# LSI INDUSTRIES INC (LYTS) FY 2024 MD&A

Verbatim Item 7 Management's Discussion and Analysis from LSI INDUSTRIES INC's 10-K for fiscal year 2024.

SEC filing source: https://www.sec.gov/Archives/edgar/data/763532/000143774924028964/lyts20240630_10k.htm
Accession: 0001437749-24-028964
Filing date: 2024-09-11
Report date: 2024-06-30
Extracted from a later financial-section MD&A body after the formal Item 7 span was a short reference.
Confidence: high

Company profile: /company/LYTS/
All MD&A years: /company/LYTS/mda/
Previous year: /company/LYTS/mda/fy2023/ (FY 2023)
Next year: /company/LYTS/mda/fy2025/ (FY 2025)

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to help the reader understand the results of the Company’s operations and financial condition. MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and the accompanying Notes to Financial Statements (Part II, Item 8 of this Form 10-K). This section generally discusses the results of our operations for the year ended June 30, 2024, compared to the year ended June 30, 2023. For a discussion of the year ended June 30, 2023, compared to the year ended June 30, 2022, please refer to Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended June 30, 2023. 

Overview

LSI Industries Inc. (LSI) is a leading producer of non-residential lighting and retail display solutions. Non-residential lighting consists of American-made fixtures and services for both indoor and outdoor applications satisfying the specific performance requirements of our customers. Retail display solutions consist of multiple custom products and services which enhance our customer’s brand image and improve the customer shopping experience. We offer customers in target vertical markets a package solution set of both lighting and display solutions, providing value for the customer by working with one partner to manage their regional and national location programs, versus multiple suppliers.

Summary of Consolidated Results

[[GREPCENT_TABLE]]
[["Net Sales by Business Segment"],["(In thousands)","","2024","","","2023"],["Lighting Segment","","$","262,413","","","$","272,451"],["Display Solutions Segment","","","207,225","","","","224,528"],["Total Net Sales","","$","469,638","","","$","496,979"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["Operating Income (Loss) by Business Segment"],["(In thousands)","","2024","","","2023"],["Lighting Segment","","$","33,327","","","$","31,633"],["Display Solutions Segment","","","19,969","","","","24,920"],["Corporate and Eliminations","","","(17,779",")","","","(19,525",")"],["Total Operating Income","","$","35,517","","","$","37,028"]]
[[/GREPCENT_TABLE]]

Fiscal 2024 net sales of $469.6 million decreased 6% as compared to fiscal 2023 net sales of $497.0 million. The change in net sales were driven by a 4% decrease in net sales in the Lighting Segment and by an 8% decrease in net sales in the Display Solutions Segment. Within the Lighting Segment, the Company maintained a relatively stable demand for its lighting products while outperforming the broader market. Within the Display Solutions segment, the decline in sales is due largely to lower demand in the grocery vertical primarily driven by the lengthy regulatory review of the proposed merger of two large grocery store chains.

Fiscal 2024 operating income of $35.5 million represents a 4% decrease from fiscal 2023 operating income of $37.0 million. Non-GAAP adjusted operating income in fiscal 2024 of $41.4 million was comparable to adjusted fiscal 2023 operating income of $42.0 million. Refer to “Non-GAAP Financial Measures” below for a reconciliation of Non-GAAP financial measures to U.S. GAAP measures. Despite a decline in sales, the Company was able to improve its operating margin with strong operational disciplines and effective cost controls.  

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Non-GAAP Financial Measures

We believe it is appropriate to evaluate our performance after making adjustments to the as-reported U.S. GAAP operating income, net income, and earnings per share. Adjusted operating income, net income, and earnings per share, which exclude the impact of acquisition costs, long-term performance based compensation expense, severance and restructuring costs, and commercial growth opportunity expense, are Non-GAAP financial measures. Also included below are Non-GAAP financial measures including Earnings before Interest, Taxes, Depreciation and Amortization (EBITDA and Adjusted EBITDA), Free Cash Flow, and Net Debt to adjusted EBITDA. We believe that these adjusted supplemental measures are useful in assessing the operating performance of our business. These supplemental measures are used by our management, including our chief operating decision maker, to evaluate business results. We exclude these items because they are not representative of the ongoing results of operations of our business. These Non-GAAP measures may be different from Non-GAAP measures used by other companies. In addition, the Non-GAAP measures are not based on any comprehensive set of accounting rules or principles. Non-GAAP measures have limitations, in that they do not reflect all amounts associated with our results as determined in accordance with U.S. GAAP. Therefore, these measures should only be used to evaluate our results in conjunction with corresponding GAAP measures. Below is a reconciliation of these non-GAAP measures to operating income, net income, and earnings per share for the periods indicated along with the calculation of EBITDA and Adjusted EBITDA, Free Cash Flow, and Net Debt to adjusted EBITDA. 

Reconciliation of net income to adjusted net income:

[[GREPCENT_TABLE]]
[["(In thousands, except per share data)","","2024","","","2023"],["","","","","","","","","","","Diluted EPS","","","","","","","","","","","Diluted EPS"],["Net income as reported","","$","24,977","","","","","","","$","0.83","","","$","25,762","","","","","","","$","0.88"],["Long-term performance based compensation","","","3,272","","","","(1",")","","","0.11","","","","2,879","","","","(4",")","","","0.10"],["Restructuring/severance costs","","","396","","","","(2",")","","","0.01","","","","51","","","","(5",")","","","-"],["Acquisition costs","","","735","","","","(3",")","","","0.02","","","","-","","","","","","","","-"],["Consulting expense: commercial growth opportunities","","","-","","","","","","","","-","","","","707","","","","(6",")","","","0.02"],["Tax rate difference between reported and adjusted net income","","","(755",")","","","","","","","(0.03",")","","","(402",")","","","","","","","(0.01",")"],["Net income adjusted","","$","28,625","","","","","","","$","0.95","","","$","28,997","","","","","","","$","0.99"]]
[[/GREPCENT_TABLE]]

The following represents the income tax effects of the adjustments in the tables above, which were calculated using the estimated combined U.S., Canada and Mexico effective income tax rates for the periods indicated:

[[GREPCENT_TABLE]]
[["(1)","$1,108"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(2)","$143"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(3)","$266"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(4)","$1,119"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(5)","$15"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(6)","$157"]]
[[/GREPCENT_TABLE]]

The reconciliation of reported earnings per share to adjusted earnings per share may not produce identical amounts due to rounding differences.

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Reconciliation of operating income to adjusted operating income:

[[GREPCENT_TABLE]]
[["","","2024","","","2023"],["(In thousands)"],["Operating income as reported","","$","35,517","","","$","37,028"],["Acquisition costs","","","1,001","","","","-"],["Long-term performance based compensation","","","4,380","","","","3,998"],["Restructuring/severance costs","","","539","","","","66"],["Consulting expense: commercial growth opportunities","","","-","","","","864"],["Adjusted operating income","","$","41,437","","","$","41,956"]]
[[/GREPCENT_TABLE]]

Reconciliation of net income to EBITDA to adjusted EBITDA:

[[GREPCENT_TABLE]]
[["","","2024","","","2023"],["(In thousands)"],["Net income - reported","","$","24,977","","","$","25,762"],["Income tax","","","8,122","","","","7,564"],["Interest expense, net","","","2,156","","","","3,687"],["Other expense (income)","","","262","","","","15"],["Operating income as reported","","$","35,517","","","$","37,028"],["Depreciation and amortization","","","9,999","","","","9,664"],["EBITDA","","$","45,516","","","$","46,692"],["Acquisition costs","","","1,001","","","","-"],["Long-term performance based compensation","","","4,380","","","","3,998"],["Restructuring/severance costs","","","539","","","","66"],["Consulting expense: commercial growth opportunities","","","-","","","","864"],["Adjusted EBITDA","","$","51,436","","","$","51,620"]]
[[/GREPCENT_TABLE]]

Reconciliation of cash flow from operations to free cash flow:

[[GREPCENT_TABLE]]
[["","","2024","","","2023"],["(In thousands)"],["Cash flow from operations","","$","43,393","","","$","49,588"],["Capital expenditures","","","(5,388",")","","","(3,208",")"],["Free cash flow","","$","38,005","","","$","46,380"]]
[[/GREPCENT_TABLE]]

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Net debt to adjusted EBITDA:

[[GREPCENT_TABLE]]
[["","","June 30,","","","June 30,"],["(In thousands)","","2024","","","2023"],["Debt as reported","","$","54,229","","","$","35,200"],["Less:"],["Cash and cash equivalents as reported","","","4,110","","","","1,828"],["Net debt","","$","50,119","","","$","33,372"],["Adjusted EBITDA","","$","51,436","","","$","51,620"],["Net debt to adjusted EBITDA","","","0.97","","","","0.65"]]
[[/GREPCENT_TABLE]]

Results of Operations

2024 Compared to 2023         

[[GREPCENT_TABLE]]
[["Lighting Segment"],["(In thousands)","","2024","","","2023"],["Net Sales","","$","262,413","","","$","272,451"],["Gross Profit","","$","89,026","","","$","86,761"],["Operating Income","","$","33,327","","","$","31,633"]]
[[/GREPCENT_TABLE]]

Lighting Segment net sales of $262.4 million in fiscal 2024 decreased 4% from fiscal 2023 net sales of $272.5 million. Despite a decline in net sales, the Company maintained a relatively stable demand for its lighting products while outperforming the broader market.

Gross profit of $89.0 million in fiscal 2024 increased 3% from fiscal 2023 gross profit. Gross profit as a percentage of net sales increased 210 bps from 31.8% in fiscal 2023 to 33.9% in fiscal 2024. The improved gross profit margins were driven by sustained price disciplines, a higher value sales mix, and strong operational disciplines.

Operating expenses of $55.7 million in fiscal 2024 was comparable to fiscal 2023 operating expenses. Cost control measures were in place in fiscal 2024 and is the primary reason operating expenses remained comparable to last year operating expenses.

Fiscal 2024 Lighting Segment operating income of $33.3 million increased 5% from operating income of $31.6 million in fiscal 2023 primarily due to an improvement in gross profit on lower sales and effective operating expense cost controls.

[[GREPCENT_TABLE]]
[["Display Solutions Segment"],["(In thousands)","","2024","","","2023"],["Net Sales","","$","207,225","","","$","224,528"],["Gross Profit","","$","44,195","","","$","50,179"],["Operating Income","","$","19,969","","","$","24,920"]]
[[/GREPCENT_TABLE]]

Display Solutions Segment net sales of $207.2 million in fiscal 2024 decreased 8% from fiscal 2023 net sales of $224.5 million. The decline in sales is due largely to lower demand in the grocery vertical primarily driven by the lengthy regulatory review of the proposed merger of two large grocery store chains.

Gross profit of $44.2 million in fiscal 2024 decreased 12% from fiscal 2023. Gross profit as a percentage of net sales decreased to 21.3% in fiscal 2024 compared from 22.3% in fiscal 2023. The decrease in gross profit and corresponding decline in gross profit as a percentage of sales was driven mostly by lower volume and by a shift in product mix.

Operating expenses of 24.2 million in fiscal 2024 decreased 4% from fiscal 2023. The decrease in operating expenses was primarily driven by efforts to manage costs in line with the decline in net sales.

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Fiscal 2024 Display Solutions Segment operating income of $20.0 million decreased 20% from operating income of $24.9 million in fiscal 2023. The decrease in operating income was primarily driven by the decrease in net sales.

[[GREPCENT_TABLE]]
[["Corporate and Eliminations"],["(In thousands)","","2024","","","2023"],["Gross (Loss)/Profit","","$","(53",")","","$","5"],["Operating (Loss)","","$","(17,779",")","","$","(19,525",")"]]
[[/GREPCENT_TABLE]]

The gross (loss)/profit relates to the intercompany profit in inventory elimination.

Operating expenses of $17.8 million in fiscal 2024 decreased 9% from fiscal 2023. The decrease was primarily the result of cost containment initiatives across several of the Company’s cost categories to align with a decline in sales.

Consolidated Results

Net interest expense of $2.2 million in fiscal 2024 compared to $3.7 million net interest expense in fiscal 2023. The decrease in interest expense was the net result of the Company’s repayment of debt from cash generated by operations through the third quarter of fiscal 2024 partially offset by the debt incurred related to the acquisition of EMI Industries, LLC in the fourth quarter. The Company also recorded $0.3 million of other expense in fiscal 2024 compared to a negligible amount of other expense in fiscal 2023, related to net foreign exchange currency transaction net losses through our Mexican and Canadian subsidiaries.

The $8.1million of tax expense in fiscal 2024 reflects a consolidated effective tax rate of 24.5% compared to the $7.6 million of income tax expense in fiscal 2023 which represents a consolidated effective tax rate of 22.7%. The increase in the effective tax rate is primarily driven by an increase in state, local and foreign income taxes across the multiple tax jurisdictions where LSI has a physical presence.

Reported net income of $25.0 million in fiscal 2024 compared to net income of $25.8 million in fiscal 2023. Non-GAAP adjusted net income was $28.6 million in fiscal 2024 compared to adjusted net income of $29.0 million in fiscal 2023 (Refer to the Non-GAAP tables above). Fiscal 2024 Non-GAAP adjusted net income was approximately equal to the same period last year on a 6% decline in net sales. Diluted earnings per share of $0.83 was reported in fiscal 2024 compared to $0.88 diluted earnings per share in fiscal 2023. The weighted average common shares outstanding for purposes of computing diluted earnings per share in fiscal 2024 were 30,068,000 shares compared to 29,316,000 shares in fiscal 2023.

Liquidity and Capital Resources

The Company considers our level of cash on hand, borrowing capacity, current ratio and working capital levels to be our most important measures of short-term liquidity. For long-term liquidity indicators, we believe our ratio of long-term debt to equity and our historical levels of net cash flows from operating activities to be the most important measures.

Working capital was $83.3 million at June 30, 2024, compared to $73.3 million at June 30, 2023. The ratio of current assets to current liabilities was 2.05 to 1 as of June 30, 2024, compared to a ratio of 1.96 to 1 as of June 30, 2023. The acquisition of EMI Industries, LLC (EMI) in the fourth quarter of fiscal 2024 accounted for $12.7 million of the increase in net working capital. When the impact of the acquisition of EMI is removed from the year-over-year comparison, net working capital decreased $2.7 million. The net decrease in net working capital excluding EMI was mostly due to a $12.4 million decrease in net accounts receivable, a decrease of $4.0 million in net inventory, partially offset by a $12.4 million decrease in accounts payable and accrued expenses.

Net accounts receivable were $78.6 million and $77.7 million at June 30, 2024, and June 30, 2023, respectively with EMI accounting for $13.3 million of net accounts receivable as of June 30, 2024. Net accounts receivable decreased $12.4 million excluding EMI’s net accounts receivable. Days Sales Outstanding (DSO) was 58 days and 57 days as of June 30, 2024, and June 30, 2023, respectively. We believe that our receivables are ultimately collectible or recoverable, net of certain reserves, and that aggregate allowances for credit losses are adequate. 

Net inventories were $70.9 million and $63.7 million at June 30, 2024, and June 30, 2023, respectively, with EMI accounting for $11.2 million of the $70.9 million total net inventory at June 30, 2024. Net inventory decreased $4.0 million excluding EMI’s net inventory. The decrease of $4.0 million is the net result of a $5.9 million decrease in Lighting Segment inventory partially offset by a $1.8 million increase in Display Solutions Segment inventory. Display Solutions inventory increased to support program initiatives.

Cash generated from operations and borrowing capacity under our credit facility is our primary source of liquidity. In September 2021, we amended our previous $100 million secured line of credit, to a $25 million term loan and the remaining $75 million as a secured revolving line of credit. Both facilities expire in the third quarter of fiscal 2026. As of June 30, 2024, $36.2 million of the line of credit was available. As of June 30, 2024, we are in compliance with all of our loan covenants. We believe that our $100 million credit facility plus cash flows from operating activities are adequate for operational and capital expenditure needs for the next 12 months.

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The Company generated $43.4 million of cash from operating activities in fiscal 2024 compared to a generation of cash of $49.6 million in fiscal 2023. The Company continues to effectively manage its working capital while generating cash flow from earnings, resulting in strong cash flow from operations.

The Company used $55.3 million of cash from investing activities in fiscal 2024 compared to a use of cash of $3.2 million in fiscal 2023. The Company acquired EMI Industries, LLC in the fourth quarter of fiscal 2024 for $49.9 million which contributed significantly to the $55.3 million investing activities in fiscal 2024. Capital expenditures accounted for the remainder of the fiscal 2024 use of cash for investing purposes totaling $5.4 million compared to $3.2 million in fiscal 2023. The Company has increased its investment in equipment and tooling year-over-year to support sales growth and new products.

The Company generated cash of $14.3 million related to financing activities in fiscal 2024 compared to a net use of cash of $47.1 million in fiscal 2023. The acquisition of EMI in the fourth quarter of fiscal 2024 resulted in the need to borrow from the Company’s revolving line of credit which contributed to the net increase in borrowings in fiscal 2024 and resulted in the generation of cash related to financing activities. With the exception of the acquisition of EMI and the need to borrow against the Company’s credit facility, the Company continues to generate positive cash flow and effectively manages working capital to pay down its line of credit. The Company also received $1.8 million and $3.9 million of cash payments in fiscal 2024 and fiscal 2023, respectively, related to the exercise of employee stock options.

The Company has on its balance sheet financial instruments consisting primarily of cash and cash equivalents, revolving lines of credit, and long-term debt. The fair value of these financial instruments approximates carrying value because of their short-term maturity and/or variable, market-driven interest rates.

Off-Balance Sheet Arrangements

We have no financial instruments with off-balance sheet risk.

Cash Dividends

In August 2024, the Board of Directors declared a regular quarterly cash dividend of $0.05 per share payable September 3, 2024, to shareholders of record as of August 26, 2024. The indicated annual cash dividend rate for fiscal 2024 was $0.20 per share. The Board of Directors has adopted a policy regarding dividends which indicates that dividends will be determined by the Board of Directors at its discretion based upon its evaluation of earnings, cash flow requirements, financial conditions, debt levels, stock repurchases, future business developments and opportunities, and other factors deemed relevant.

Critical Accounting Policies and Use of Estimates

We have adopted various accounting policies to prepare the consolidated financial statements in accordance with U.S. GAAP. Our significant accounting policies are described in Note 1. "Summary of Significant Accounting Policies" of the Notes to Consolidated Financial Statements. Some of those significant accounting policies require us to make difficult, subjective, or complex judgments or estimates. An accounting estimate is considered to be critical if it meets both of the following criteria: (i) the estimate requires assumptions about matters that are highly uncertain at the time the accounting estimate is made, and (ii) different estimates reasonably could have been used, or changes in the estimate that are reasonably likely to occur may have a material impact on our financial condition or results of operations. The significant accounting policy that management believes is critical to the understanding and evaluating our reported financial results is the warranty reserve. For further information see Note 1. “Summary of Significant Accounting Policies " of the Notes to Consolidated Financial Statements in this Annual Report on Form 10-K. 

Warranty Reserves:

The Company offers a limited warranty that its products are free from defects in workmanship and materials.  The specific terms and conditions vary somewhat by product line, but generally cover defective products returned within one to five years, with some exceptions where the terms extend to 10 years, from the date of shipment. The Company records warranty liabilities to cover the estimated future costs for repair or replacement of defective returned products as well as products that need to be repaired or replaced in the field after installation. The Company calculates its liability for warranty claims by applying estimates based upon historical claims as a percentage of sales to cover unknown claims, as well as estimating the total amount to be incurred for known warranty issues. Warranty reserves are subject to large reserve adjustments when actual warranty costs differ significantly from cost estimates. The Company also periodically assesses the adequacy of its recorded warranty liabilities and adjusts the amount as necessary which can also cause large reserve adjustments. These adjustments may be required in the future, which could adversely affect our gross profit and results of operations. The same methodology was used for calculating warranty reserves in fiscal 2023 and fiscal 2024 which resulted in a modest increase in the reserve in fiscal 2024.

29

Business Combination:

From time to time, the Company enters into business combinations. Business acquisitions are accounted for using the acquisition method of accounting, which allocates the fair value of the purchase consideration to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values. In the fair value evaluation of intangible assets acquired, there are significant estimates and assumptions, including forecasts of future cash flows, revenues; and earnings before interest, taxes, depreciation and amortization; as well as the selection of the royalty rates and discount rates. The excess of the purchase consideration over the fair values of these identifiable assets and liabilities is recorded as goodwill. The acquisition method of accounting also requires us to refine these estimates over a measurement period not to exceed one year to reflect new information obtained about facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date. If we are required to adjust provisional amounts that we have recorded for the fair values of assets and liabilities in connection with acquisitions, these adjustments could have a material impact on our financial condition and results of operations.

Additionally, uncertain tax positions and tax-related valuation allowances are initially recorded in connection with a business combination as of the acquisition date. We continue to collect information and reevaluate these estimates and assumptions periodically and record any adjustments to preliminary estimates to goodwill, provided we are within the measurement period. If outside of the measurement period, any subsequent adjustments are recorded to the consolidated statement of operations.

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