

 

Item 1A.

Risk Factors

 

Any failure to meet debt obligations and financial covenants, and maintain adequate asset-based borrowing capacity could adversely affect the Companys business and financial condition. The Company’s revolving credit facility entered into on June 29, 2018 is secured by certain personal property assets such as accounts receivable, inventory, and machinery and equipment. Under this agreement, the Company’s borrowing capacity is based on the eligible balances of these assets and it is required to maintain sufficient borrowing base at all times to secure its outstanding borrowings. The Company is also required to comply with a minimum Debt to EBITDA ratio and a minimum EBITDA. Based on results through the quarter ended December 25, 2020, the Company was not in compliance with its minimum EBITDA financial covenant, and as a result has entered into a forbearance agreement with its senior lender. The forbearance period ends on the earlier of September 30, 2021, or the date on which an event of default occurs. While the Company has been able to collaborate closely with its senior lender and has successfully negotiated reasonable terms with its bank during cyclical market periods, there can be no assurance that the Company will be able to continue doing so, or achieve the planned results in future periods especially due to the significant uncertainties flowing from the current economic environment. If the Company is not able to achieve these objectives and to meet the required covenants under the agreements, the Company may require further forbearance from its senior lender or be required to arrange alternative financing. Failure to obtain relief from covenant violations or to obtain alternative financing, if necessary, would have a material adverse impact on the Company.

 

26

 

There have been no other material changes to the risk factors previously disclosed in response to Item 1A to Part I of our 2020 Annual Report on Form 10-K.

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

 

(a)

Unregistered Sales of Equity Securities

 

There were no securities of the Company sold by the Company during the quarter ended March 26, 2021, which were not registered under the Securities Act of 1933, in reliance upon an exemption from registration provided by Section 4 (2) of the Act.

 

(b)

Use of Proceeds

 

Not applicable.

 

(c)

Issuer Purchases of Equity Securities

 

Issuer Purchases of Equity Securities

 

Period

(a) Total

Number of

Shares

Purchased

(b)

Average

Price Paid

per Share

(c) Total Number of

Shares Purchased as

Part of Publicly

Announced Plans or

Programs

(d) Maximum Number of

Shares that May Yet Be

Purchased Under the Plans

or Programs

     

December 26, 2020 –  January 29, 2021

0

NA

0

315,000

     

January 30 – February 26, 2021

0

NA

0

315,000

     

February 27 – March 26, 2021

0

NA

0

315,000

     

Total

0

NA

0

315,000

 

Under authorizations granted by the Board of Directors on February 1, 2008 and July 27, 2012, the Company was authorized to purchase 500,000 shares of its common stock. This authorization has no expiration, and as of March 26, 2021, 315,000 may yet be purchased under these authorizations. The Company did not purchase any shares of its common stock pursuant to these authorizations during the quarter ended March 26, 2021.

 

The discussion of limitations upon the payment of dividends as a result of the Credit Agreement between the Company and BMO Harris Bank, N.A., as discussed in Part I, Item 2, "Management's Discussion and Analysis " under the heading "Financial Condition, Liquidity and Capital Resources," is incorporated herein by reference.

 

Item 3.

Defaults Upon Senior Securities

 

None.

 

27

 

Item 5.

Other Information

 

None.

 

Item 6.

Exhibits

 

31a

Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

31b

Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

32a

Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

32b

Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

101.INS

Inline XBRL Instance Document

 

101.SCH

Inline XBRL Schema

 

101.CAL

Inline XBRL Calculation Linkbase

 

101.DEF

Inline XBRL Definition Linkbase

 

101.LAB

Inline XBRL Label Linkbase

 

101.PRE

Inline XBRL Presentation Linkbase

 

104

Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101).

 

28

 

 

SIGNATURE

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

 

TWIN DISC, INCORPORATED

 

(Registrant)

  
  

Date: May 4, 2021

/s/ DEBBIE A. LANGE

 

Debbie A. Lange

 

Corporate Controller

 

Chief Accounting Officer

 

29