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Water Tower Research is a leading equity research firm that provides research on micro, small and mid cap companies.

Water Tower Research was founded by Wall Street veterans after witnessing a fundamental shift in the investment research industry with the result being a declining knowledge base among investors, a lack of awareness and a shrinking pool of fundamental research being conducted on companies across the small-cap and micro-cap spectrum. The same issues are now increasingly occurring in the mid-cap space. This sea change within the investment community is impacting not only the companies themselves but also current shareholders and potential investors. With significantly less active sell-side sponsorship by Wall Street, a substantial information gap has developed between companies and various constituents in the financial community. The net result is fewer channels for insight and information to flow between companies and investors.

Equity Research Firm

Equity Bottom-Up

<h2>KEY POINTS</h2>
<ul>
<li>Culp issued its 3Q22 earnings press release and 8-K filing on March 2 after the market close. Despite posting consolidated revenues that were modestly higher than 3Q21 and above our estimate, gross margin remained under pressure, causing income from operations to fall below last year’s and miss our estimate. Additionally, disparities in tax jurisdiction tax rates and the geographical differences in the mix of recognized pre-tax income between Culp’s US and non-US operations caused an abnormally high quarterly tax rate and tax expense. The combination of disappointing operating income and the unusually high tax expense caused Culp to post a small net loss in 3Q22.</li>
<li>The variance analysis tables in this report compare 3Q22 consolidated results to 3Q21, and to our 3Q22 estimates. In addition, we show operating income results by Culp’s two segments and the unallocated corporate expense. See also our commentary, “Variance Analysis: Key Points.”</li>
<li>Fiscal 2022-to-date provided some challenges to Culp’s management—customer supply chain disruptions, inflation in freight, raw material, and labor costs, and COVID-19 shutdowns, to mention a few. Yet management developed and opened an innovation campus in High Point and nearly finished the expansion of a new manufacturing facility in Haiti needed to accommodate a major customer of its upholstery fabrics business.</li>
<li>In the past when burdened by more assets and high debt, Culp could not maintain profitability when macroeconomic fortunes soured. The fact Culp remained profitable, debt-free and has a strong annual dividend of $0.46 at the end of 3Q22 in the face of the recent challenges is reassuring.</li>
<li>Importantly, today’s Culp has unique strategic strengths in its global platform and its product-driven innovation. Further, the commitment to control costs, maintain financial strength, and rebuild liquidity demonstrates a level of maturity in Culp’s management that we also find heartening.</li>
<li>4Q22 Outlook: Management cautioned that recent headwinds could continue to pressure 4Q22 results, and that it expects a natural slowdown in residential furnishings after the stay-at-home surge. In sum, it expects 4Q22 sales to be slightly lower than 4Q21 and 4Q22 operating income to be comparable to that of 4Q21.</li>
</ul>
<h2>VARIANCE ANALYSIS: KEY POINTS</h2>
<ul>
<li>Culp reported 3Q22 consolidated sales of $80.3 million, up 1.2% versus 3Q21 sales of $79.3 million, and $5.8 million above our published $74.5 million estimate. The positive variance versus our estimate accounted for ~$0.01 per share improvement in EPS.</li>
<li>A 614bps decline y/y in gross margin percentage and 428bps miss versus our estimate caused EPS to come in $0.28 below last year and $0.18 below our estimate. The bulk of the gross profit miss was in Culp’s mattress fabrics segment and related to inefficiencies in mix between the Canadian and US operations.</li>
<li>To its credit, management demonstrated good expense control. Some improvement resulted from reversing accrued variable compensation, which worked as intended. Overall, the reduction in operating expenses versus last year and our estimate boosted Op. EPS by $0.11 and $0.15, respectively.</li>
<li>As discussed previously, different jurisdictional tax rates between Culp’s geographies occasionally cause abnormalities in reported tax expense. The differences get magnified when accounted pre-tax profits accrue in the relatively high tax jurisdictions (Canada and China) versus accounted pre-tax losses in Culp’s zero tax geography (US). Through 2Q22, Culp’s year-to-date composite tax expense was ~30.3% of its pre-tax income. After suffering the inefficiencies of 3Q22, its year-to-date tax expense was ~48% of combined pre-tax income, thereby necessitating ~$1.3 million of incremental tax expense accrual.</li>
</ul>
<h2>VARIANCE ANALYSIS: 3Q22 vs 3Q21 AND vs WTR ESTIMATES</h2>
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<figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/262/340/original/image_15259559161646963182654.png?1646963184" class="editor-image img-responsive" data-smartkarma-image-id="262340"></figure>
<p>Source: Company Filings, Water Tower Research &amp; Analysis</p>
<h2>DISCLOSURES</h2>
<p>Water Tower Research (“WTR”) is a professional publisher of investment research reports on public companies and, to a lesser extent, private firms (“the Companies”). WTR provides investor-focused content and digital distribution strategies designed to help companies communicate with investors.<br><br>WTR is not a registered investment adviser or a broker/dealer nor does WTR provide investment banking services. WTR operates as an exempt investment adviser under the so called “publishers’ exemption” from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940. WTR does not provide investment ratings / recommendations or price targets on the companies it reports on. Readers are advised that the research reports are published and provided solely for informational purposes and should not be construed as an offer to sell or the solicitation of an offer to buy securities or the rendering of investment advice. The information provided in this report should not be construed in any manner whatsoever as personalized advice. All users and readers of WTR’s reports are cautioned to consult their own independent financial, tax and legal advisors prior to purchasing or selling securities.<br><br>Budd Bugatch, who is the writer of this report, covers the Consumer sector for WTR. Mr. Bugatch and members of his household have no personal or business-related relationship to the subject company other than providing digital content and any ancillary services WTR may offer.<br><br>Unless otherwise indicated, WTR intends to provide continuing coverage of the covered companies. WTR will notify its readers through website postings or other appropriate means if WTR determines to terminate coverage of any of the companies covered.<br><br>WTR is being compensated for its research by the company which is the subject of this report. WTR receives no more than a maximum of $10,500 per month from a given client and is required to have at least a 6-month commitment. None of the earned fees are contingent on, and WTR’s client agreements are not cancellable for the content of its reports. WTR does not accept any compensation in the form of warrants or stock options or other equity instruments that could increase in value based on positive coverage in its reports.<br><br>WTR or an affiliate may seek to receive compensation for non-research services to covered companies, such as charges for presenting at sponsored investor conferences, distributing press releases, advising on investor relations and broader corporate communications and public relations strategies as well as performing certain other related services (“Ancillary Services”). The companies that WTR covers in our research are not required to purchase or use Ancillary Services that WTR or an affiliate might offer to clients.<br><br>The manner of WTR’s research compensation and Ancillary Services to covered companies raise actual and perceived conflicts of interest. WTR is committed to manage those conflicts to protect its reputation and the objectivity of employees/analysts by adhering to strictly-written compliance guidelines.<br><br>The views and analyses included in our research reports are based on current public information that we consider to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy, completeness, timeliness, or correctness. Neither we nor our analysts, directors, officers, employees, representatives, independent contractors, agents or affiliate shall be liable for any omissions, errors or inaccuracies, regardless of cause, foreseeability or the lack of timeliness of, or any delay or interruptions in the transmission of our reports to content users. This lack of liability extends to direct, indirect, incidental, exemplary, compensatory, punitive, special or consequential damages, costs, expenses, legal fees, losses, lost income, lost profit or opportunity costs.<br><br>All investment information contained herein should be independently verified by the reader or user of this report. For additional information, all readers of this report are encouraged to visit WTR’s website www.watertowerresearch.com.</p>

KEY POINTS

Culp issued its 3Q22 earnings press release and 8-K filing on March 2 after the market close. Despite posting consolidated revenues that were modestly higher than 3Q21 and above our estimate, gross margin remained under pressure, causing income from operations to fall below last year’s and miss our estimate. Additionally, disparities in tax jurisdiction tax rates and the geographical differences in the mix of recognized pre-tax income between Culp’s US and non-US operations caused an abnormally high quarterly tax rate and tax expense. The combination of disappointing operating income and the unusually high tax expense caused Culp to post a small net loss in 3Q22.
The variance analysis tables in this report compare 3Q22 consolidated results to 3Q21, and to our 3Q22 estimates. In addition, we show operating income results by Culp’s two segments and the unallocated corporate expense. See also our commentary, “Variance Analysis: Key Points.”
Fiscal 2022-to-date provided some challenges to Culp’s management—customer supply chain disruptions, inflation in freight, raw material, and labor costs, and COVID-19 shutdowns, to mention a few. Yet management developed and opened an innovation campus in High Point and nearly finished the expansion of a new manufacturing facility in Haiti needed to accommodate a major customer of its upholstery fabrics business.
In the past when burdened by more assets and high debt, Culp could not maintain profitability when macroeconomic fortunes soured. The fact Culp remained profitable, debt-free and has a strong annual dividend of $0.46 at the end of 3Q22 in the face of the recent challenges is reassuring.
Importantly, today’s Culp has unique strategic strengths in its global platform and its product-driven innovation. Further, the commitment to control costs, maintain financial strength, and rebuild liquidity demonstrates a level of maturity in Culp’s management that we also find heartening.
4Q22 Outlook: Management cautioned that recent headwinds could continue to pressure 4Q22 results, and that it expects a natural slowdown in residential furnishings after the stay-at-home surge. In sum, it expects 4Q22 sales to be slightly lower than 4Q21 and 4Q22 operating income to be comparable to that of 4Q21.

VARIANCE ANALYSIS: KEY POINTS

Culp reported 3Q22 consolidated sales of $80.3 million, up 1.2% versus 3Q21 sales of $79.3 million, and $5.8 million above our published $74.5 million estimate. The positive variance versus our estimate accounted for ~$0.01 per share improvement in EPS.
A 614bps decline y/y in gross margin percentage and 428bps miss versus our estimate caused EPS to come in $0.28 below last year and $0.18 below our estimate. The bulk of the gross profit miss was in Culp’s mattress fabrics segment and related to inefficiencies in mix between the Canadian and US operations.
To its credit, management demonstrated good expense control. Some improvement resulted from reversing accrued variable compensation, which worked as intended. Overall, the reduction in operating expenses versus last year and our estimate boosted Op. EPS by $0.11 and $0.15, respectively.
As discussed previously, different jurisdictional tax rates between Culp’s geographies occasionally cause abnormalities in reported tax expense. The differences get magnified when accounted pre-tax profits accrue in the relatively high tax jurisdictions (Canada and China) versus accounted pre-tax losses in Culp’s zero tax geography (US). Through 2Q22, Culp’s year-to-date composite tax expense was ~30.3% of its pre-tax income. After suffering the inefficiencies of 3Q22, its year-to-date tax expense was ~48% of combined pre-tax income, thereby necessitating ~$1.3 million of incremental tax expense accrual.

VARIANCE ANALYSIS: 3Q22 vs 3Q21 AND vs WTR ESTIMATES


Source: Company Filings, Water Tower Research &amp; Analysis
DISCLOSURES
Water Tower Research (“WTR”) is a professional publisher of investment research reports on public companies and, to a lesser extent, private firms (“the Companies”). WTR provides investor-focused content and digital distribution strategies designed to help companies communicate with investors.  WTR is not a registered investment adviser or a broker/dealer nor does WTR provide investment banking services. WTR operates as an exempt investment adviser under the so called “publishers’ exemption” from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940. WTR does not provide investment ratings / recommendations or price targets on the companies it reports on. Readers are advised that the research reports are published and provided solely for informational purposes and should not be construed as an offer to sell or the solicitation of an offer to buy securities or the rendering of investment advice. The information provided in this report should not be construed in any manner whatsoever as personalized advice. All users and readers of WTR’s reports are cautioned to consult their own independent financial, tax and legal advisors prior to purchasing or selling securities.  Budd Bugatch, who is the writer of this report, covers the Consumer sector for WTR. Mr. Bugatch and members of his household have no personal or business-related relationship to the subject company other than providing digital content and any ancillary services WTR may offer.  Unless otherwise indicated, WTR intends to provide continuing coverage of the covered companies. WTR will notify its readers through website postings or other appropriate means if WTR determines to terminate coverage of any of the companies covered.  WTR is being compensated for its research by the company which is the subject of this report. WTR receives no more than a maximum of $10,500 per month from a given client and is required to have at least a 6-month commitment. None of the earned fees are contingent on, and WTR’s client agreements are not cancellable for the content of its reports. WTR does not accept any compensation in the form of warrants or stock options or other equity instruments that could increase in value based on positive coverage in its reports.  WTR or an affiliate may seek to receive compensation for non-research services to covered companies, such as charges for presenting at sponsored investor conferences, distributing press releases, advising on investor relations and broader corporate communications and public relations strategies as well as performing certain other related services (“Ancillary Services”). The companies that WTR covers in our research are not required to purchase or use Ancillary Services that WTR or an affiliate might offer to clients.  The manner of WTR’s research compensation and Ancillary Services to covered companies raise actual and perceived conflicts of interest. WTR is committed to manage those conflicts to protect its reputation and the objectivity of employees/analysts by adhering to strictly-written compliance guidelines.  The views and analyses included in our research reports are based on current public information that we consider to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy, completeness, timeliness, or correctness. Neither we nor our analysts, directors, officers, employees, representatives, independent contractors, agents or affiliate shall be liable for any omissions, errors or inaccuracies, regardless of cause, foreseeability or the lack of timeliness of, or any delay or interruptions in the transmission of our reports to content users. This lack of liability extends to direct, indirect, incidental, exemplary, compensatory, punitive, special or consequential damages, costs, expenses, legal fees, losses, lost income, lost profit or opportunity costs.  All investment information contained herein should be independently verified by the reader or user of this report. For additional information, all readers of this report are encouraged to visit WTR’s website www.watertowerresearch.com.

United States

Culp, Inc. manufactures and markets upholstery fabrics and mattress tickings for use in furniture and bedding industries. The Company's fabrics are used in the production of residential and commercial furniture and bedding products, including sofas, recliners, chairs, loveseats, sectionals, sofa-beds, office seating, panel systems, and mattress sets.

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Culp Inc (CULP US)

Managing Well in Challenging Times

KEY POINTS Culp issued its 3Q22 earnings press release and 8-K filing on March 2 after the market close. Despite posting consolidated revenues...

Water Tower Research

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