See accompanying notes to unaudited condensed
consolidated financial statements.
See accompanying notes to unaudited condensed
consolidated financial statements.
See accompanying notes to unaudited condensed
consolidated financial statements.
See accompanying notes to unaudited condensed
consolidated financial statements.
See accompanying notes to unaudited condensed
consolidated financial statements.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS
May 31, 2019
Note 1. Organization and Basis of Presentation
EACO Corporation (“EACO”), incorporated in Florida
in September 1985, is a holding company primarily comprised of its wholly-owned subsidiary, Bisco Industries, Inc. (“Bisco”).
Bisco was incorporated in Illinois in 1974 and is a distributor of electronic components and fasteners with 48 sales offices and
seven distribution centers located throughout the United States and Canada. Bisco supplies parts used in the manufacture of products
in a broad range of industries, including the aerospace, circuit board, communication, computer, fabrication, instrumentation,
industrial equipment and marine industries.
Note 2. Significant Accounting Policies and
Significant Recent Accounting Pronouncements
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during the reporting periods. These estimates
include allowance for doubtful accounts receivable, slow moving and obsolete inventory reserves, recoverability of the carrying
value and estimated useful lives of long-lived assets, and the valuation allowance against deferred tax assets. Actual
results could differ from those estimates.
Basis of Presentation
The accompanying unaudited condensed consolidated financial
statements have been prepared by the Company in conformity with GAAP for interim financial information and the rules and regulations
of the U.S. Securities and Exchange Commission (“SEC”) for interim reporting. In the opinion of management, all adjustments
considered necessary in order to make the financial statements not misleading have been included.
Certain information and footnote disclosures normally included
in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to SEC rules and regulations
for presentation of interim financial information. Therefore, the condensed consolidated interim financial statements should be
read in conjunction with the Company’s Annual Report on Form 10-K for the year ended August 31, 2018 (“fiscal
2018”). The condensed consolidated balance sheet as of August 31, 2018 and related disclosures were derived from the Company’s
audited consolidated financial statements as of August 31, 2018. Operating results for the three and nine months ended May
31, 2019 are not necessarily indicative of the results that may be expected for future quarterly periods or the entire fiscal year.
Principles of Consolidation
The consolidated financial statements for all periods presented
include the accounts of EACO, its wholly-owned subsidiary, Bisco, and Bisco’s wholly-owned Canadian subsidiary, Bisco Industries
Limited (all of which are collectively referred to herein as the “Company”, “we”, “us” and
“our”). All significant intercompany transactions and balances have been eliminated in consolidation.
Cash and Cash Equivalents
The Company considers all highly liquid investments with an
original maturity of three months or less when purchased to be cash equivalents.
Trade Accounts Receivable, Net
Trade accounts receivable are carried at original invoice amount,
less an estimate for an allowance for doubtful accounts. Management determines the allowance for doubtful accounts by identifying
probable credit losses in the Company’s accounts receivable and reviewing historical data to estimate the collectability
on items not yet specifically identified as problem accounts. Trade accounts receivable are written off when deemed uncollectible.
Recoveries of trade accounts receivable previously written off are recorded when received. A trade account receivable is considered
past due if any portion of the receivable balance is outstanding if past due more than 30 days. The Company does not charge interest
on past due balances. The allowance for doubtful accounts was $111,000 at May 31, 2019 and August 31, 2018.
Inventories, Net
Inventory consists primarily of electronic fasteners and components,
and is stated at the lower of cost or estimated net realizable value. Cost is determined using the average cost method. Inventories
are reduced by a reserve for slow moving or obsolete items of $1,492,000 and $1,376,000 at May 31, 2019 and August 31, 2018, respectively.
The reserve is based upon management’s review of inventories on-hand over their expected future utilization and length of
time held by the Company.
Short Sales of Trading Securities
Securities sold short represent transactions in which the Company
sells a security borrowed from the broker, which the Company is obligated to purchase and deliver back to the broker. The initial
value of the underlying borrowed security is recorded as a liability, and is adjusted to market value at each reporting period,
with unrealized appreciation or depreciation being recorded for the change in value of the open short position. The Company records
a realized gain or loss when the short position is closed. By entering into short sales, the Company bears the market risk of an
unfavorable increase in the price of the security sold short in excess of the proceeds received. The market value of open short
positions is separately presented as a liability in the consolidated balance sheets.
The Company is required to establish a margin account with the
lending broker equal to the market value of open short positions. As the use of such funds is restricted while the short sale is
outstanding, the balance of this account is classified as restricted cash, current in the consolidated balance sheets. The restricted
cash related to securities sold short was $2,334,000 and $933,000 at May 31, 2019 and August 31, 2018, respectively.
Long-Lived Assets
Long-lived assets are reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. For purposes of the
impairment review, assets are measured by comparing the carrying amount to future net cash flows. If assets are considered
to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds their
estimated fair values.
Income Taxes
Deferred taxes on income result from temporary differences between
the reporting of income for financial statement and tax reporting purposes. A valuation allowance related to a deferred tax asset
is recorded when it is more likely than not that some or all of the deferred tax asset will not be realized. In making such determination,
the Company considers all available positive and negative evidence, including, but not limited to, scheduled reversals of deferred
tax liabilities, projected future taxable income (if any), tax planning strategies and recent financial performance.
We provide tax contingencies, if any, for federal, state, local
and international exposures relating to audit results, tax planning initiatives and compliance responsibilities. The development
of these reserves requires judgments and estimates regarding tax issues, potential outcomes and timing. Actual results could
differ from those estimates.
Revenue Recognition
We derive our revenue primarily from
product sales. We determine revenue recognition through the following steps: (1) identification of the contract with a customer;
(2) identification of the performance obligations in the contract; (3) determination of the transaction price; (4) allocation of
the transaction price to the performance obligations in the contract; (5) recognition of revenue when, or as, we satisfy a performance
obligation.
The Company’s performance obligations
consist solely of product shipped to customers. Revenue from product sales is recognized upon transfer of control of promised
products to customers in an amount that reflects the consideration we expect to receive in exchange for these products. Revenue
is recognized net of returns and any taxes collected from customers. We offer industry standard contractual terms in our
purchase orders.
Earnings Per Common Share
Basic earnings per common share for
the three and nine months ended May 31, 2019 and 2018 were computed based on the weighted average number of common shares outstanding
during each respective period. Diluted earnings per share for those periods have been computed based on the weighted average number
of common shares outstanding, giving effect to all potentially dilutive common shares that were outstanding during the respective
periods (See Note 4).
Foreign Currency Translation and Transactions
Assets and liabilities recorded in functional currencies other
than the U.S. dollar (Canadian dollars for Bisco’s Canadian subsidiary) are translated into U.S. dollars at the period-end
rate of exchange. Revenue and expenses are translated at the weighted-average exchange rates for the quarters ended May 31, 2019
and 2018. The resulting translation adjustments are charged or credited directly to accumulated other comprehensive income or loss.
The average exchange rates of Canadian dollars to U.S. dollars for the quarter ended May 31, 2019 and 2018 were $0.75 and $0.78,
respectively. The average exchange rates of Canadian dollars to U.S. dollars for the nine months ended May 31, 2019 and 2018 were
$0.75 and $0.79, respectively.
Concentrations
Net sales to customers outside the United States were approximately
9% of revenues for each of the nine months ended May 31, 2019 and 2018, and related accounts receivable were approximately 10%
and 11% of total accounts receivable for each period at May 31, 2019 and 2018, respectively.
No single customer accounted for more than 10% of revenues and
accounts receivable for the three and nine months ended May 31, 2019 or 2018.
Significant Recent Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board (“FASB”)
issued Accounting Standards Update (“ASU”) 2014-09 “Revenue from Contracts with Customers” to supersede
the previous revenue recognition guidance under current GAAP. This guidance presents steps for comprehensive revenue recognition
that requires an entity to recognize revenue to depict the transfer of promised goods or services to customers in an amount that
reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The Company adopted
the guidance beginning in the fiscal year ending August 31, 2019 (“fiscal 2019”) using the modified retrospective approach.
The adoption of this guidance did not have a significant impact on our consolidated financial statements.
In February 2016, the FASB issued ASU 2016-02, “Leases,”
which will require a lessee to recognize assets and liabilities for all leases with terms of more than 12 months. Both capital
and operating leases will need to be recognized on the balance sheet. This guidance is effective for annual reporting periods beginning
after December 15, 2018 and interim periods within fiscal years beginning after December 15, 2019. The Company is currently evaluating
this statement and its impact on the Company’s results of operations and financial position.
In June 2016, the FASB issued ASU 2016-13, “Financial
Instruments – Credit Losses,” which will require the measurement of all expected credit losses for financial assets
held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. This guidance
is effective for annual reporting periods beginning after December 15, 2019 and interim periods within fiscal years beginning after
December 15, 2020. The Company is currently evaluating this statement and its impact on the Company’s results of operations
and financial position.
In November 2016, the FASB issued ASU 2016-18, “Statement
of Cash Flows - Restricted Cash (a consensus of the FASB Emerging Issues Task Force).” This standard requires restricted
cash and cash equivalents to be included with cash and cash equivalents on the statement of cash flows under a retrospective transition
approach. The guidance became effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal
years with early adoption permitted. The Company has adopted the guidance of this standard effective September 1, 2018 for fiscal
2019.
Note 3. Debt
The Company currently has a $10,000,000 line of credit agreement
with Citizens Business Bank (the “Bank”). This line of credit was originally held with Community Bank, N.A., which
bank was recently acquired by CVB Financial Corp., the parent company of Citizens Business Bank. On July 24, 2018, the Company
entered into a Change in Terms Agreement dated July 12, 2018 with the Bank (the “Amendment”). The Amendment modified
the Company’s $10,000,000 line of credit between the Company and the Bank to: (i) extend the expiration date of the line
of credit under the agreement from March 1, 2019 to August 20, 2020; (ii) reduce the default variable interest index rate by .500%
(Wall Street Journal Prime Rate less .500%); and (iii) add the following two other interest rate options that the Company may select
(subject to the requirements in the Amendment and provided that the Company is not in default under the line of credit agreement):
(A) One Hundred Eighty (180) day Libor Rate plus a margin of 1.550%; or (B) the One (1) Year Libor plus a margin of 1.550%, as
more fully described in the Amendment. The line of credit agreement contains financial and other covenants that have not been modified
by the Amendment. The outstanding balance under this line of credit as of May 31, 2019 is currently under the default variable
interest index rate, which bears interest at the bank’s reference rate, which is the Prime Rate (5.50% at May 31, 2019 and
5.00% at August 31, 2018) less .500%. Borrowings are secured by substantially all of the assets of the Company and its subsidiaries.
The amounts outstanding under this line of credit as of May 31, 2019 and August 31, 2018 were $6,872,000 and $3,113,000, respectively.
The line of credit agreement contains certain nonfinancial and financial covenants, including the maintenance of certain financial
ratios. As of May 31, 2019 and August 31, 2018, the Company was in compliance with all such covenants.
On May 15, 2017, the Company entered into a $5,400,000 loan
agreement with the Bank. The proceeds of the loan were used to purchase the building that houses the Company’s corporate
headquarters and distribution center located in Anaheim, California (“Lakeview Property”). This loan is payable in
35 regular monthly payments of $27,142 and one last payment of $5,001,607 due on the maturity date of the loan on May 16, 2020.
The loan is secured by a deed of trust to the Lakeview Property and bears a variable interest rate that is 1.70% plus one year
LIBOR, which is periodically reset based on one year LIBOR no more than once in any 12 month period at the election of the bank.
At May 31, 2019 and August 31, 2018, the one year LIBOR was 2.7% at May 31, 2019 and August 31, 2018 and the outstanding balance
of this loan was $5,166,000 and $5,237,000, respectively. The Company’s future principal loan payments for the fiscal years
ending August 31, 2019 and August 31, 2020 are approximately $49,000 and $5,117,000, respectively.
Note 4. Earnings per Share
The following is a reconciliation of the numerators and denominators
of the basic and diluted computations for earnings per common share (in thousands, except per share data):
|
|
Three Months Ended
May 31,
|
|
|
Nine Months Ended
May 31,
|
|
|
|
2019
|
|
|
2018
|
|
|
2019
|
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
EPS:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
2,944
|
|
|
$
|
2,253
|
|
|
$
|
6,830
|
|
|
$
|
4,767
|
|
Less: accrued preferred stock dividends
|
|
|
(19
|
)
|
|
|
(19
|
)
|
|
|
(57
|
)
|
|
|
(57
|
)
|
Net income available for common shareholders
|
|
$
|
2,925
|
|
|
$
|
2,234
|
|
|
$
|
6,773
|
|
|
$
|
4,710
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per common share – basic and diluted
|
|
$
|
0.60
|
|
|
$
|
0.46
|
|
|
$
|
1.39
|
|
|
$
|
0.97
|
|
For the three and nine months ended May 31, 2019 and 2018, 40,000
potential common shares (issuable upon conversion of 36,000 shares of the Company’s Series A Cumulative Convertible Preferred
Stock) have been included in the computation of diluted earnings per share.
Note 5. Related Party Transactions
The Company leases its Chicago area sales office and distribution
center located in Glendale Heights, Illinois under an operating lease agreement (the “Lease”) from a grantor trust
(the “Trust”) that is beneficially owned by the Company’s majority shareholder, who is also the Company’s
Chairman and CEO. The Lease is a ten year lease with an initial monthly rental rate of $22,600, which is subject to annual rent
increases of approximately 2.5% as set forth in the Lease. During the three months ended May 31, 2019 and 2018, the Company incurred
approximately $68,000 of expense related to this lease for both periods.
Within the next seven months, the Company plans to relocate
its corporate headquarters and Anaheim distribution center to an 80,000 square foot facility in Anaheim, California that is owned
by the Trust. The Company plans to enter into a new lease with the Trust in the near future concerning such facility. Tenant improvements
to the new facility is scheduled to start on September 1, 2019 with a completion date of late December 2019 and a move in period
during January 2020. Whereas the existing property has been listed for sale, the Company does not intend to transfer the existing
property to a buyer until it processes uncompleted customer orders at the existing facility and it completes the construction of
tenant improvements at the new facility.
Note 6. Income Taxes
The Company accounts for income taxes under the asset and liability
method, whereby deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply in the years in which those temporary differences
are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized
in income in the period that includes the enactment date. Management evaluates the need to establish a valuation allowance for
deferred tax assets based upon the amount of existing temporary differences, the period in which they are expected to be recovered,
and expected levels of taxable income. A valuation allowance to reduce deferred tax assets is established when it is “more
likely than not” that some or all of the deferred tax assets will not be realized. Management has determined that other than
deferred tax assets associated with certain state net operating losses and capital losses, net deferred tax assets will more likely
than not be utilized. Therefore, a valuation allowance totaling $501,000 has been established against only those assets related
to state net operating losses and capital losses.
The Tax Cuts and Jobs Act (the “Jobs Act”) was enacted
on December 22, 2017. The Jobs Act reduced the US federal corporate tax rate from 35% to 21%, required companies to pay a one-time
transition tax on earnings of certain foreign subsidiaries that were previously tax deferred and created new taxes on certain foreign
sourced earnings. We previously completed our accounting for the tax effects of enactment of the Jobs Act and have determined no
additional tax liability due to offsetting foreign tax credits. For the federal corporate rate differential for the year ended
August 31, 2018, we recognized an amount of $184,000, which was included as a component of income tax expense from continuing operations.
The Company is subject to taxation in the US, Canada and various states. We have elected to account for Global Intangible Low-Taxed
Income (“GILTI”) in the year the tax is incurred.
During the three and nine months ended May 31, 2019, the Company
recorded an income tax provision of $1,113,000 and $2,538,000, respectively, resulting in an effective tax rate of 27.4% and 27.1%,
respectively. For the three and nine months ended May 31, 2018, the Company recorded income tax provision of $993,000 and $2,310,000,
respectively, resulting in an effective tax rate of 30.6% and 32.6%, respectively. The current period effective tax rate differs
from the current statutory rate of 21% primarily due to the state tax rates and valuation allowances against certain deferred tax
assets and permanent book tax differences.
Accounting for uncertainty in income taxes prescribes a recognition
threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected
to be taken in a tax return and provides guidance on de-recognition, classification, interest and penalties, accounting in interim
periods, disclosure, and transition. For the three and nine months ended May 31, 2019, the Company did not have a liability for
any unrecognized tax benefit. The Company has elected to classify interest and penalties as a component of its income tax provision.
For the three and nine months ended May 31, 2019, the Company did not have a liability for penalties or interest. The Company does
not expect any changes to its unrecognized tax benefit for the next three months that would materially impact its consolidated
financial statements.
The Company’s tax years for 2014, 2015, 2016, and 2017
are subject to examination by the taxing authorities. With few exceptions, the Company is no longer subject to U.S. federal, state,
local or foreign examinations by taxing authorities for years before 2014.
Note 7. Commitments and Contingencies
From time to time, we may be subject to
legal proceedings and claims which arise in the normal course of our business. Any such matters and disputes could be costly and
time consuming, subject us to damages or equitable remedies, and divert our management and key personnel from our business operations.
We currently are not a party to any legal proceedings, the adverse outcome of which, in management’s opinion, individually
or in the aggregate, would have a material adverse effect on our consolidated results of operations, financial position or cash
flows.
EACO has also entered into a business loan
agreement (and related $100,000 promissory note) with the Bank in order to obtain a $100,000 letter of credit as security for the
Company’s worker’s compensation requirements.
Note 8. Subsequent Events
Management has evaluated events subsequent to May 31, 2019,
through the date that these unaudited condensed consolidated financial statements are being filed with the SEC, for transactions
and other events which may require adjustment of and/or disclosure in such financial statements.