Toggle SGML Header (+)


Section 1: 10-Q (10-Q - Q2 2018)

Document


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
 
FORM 10-Q
 
 
x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the quarterly period ended June 30, 2018
 
 
OR
 
 
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
 
 
Commission File Number: 1-14225
 
 
HNI Corporation
Iowa
(State of Incorporation)
42-0617510
(I.R.S. Employer No.)
 
 
600 East Second Street
P. O. Box 1109
Muscatine, Iowa 52761-0071
(563) 272-7400
 
 
 
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       x                     NO     o             
 
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       x                     NO     o             
 
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 the 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 x Accelerated filer o Non-accelerated filer o Smaller reporting company o  Emerging growth company o

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. o  
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).                                      
YES       o                     NO     x             
 
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date.
Common Stock, $1 Par Value
Outstanding as of June 30, 2018 43,735,956
 




HNI Corporation and Subsidiaries
Quarterly Report on Form 10-Q
 
 
 
Table of Contents
 
 
 
PART I.  FINANCIAL INFORMATION
 
 
Page
Item 1.
Financial Statements (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
PART II.  OTHER INFORMATION
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
Defaults Upon Senior Securities - None
-
 
 
 
Item 4.
Mine Safety Disclosures - Not Applicable
-
 
 
 
Item 5.
Other Information - None
-
 
 
 
Item 6.
 
 
 
 
  

2




PART I.  FINANCIAL INFORMATION

Item 1. Financial Statements

HNI Corporation and Subsidiaries
Condensed Consolidated Statements of Comprehensive Income
(In thousands, except share and per share data)
(Unaudited)
 
 
 
 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
 
 
 
 
Net sales
$
543,614

 
$
514,485

 
$
1,048,683

 
$
992,152

Cost of sales
342,744

 
329,733

 
670,894

 
633,677

Gross profit
200,870

 
184,752

 
377,789

 
358,475

Selling and administrative expenses
172,973

 
162,684

 
344,868

 
326,350

Restructuring and impairment charges
837

 
419

 
2,175

 
2,542

Operating income
27,060

 
21,649

 
30,746

 
29,583

Interest income
89

 
325

 
202

 
396

Interest expense
2,718

 
1,347

 
5,055

 
2,393

Income before income taxes
24,431

 
20,627

 
25,893

 
27,586

Income taxes
5,835

 
6,771

 
4,836

 
8,949

Net income
18,596

 
13,856

 
21,057

 
18,637

Less: Net income (loss) attributable to non-controlling interest
(1
)
 
8

 
(50
)
 
(48
)
Net income attributable to HNI Corporation
$
18,597

 
$
13,848

 
$
21,107

 
$
18,685

 
 
 
 
 
 
 
 
Average number of common shares outstanding – basic
43,665,411

 
44,178,287

 
43,512,691

 
44,114,164

Net income attributable to HNI Corporation per common share – basic
$
0.43

 
$
0.31

 
$
0.49

 
$
0.42

Average number of common shares outstanding – diluted
44,289,662

 
45,305,547

 
44,201,285

 
45,375,451

Net income attributable to HNI Corporation per common share – diluted
$
0.42

 
$
0.31

 
$
0.48

 
$
0.41

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Foreign currency translation adjustments
$
(1,128
)
 
$
115

 
$
(1,127
)
 
$
459

Change in unrealized gains (losses) on marketable securities, net of tax
(13
)
 
19

 
(92
)
 
37

Change in derivative financial instruments, net of tax
326

 
(394
)
 
1,353

 
(129
)
Other comprehensive income (loss), net of tax
(815
)
 
(260
)
 
134

 
367

Comprehensive income
17,781

 
13,596

 
21,191

 
19,004

Less: Comprehensive income (loss) attributable to non-controlling interest
(1
)
 
8

 
(50
)
 
(48
)
Comprehensive income attributable to HNI Corporation
$
17,782

 
$
13,588

 
$
21,241

 
$
19,052


See accompanying Notes to Condensed Consolidated Financial Statements (Unaudited).


3




HNI Corporation and Subsidiaries
Condensed Consolidated Balance Sheets

(In thousands)
(Unaudited)
 
 
 
 
 
June 30,
2018
 
December 30,
2017
Assets
 
 
 
Current Assets:
 
 
 
Cash and cash equivalents
$
31,065

 
$
23,348

Short-term investments
2,260

 
2,015

Receivables
238,905

 
258,551

Inventories
185,371

 
155,683

Prepaid expenses and other current assets
49,801

 
49,283

Total Current Assets
507,402

 
488,880

 
 
 
 
Property, Plant, and Equipment:
 
 
 

Land and land improvements
28,469

 
28,593

Buildings
290,076

 
306,137

Machinery and equipment
554,414

 
556,571

Construction in progress
31,722

 
39,788

 
904,681

 
931,089

Less accumulated depreciation
527,735

 
540,768

Net Property, Plant, and Equipment
376,946

 
390,321

 
 
 
 
Goodwill and Other Intangible Assets
481,891

 
490,892

 
 
 
 
Deferred Income Taxes
193

 
193

 
 
 
 
Other Assets
21,956

 
21,264

 
 
 
 
Total Assets
$
1,388,388

 
$
1,391,550


See accompanying Notes to Condensed Consolidated Financial Statements (Unaudited).


4




HNI Corporation and Subsidiaries
Condensed Consolidated Balance Sheets
(In thousands, except par value)
(Unaudited)
 
 
 
 
 
June 30,
2018
 
December 30,
2017
Liabilities and Equity
 
 
 
Current Liabilities:
 
 
 
Accounts payable and accrued expenses
$
409,266

 
$
450,128

Current maturities of long-term debt
434

 
36,648

Current maturities of other long-term obligations
3,199

 
2,927

Total Current Liabilities
412,899

 
489,703

 
 
 
 
Long-Term Debt
296,397

 
240,000

 
 
 
 
Other Long-Term Liabilities
75,928

 
70,409

 
 
 
 
Deferred Income Taxes
77,870

 
76,861

 
 
 
 
Equity:
 

 
 

HNI Corporation shareholders' equity:
 

 
 

 Capital Stock:
 

 
 

     Preferred stock - $1 par value, authorized 2,000 shares, no shares outstanding

 

 
 
 
 
    Common stock - $1 par value, authorized 200,000 shares, outstanding:
 
 
 
June 30, 2018 – 43,736 shares;
 
 
 
December 30, 2017 – 43,354 shares
43,736

 
43,354

 
 
 
 
Additional paid-in capital
26,077

 
7,029

Retained earnings
458,458

 
467,296

Accumulated other comprehensive income (loss)
(3,477
)
 
(3,611
)
Total HNI Corporation shareholders' equity
524,794

 
514,068

 
 
 
 
Non-controlling interest
500

 
509

 
 
 
 
Total Equity
525,294

 
514,577

 
 
 
 
Total Liabilities and Equity
$
1,388,388

 
$
1,391,550


See accompanying Notes to Condensed Consolidated Financial Statements (Unaudited).


5




HNI Corporation and Subsidiaries
Consolidated Statements of Equity
(In thousands, except per share data)
(Unaudited)
 
 
Common Stock

 
Additional Paid-in Capital

 
Retained Earnings

 
Accumulated Other Comprehensive Income (Loss)

 
Non-controlling Interest

 
Total Shareholders’ Equity

Balance, December 30, 2017
$
43,354

 
$
7,029

 
$
467,296

 
$
(3,611
)
 
$
509

 
$
514,577

Comprehensive income:
 
 
 
 
 
 
 
 
 
 
 
Net income (loss)

 

 
21,107

 

 
(50
)
 
21,057

Other comprehensive income (loss), net of tax

 

 

 
134

 

 
134

Change in ownership of non-controlling interest

 

 
(41
)
 

 
41

 

Cash dividends; $0.58 per share

 

 
(25,268
)
 

 

 
(25,268
)
Common shares – treasury:
 
 
 
 
 
 
 
 
 
 
 
Shares purchased
(206
)
 
(3,121
)
 
(4,636
)
 

 

 
(7,963
)
Shares issued under Members' Stock Purchase Plan and stock awards, net of tax
588

 
22,169

 

 

 

 
22,757

Balance, June 30, 2018
$
43,736

 
$
26,077

 
$
458,458

 
$
(3,477
)
 
$
500

 
$
525,294



 
Common Stock

 
Additional Paid-in Capital

 
Retained Earnings

 
Accumulated Other Comprehensive Income (Loss)

 
Non-controlling Interest

 
Total Shareholders’ Equity

Balance, December 31, 2016
$
44,079

 
$

 
$
461,524

 
$
(5,000
)
 
$
406

 
$
501,009

Comprehensive income:
 
 
 
 
 
 
 
 
 
 
 
Net income (loss)

 

 
18,685

 

 
(48
)
 
18,637

Other comprehensive income (loss), net of tax

 

 

 
367

 

 
367

Change in ownership of non-controlling interest

 

 

 

 

 

Cash dividends; $0.56 per share

 

 
(24,727
)
 

 

 
(24,727
)
Common shares – treasury:
 
 
 
 
 
 
 
 
 
 
 
Shares purchased
(522
)
 
(16,954
)
 
(6,352
)
 

 

 
(23,828
)
Shares issued under Members' Stock Purchase Plan and stock awards, net of tax
499

 
22,392

 

 

 

 
22,891

Balance, July 1, 2017
$
44,056

 
$
5,438

 
$
449,130

 
$
(4,633
)
 
$
358

 
$
494,349


See accompanying Notes to Condensed Consolidated Financial Statements (Unaudited).


6




HNI Corporation and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
 
 
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
Net Cash Flows From (To) Operating Activities:
 
 
 
Net income
$
21,057

 
$
18,637

Non-cash items included in net income:
 
 
 
Depreciation and amortization
37,280

 
36,464

Other post-retirement and post-employment benefits
883

 
796

Stock-based compensation
4,908

 
5,803

Deferred income taxes
762

 
126

(Gain) loss on sale, retirement, and impairment of long-lived assets, net
1,488

 
671

Amortization of deferred gain on sale leaseback transaction
(168
)
 

Other – net
343

 
(2,327
)
Net increase (decrease) in operating assets and liabilities, net of divestitures
(37,008
)
 
(85,064
)
Increase (decrease) in other liabilities
(67
)
 
(2,408
)
Net cash flows from (to) operating activities
29,478

 
(27,302
)
 
 
 
 
Net Cash Flows From (To) Investing Activities:
 

 
 

Capital expenditures
(26,687
)
 
(51,730
)
Proceeds from sale of property, plant, and equipment
18,444

 
658

Capitalized software
(5,637
)
 
(12,358
)
Purchase of investments
(1,329
)
 
(2,040
)
Sales or maturities of investments
1,357

 
1,937

Other – net
1,136

 
1,510

Net cash flows from (to) investing activities
(12,716
)
 
(62,023
)
 
 
 
 
Net Cash Flows From (To) Financing Activities:
 

 
 

Payments of long-term debt and other financing
(295,536
)
 
(119,489
)
Proceeds from long-term debt
312,279

 
238,890

Dividends paid
(25,268
)
 
(24,727
)
Purchase of HNI Corporation common stock
(9,120
)
 
(22,617
)
Proceeds from sales of HNI Corporation common stock
8,755

 
8,313

Withholding related to net share settlements of equity based awards
(155
)
 
(209
)
Net cash flows from (to) financing activities
(9,045
)
 
80,161

 
 
 
 
Net increase (decrease) in cash and cash equivalents
7,717

 
(9,164
)
Cash and cash equivalents at beginning of period
23,348

 
36,312

Cash and cash equivalents at end of period
$
31,065

 
$
27,148

 
See accompanying Notes to Condensed Consolidated Financial Statements (Unaudited).


7




HNI Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements (Unaudited)
June 30, 2018

Note 1.  Basis of Presentation

The accompanying unaudited, condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and notes required by generally accepted accounting principles for complete financial statements.  The December 30, 2017 consolidated balance sheet included in this Form 10-Q was derived from audited financial statements but does not include all disclosures required by generally accepted accounting principles.  In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair statement have been included. Operating results for the six-month period ended June 30, 2018 are not necessarily indicative of the results expected for the fiscal year ending December 29, 2018.  For further information, refer to the consolidated financial statements and accompanying notes included in HNI Corporation's (the "Corporation") Annual Report on Form 10-K for the fiscal year ended December 30, 2017.

Note 2. Revenue from Contracts with Customers

The Corporation implemented ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), at the beginning of fiscal 2018 using the modified-retrospective method, which required the new guidance to be applied prospectively to revenue transactions completed on or after the effective date. Given the nature of the Corporation's revenue transactions, the new guidance did not have a material impact on the Corporation's results of operations or financial position. All necessary changes required by the new standard, including those to the Corporation's accounting policies, controls, and disclosures, have been identified and implemented as of the beginning of fiscal 2018.

Disaggregation of Revenue
Revenue from contracts with customers disaggregated by sales channel and by segment is as follows (in thousands):
 
 
Three Months Ended
 
Six Months Ended
 
Segment
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Supplies-driven channel
Office Furniture
$
223,457

 
$
203,096

 
$
414,685

 
$
382,060

Contract channel
Office Furniture
200,421

 
203,348

 
390,108

 
384,365

Hearth
Hearth Products
119,736

 
108,041

 
243,890

 
225,727

Net sales
 
$
543,614

 
$
514,485

 
$
1,048,683

 
$
992,152


The majority of revenue presented as "Net sales" in the Condensed Consolidated Statements of Comprehensive Income is the result of contracts with customers. All other sources of revenue are not material to the Corporation's results of operations.

Sales by channel type are subject to similar economic factors and market conditions regardless of the channel under which the product is sold. See “Note 17. Reportable Segment Information” in the Notes to Condensed Consolidated Financial Statements for further information about operating segments.

Contract Assets and Contract Liabilities
In addition to trade receivables, the Corporation has contract assets consisting of funds paid to certain office furniture dealers in exchange for their multi-year commitment to market and sell the Corporation’s product. These dealer investments are amortized over the term of the contract. For contracts less than one year, the Corporation has elected the practical expedient to recognize incremental costs to obtain a contract as an expense when incurred. The Corporation has contract liabilities consisting of deferred revenue and rebate and marketing program liabilities.

8




Contract assets and liabilities were as follows (in thousands):
 
June 30,
2018
 
December 30,
2017
Trade receivables (1)
$
241,287

 
$
260,455

Contract assets (current) (2)
$
483

 
$
300

Contract assets (long-term) (3)
$
4,026

 
$
2,350

Contract liabilities (4)
$
41,374

 
$
54,527


The index below indicates the line item in the Condensed Consolidated Balance Sheets where contract assets and contract liabilities are reported:

(1)     "Receivables"
(2)     "Prepaid expenses and other current assets"
(3)     "Other Assets"
(4)     "Accounts payable and accrued expenses"

Changes in contract asset and contract liability balances during the six months ended June 30, 2018 were as follows (in thousands):
 
Contract assets increase (decrease)
 
Contract liabilities (increase) decrease
Contract assets recognized
$
2,100

 
$

Reclassification of contract assets to contra revenue
(241
)
 

Contract liabilities recognized and recorded to contra revenue as a result of performance obligations satisfied

 
(60,847
)
Contract liabilities paid

 
68,635

Cash received in advance and not recognized as revenue

 
(35,514
)
Reclassification of cash received in advance to revenue as a result of performance obligations satisfied

 
40,239

Impact of business combination

 
640

Net change
$
1,859

 
$
13,153


For the three months ended June 30, 2018, no revenue was recognized in the Condensed Consolidated Statements of Comprehensive Income related to contract liabilities as of December 30, 2017, as the entire liability was recognized as revenue during the three months ended March 31, 2018. For the six months ended June 30, 2018, the Corporation recognized revenue of $12.5 million in the Condensed Consolidated Statements of Comprehensive Income related to contract liabilities as of December 30, 2017.

Performance Obligations
The Corporation recognizes revenue for sales of office furniture and hearth products at a point in time following the transfer of control of such products to the customer, which typically occurs upon shipment of the product. In certain circumstances, transfer of control to the customer does not occur until the goods are received by the customer or upon installation and/or customer acceptance, depending on the terms of the underlying contracts. Contracts typically have a duration of less than one year and normally do not include a significant financing component. Generally, payment is due within 30 days of invoicing. See “Note 7. Product Warranties” in the Notes to Condensed Consolidated Financial Statements for additional information on warranty obligations.

Significant Judgments
The Corporation uses significant judgment throughout the year in estimating the reduction in net sales driven by rebate and marketing programs. Judgments made include expected sales levels and utilization of funds. However, this judgment factor is significantly reduced at the end of each year when sales volumes and the impact to rebate and marketing programs are known and recorded.


9




Accounting Policies and Practical Expedients Elected
The Corporation elected to use the modified-retrospective method of adopting the new standard on revenue recognition. It has been applied to all contracts not completed as of December 30, 2017, the end of the Corporation’s fiscal 2017. The impact of the Corporation's transition adjustment for the new revenue recognition guidance was not material to the Corporation's results of operations or financial position. The additional disclosures required as a result of adopting the new revenue recognition guidance were material to the Corporation's financial statements.

The Corporation elected the following accounting policies as a result of adopting the new standard on revenue recognition:

Shipping and Handling Activities - The Corporation has elected to apply the accounting policy election permitted in ASC 606-10-25-18B, which allows an entity to account for shipping and handling activities as fulfillment activities. The Corporation accrues for shipping and handling costs at the same time revenue is recognized, which is in accordance with the policy election. When shipping and handling activities occur prior to the customer obtaining control of the good(s), they are considered fulfillment activities rather than a performance obligation and the costs are accrued for as incurred.

Sales Taxes - The Corporation has elected to apply the accounting policy election permitted in ASC 606-10-32-2A, which allows an entity to exclude from the measurement of the transaction price all taxes assessed by a governmental authority associated with the transaction, including sales, use, excise, value-added, and franchise taxes (collectively referred to as sales taxes). This allows the Corporation to present revenue net of these certain types of taxes.

These policies have been applied consistently to all revenue transactions.

The Corporation has elected the following practical expedients as a result of adopting the new standard on revenue recognition:

Incremental Costs of Obtaining a Contract - The Corporation has elected the practical expedient permitted in ASC 340-40-25-4, which permits an entity to recognize incremental costs to obtain a contract as an expense when incurred if the amortization period will be less than one year. The Corporation will apply this practical expedient when the requirements to apply it are met.

Significant Financing Component - The Corporation has elected the practical expedient permitted in ASC 606-10-32-18, which allows an entity to not adjust the promised amount of consideration for the effects of a significant financing component if a contract has a duration of one year or less. As the Corporation's contracts are typically less than one year in length, consideration will not be adjusted.

These accounting policies and practical expedients have been applied consistently to all revenue transactions.

Note 3.  Restructuring

Restructuring costs recorded in the Condensed Consolidated Statements of Comprehensive Income are as follows (in thousands):
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Cost of sales - accelerated depreciation
$

 
$
2,960

 
$

 
$
7,158

Restructuring and impairment charges
837

 
419

 
2,175

 
2,542

Total restructuring costs
$
837

 
$
3,379

 
$
2,175

 
$
9,700


Restructuring costs in the second quarter of 2018 were primarily incurred as part of the previously announced closure of the hearth manufacturing facility in Paris, Kentucky. These costs include an impairment charge due to an updated valuation of the closed manufacturing facility held for sale. Restructuring costs in the year-to-date period for 2018 also include costs incurred as part of the previously announced closure of the office furniture manufacturing facility in Orleans, Indiana. Restructuring costs in both the quarter and year-to-date periods for 2017, which include accelerated depreciation recorded in "Cost of sales" in the Condensed Consolidated Statements of Comprehensive Income, were primarily incurred as part of the previously announced closures of the hearth manufacturing facilities in Paris, Kentucky and Colville, Washington and the office furniture manufacturing facility in Orleans, Indiana.

10




The accrued restructuring expenses are expected to be paid in the next twelve months and are included in "Accounts payable and accrued expenses" in the Condensed Consolidated Balance Sheets. The following is a summary of changes in restructuring accruals during the six months ended (in thousands):
 
Severance Costs
 
Facility Exit Costs & Other
 
Total
Restructuring allowance as of December 30, 2017
$
1,343

 
$
516

 
$
1,859

Restructuring charges
322

 
1,853

 
2,175

Cash payments
(1,376
)
 
(2,369
)
 
(3,745
)
Restructuring allowance as of June 30, 2018
$
289

 
$

 
$
289


Real Estate Transaction
As part of the Corporation's continued efforts to drive efficiency and simplification, the Corporation entered into a sale-leaseback transaction in the first quarter of 2018, selling a manufacturing facility and subsequently leasing back a portion of the facility for a term of 10 years. The net proceeds from the sale of the facility of $16.9 million are reflected in "Proceeds from sale of property, plant, and equipment" in the Condensed Consolidated Statements of Cash Flows. In accordance with ASC 840, Leases, the $5.1 million gain on the sale of the facility was deferred and is being amortized as a reduction to rent expense evenly over the term of the lease. As of June 30, 2018, the current portion of the deferred gain is $0.5 million and included within "Accounts payable and accrued expenses" and the long-term portion of the deferred gain is $4.5 million and included within "Other Long-Term Liabilities", both in the Condensed Consolidated Balance Sheets. The transaction did not have a material impact to the Condensed Consolidated Statements of Comprehensive Income.

Note 4. Acquisitions and Divestitures

As part of the Corporation's ongoing business strategy, it continues to acquire and divest small office furniture dealerships, for which the impact is not material to the Corporation's financial statements.

Note 5.  Inventories

The Corporation values its inventory at the lower of cost or net realizable value with approximately 86 percent valued by the last-in, first-out ("LIFO") costing method. Inventories included in the Condensed Consolidated Balance Sheets consisted of the following (in thousands):
 
June 30,
2018
 
December 30,
2017
 
Finished products
$
115,902

 
$
101,715

Materials and work in process
96,973

 
81,202

LIFO allowance
(27,504
)
 
(27,234
)
Total inventories
$
185,371

 
$
155,683


Note 6. Goodwill and Other Intangible Assets

Goodwill and other intangible assets included in the Condensed Consolidated Balance Sheets consisted of the following (in thousands):
 
June 30,
2018
 
December 30,
2017
Goodwill
$
279,482

 
$
279,505

Definite-lived intangible assets
173,253

 
182,186

Indefinite-lived intangible assets
29,156

 
29,201

Total goodwill and other intangible assets
$
481,891

 
$
490,892



11




Goodwill
The changes in the carrying amount of goodwill, by reporting segment, are as follows (in thousands):
 
Office Furniture
 
Hearth Products
 
Total
Balance as of December 30, 2017
 
 
 
 
 
Goodwill
$
128,657

 
$
183,199

 
$
311,856

Accumulated impairment losses
(32,208
)
 
(143
)
 
(32,351
)
Net goodwill balance as of December 30, 2017
96,449

 
183,056

 
279,505

 
 
 
 
 
 
Foreign currency translation adjustment
(23
)
 

 
(23
)
 
 
 
 
 
 
Balance as of June 30, 2018
 

 
 

 
 
Goodwill
128,634

 
183,199

 
311,833

Accumulated impairment losses
(32,208
)
 
(143
)
 
(32,351
)
Net goodwill balance as of June 30, 2018
$
96,426

 
$
183,056

 
$
279,482


Definite-lived intangible assets
The table below summarizes amortizable definite-lived intangible assets, which are reflected in "Goodwill and Other Intangible Assets" in the Condensed Consolidated Balance Sheets (in thousands):
 
June 30, 2018
 
December 30, 2017
 
Gross
 
Accumulated Amortization
 
Net
 
Gross
 
Accumulated Amortization
 
Net
Patents
$
40

 
$
30

 
$
10

 
$
40

 
$
26

 
$
14

Software
169,703

 
42,967

 
126,736

 
167,105

 
34,792

 
132,313

Trademarks and trade names
7,564

 
2,391

 
5,173

 
7,564

 
2,061

 
5,503

Customer lists and other
105,881

 
64,547

 
41,334

 
106,090

 
61,734

 
44,356

Net definite-lived intangible assets
$
283,188

 
$
109,935

 
$
173,253

 
$
280,799

 
$
98,613

 
$
182,186


Amortization expense is reflected in "Selling and administrative expenses" in the Condensed Consolidated Statements of Comprehensive Income and was as follows (in thousands):
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Capitalized software
$
4,277

 
$
1,227

 
$
8,444

 
$
2,567

Other definite-lived intangibles
$
1,642

 
$
1,748

 
$
3,330

 
$
3,521


Based on the current amount of intangible assets subject to amortization, the estimated amortization expense for each of the following five fiscal years is as follows (in millions):
 
 
2018
 
2019
 
2020
 
2021
 
2022
Amortization expense
 
$
23.3

 
$
22.6

 
$
21.7

 
$
20.5

 
$
18.5


The occurrence of events such as acquisitions, dispositions, or impairments in the future may result in changes to amounts.


12




Indefinite-lived intangible assets
The Corporation also owns certain intangible assets, which are deemed to have indefinite useful lives because they are expected to generate cash flows indefinitely. These indefinite-lived intangible assets are reflected in "Goodwill and Other Intangible Assets" in the Condensed Consolidated Balance Sheets (in thousands):
 
June 30,
2018
 
December 30,
2017
Trademarks and trade names
$
29,156

 
$
29,201


Impairment Analysis
The Corporation evaluates its goodwill and indefinite-lived intangible assets for impairment on an annual basis during the fourth quarter or whenever indicators of impairment exist. During the second quarter of 2018, the Corporation determined a triggering event occurred for one of the Corporation's reporting units within the office furniture segment due to lower expectations of operating results for the year. Accordingly, interim quantitative impairment tests were performed for goodwill and an indefinite-lived intangible asset. The tests indicated no impairment. In conjunction with the interim impairment tests, the Corporation tested the recoverability of the long-lived assets for the reporting unit, other than goodwill and the indefinite-lived intangible asset, and found no impairments.

The projections used in the impairment model reflected management's assumptions regarding revenue growth rates, economic and market trends, cost structure, investments required for operational transformation, and other expectations about the anticipated short-term and long-term operating results of the reporting unit. The Corporation assumed a discount rate of 13.0 percent, near term growth rates ranging from 7 percent to 9 percent, and a terminal growth rate of 3 percent. Holding other assumptions constant, a 100 basis point increase in the discount rate would result in a $4.2 million decrease in the estimated fair value of the reporting unit. Holding other assumptions constant, a 100 basis point decrease in the long-term growth rate would result in a $2.0 million decrease in the estimated fair value of the reporting unit. Neither of these scenarios individually would result in an impairment of the reporting unit's goodwill. There is $19.6 million of goodwill associated with this reporting unit as of June 30, 2018.

Note 7.  Product Warranties

The Corporation issues certain warranty policies on its office furniture and hearth products that provide for repair or replacement of any covered product or component that fails during normal use because of a defect in design, materials, or workmanship. Allowances have been established for the anticipated future costs associated with the Corporation's warranty programs.

A warranty allowance is determined by recording a specific allowance for known warranty issues and an additional allowance for unknown claims expected to be incurred based on historical claims experience.  Actual claims incurred could differ from the original estimates, requiring adjustments to the allowance.  Activity associated with warranty obligations was as follows (in thousands):
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
Balance at beginning of period
$
15,388

 
$
15,250

Accruals for warranties issued during period
12,219

 
11,276

Adjustments related to pre-existing warranties
93

 
32

Settlements made during the period
(12,234
)
 
(11,332
)
Balance at end of period
$
15,466

 
$
15,226



13




The current and long-term portions of the allowance for estimated settlements are included within "Accounts payable and accrued expenses" and "Other Long-Term Liabilities", respectively, in the Condensed Consolidated Balance Sheets. The following table summarizes when these estimated settlements are expected to be paid (in thousands):
 
June 30,
2018
 
December 30,
2017
Current - in the next twelve months
$
9,635

 
$
9,524

Long-term - beyond one year
5,831

 
5,864

Total estimated settlements
$
15,466

 
$
15,388


Note 8.  Long-Term Debt

Long-term debt is as follows (in thousands):
 
June 30,
2018
 
December 30,
2017
Revolving credit facility with interest at a variable rate
(June 30, 2018 - 3.3%; December 30, 2017 - 2.7%)
$
197,000

 
$
267,500

Seven-year fixed rate notes with an interest rate of 4.22%
50,000

 

Ten-year fixed rate notes with an interest rate of 4.40%
50,000

 

Other amounts
518

 
9,148

Deferred debt issuance costs
(687
)
 

Total debt
296,831

 
276,648

Less: Current maturities of long-term debt
434

 
36,648

Long-term debt
$
296,397

 
$
240,000


As of June 30, 2018, the Corporation’s revolving credit facility borrowings were under the credit agreement entered into April 20, 2018 with a scheduled maturity of April 20, 2023. The Corporation deferred the debt issuance costs related to the credit agreement, which are classified as assets, and is amortizing them over the term of the credit agreement. The current portion of $0.4 million is the amount to be amortized over the next twelve months based on the current credit agreement and is reflected in "Prepaid expenses and other current assets" in the Condensed Consolidated Balance Sheets. The long-term portion of $1.7 million is reflected in "Other Assets" in the Condensed Consolidated Balance Sheets.

As of June 30, 2018, there was $197 million outstanding under the $450 million revolving credit facility. The entire amount drawn under the revolving credit facility is considered long-term as the Corporation assumes no obligation to repay any of the amounts borrowed in the next twelve months.

In addition to the revolving credit facility, the Corporation also has borrowings outstanding under private placement note agreements. On May 31, 2018, the Corporation entered into a $100 million note purchase agreement. Under the agreement, the Corporation issued $50 million of seven-year fixed rate notes with an interest rate of 4.22%, due May 31, 2025, and $50 million of ten-year fixed rate notes with an interest rate of 4.40%, due May 31, 2028. The Corporation deferred the debt issuance costs related to the private placement note agreements, which are classified as a reduction of long-term debt in accordance with ASU No. 2015-03, and is amortizing them over the terms of the private placement note agreements. The deferred debt issuance costs do not reduce the amount owed by the Corporation under the terms of the private placement note agreements. The current portion of $0.1 million is the amount to be amortized over the next twelve months based on the current private placement note agreements and is reflected in "Current maturities of long-term debt" in the Condensed Consolidated Balance Sheets. The long-term portion of $0.6 million is reflected in "Long-Term Debt" in the Condensed Consolidated Balance Sheets.

In addition to cash flows from operations, the revolving credit facility under the credit agreement is the primary source of daily operating capital for the Corporation and provides additional financial capacity for capital expenditures and strategic initiatives, such as acquisitions and repurchases of common stock.

The credit agreement and private placement notes both contain financial and non-financial covenants. The covenants under both are substantially the same. Non-compliance with covenants under the agreements could prevent the Corporation from being able to access further borrowings, require immediate repayment of all amounts outstanding, and/or increase the cost of borrowing.


14




Certain covenants require maintenance of financial ratios as of the end of any fiscal quarter, including:

a consolidated interest coverage ratio (as defined in the credit agreement) of not less than 4.0 to 1.0, based upon the ratio of (a) consolidated EBITDA for the last four fiscal quarters to (b) the sum of consolidated interest charges; and
a consolidated leverage ratio (as defined in the credit agreement) of not greater than 3.5 to 1.0, based upon the ratio of (a) the quarter-end consolidated funded indebtedness to (b) consolidated EBITDA for the last four fiscal quarters.

The most restrictive of the financial covenants is the consolidated leverage ratio requirement of 3.5 to 1.0.  Under the credit agreement, consolidated EBITDA is defined as consolidated net income before interest expense, income taxes, and depreciation and amortization of intangibles, as well as non-cash items that increase or decrease net income.  As of June 30, 2018, the Corporation was below the maximum allowable ratio and was in compliance with all of the covenants and other restrictions in the credit agreement.  The Corporation expects to remain in compliance with all of the covenants and other restrictions in the credit agreement over the next twelve months.

Note 9.  Income Taxes

The Corporation's tax provision for interim periods is determined using an estimate of its annual effective tax rate, adjusted for discrete items. The following table summarizes the Corporation's income tax provision (dollars in thousands):
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Income before income taxes
$
24,431

 
$
20,627

 
$
25,893

 
$
27,586

Income taxes
$
5,835

 
$
6,771

 
$
4,836

 
$
8,949

Effective tax rate
23.9
%
 
32.8
%
 
18.6
%
 
32.4
%

The Corporation's effective tax rate was lower in the three and six months ended June 30, 2018 compared to the same periods last year primarily due to the enactment of the Tax Cuts and Jobs Act in 2017 (the "Act"). An additional driver of the change in the effective tax rate for the first six months was the release of a valuation allowance for certain foreign jurisdictions.

On December 22, 2017, the Act was signed into law, making significant changes to the Internal Revenue Code. Changes include, but are not limited to, a corporate tax rate decrease from 35% to 21% effective for tax years beginning after December 31, 2017, the transition of U.S. international taxation from a worldwide tax system to a territorial system, and a one-time transition tax on the mandatory deemed repatriation of cumulative foreign earnings as of December 31, 2017. In January 2018, the FASB released guidance on the accounting for tax relating to the global intangible low-taxed income ("GILTI") provisions of the Act. The GILTI provisions impose a tax on foreign income in excess of a deemed return on tangible assets of foreign corporations. Effective in the first quarter of fiscal 2018, the Corporation elected to treat any potential GILTI inclusions as a period cost, as no material impact is projected from GILTI inclusions and any deferred taxes related to any inclusion are not material. Also under the Act, a corporation's foreign earnings accumulated under legacy tax laws are deemed repatriated. The Corporation will continue to evaluate its ability to assert indefinite reinvestment to determine recognition of a deferred tax liability for other items such as Section 986(c) currency gain/loss, foreign withholding, and state taxes. Additionally, under the Act and for purposes of Internal Revenue Code Section 162(m) Excessive Executive Compensation Limit, the Corporation elected to allocate deductible compensation to cash compensation first, then to share-based compensation.

Note 10.  Fair Value Measurements of Financial Instruments

For recognition purposes, on a recurring basis, the Corporation is required to measure at fair value its marketable securities, derivative financial instruments, variable-rate and fixed-rate debt obligations, and deferred stock-based compensation.  The marketable securities are comprised of money market funds, government securities, and corporate bonds. When available, the Corporation uses quoted market prices to determine fair value and classifies such measurements within Level 1.  Where market prices are not available, the Corporation makes use of observable market-based inputs (prices or quotes from published exchanges and indexes) to calculate fair value using the market approach, in which case the measurements are classified within Level 2.


15




Financial instruments measured at fair value were as follows (in thousands):
 
Fair value as of measurement date
 
Quoted prices in active markets for identical assets
(Level 1)
 
Significant other observable inputs
(Level 2)
 
Significant unobservable inputs
(Level 3)
Balance as of June 30, 2018
 
 
 
 
 
 
 
Cash and cash equivalents (including money market funds) (1)
$
31,065

 
$
31,065

 
$

 
$

Government securities (2)
$
6,905

 
$

 
$
6,905

 
$

Corporate bonds (2)
$
5,425

 
$

 
$
5,425

 
$

Derivative financial instruments (3)
$
5,146

 
$

 
$
5,146

 
$

Variable-rate debt obligations (4)
$
197,000

 
$

 
$
197,000

 
$

Fixed-rate debt obligations (4)
$
100,000

 
$

 
$
100,000

 
$

Deferred stock-based compensation (5)
$
8,901

 
$

 
$
8,901

 
$

 
 
 
 
 
 
 
 
Balance as of December 30, 2017
 
 
 
 
 
 
 
Cash and cash equivalents (including money market funds) (1)
$
23,348

 
$
23,348

 
$

 
$

Government securities (2)
$
6,345

 
$

 
$
6,345

 
$

Corporate bonds (2)
$
6,149

 
$

 
$
6,149

 
$

Derivative financial instruments (3)
$
3,354

 
$

 
$
3,354

 
$

Variable-rate debt obligations (4)
$
267,500

 
$

 
$
267,500

 
$

Deferred stock-based compensation (5)
$
8,885

 
$

 
$
8,885

 
$


The index below indicates the line item in the Condensed Consolidated Balance Sheets where the financial instruments are reported:

(1)     "Cash and cash equivalents"
(2)     Current portion - "Short-term investments"; Long-term portion - "Other Assets"
(3)     Current portion - "Prepaid expenses and other current assets"; Long-term portion - "Other Assets"
(4)     Current portion - "Current maturities of long-term debt"; Long-term portion - "Long-Term Debt"
(5)     Current portion - "Current maturities of other long-term obligations"; Long-term portion - "Other Long-Term Liabilities"

Note 11.  Accumulated Other Comprehensive Income (Loss) and Shareholders' Equity

The following tables summarize the components of accumulated other comprehensive income (loss) and the changes in accumulated other comprehensive income (loss), net of tax, as applicable for the six months ended (in thousands):
 
 
Foreign Currency Translation Adjustment
 
Unrealized Gains (Losses) on Marketable Securities
 
Pension and Post-retirement Liabilities
 
Derivative Financial Instruments
 
Accumulated Other Comprehensive Income (Loss)
Balance as of December 30, 2017
 
$
31

 
$
(132
)
 
$
(5,630
)
 
$
2,120

 
$
(3,611
)
Other comprehensive income (loss) before reclassifications
 
(1,127
)
 
(117
)
 

 
2,147

 
903

Tax (expense) or benefit
 

 
25

 

 
(526
)
 
(501
)
Amounts reclassified from accumulated other comprehensive income (loss), net of tax
 

 

 

 
(268
)
 
(268
)
Balance as of June 30, 2018
 
$
(1,096
)
 
$
(224
)
 
$
(5,630
)
 
$
3,473

 
$
(3,477
)
Amounts in parentheses indicate reductions to equity.


16




 
 
Foreign Currency Translation Adjustment
 
Unrealized Gains (Losses) on Marketable Securities
 
Pension and Post-retirement Liabilities
 
Derivative Financial Instruments
 
Accumulated Other Comprehensive Income (Loss)
Balance as of December 31, 2016
 
$
(1,188
)
 
$
(105
)
 
$
(5,167
)
 
$
1,460

 
$
(5,000
)
Other comprehensive income (loss) before reclassifications
 
459

 
57

 

 
(505
)
 
11

Tax (expense) or benefit
 

 
(20
)
 

 
186

 
166

Amounts reclassified from accumulated other comprehensive income (loss), net of tax
 

 

 

 
190

 
190

Balance as of July 1, 2017
 
$
(729
)
 
$
(68
)
 
$
(5,167
)
 
$
1,331

 
$
(4,633
)
Amounts in parentheses indicate reductions to equity.

Interest Rate Swap
In March 2016, the Corporation entered into an interest rate swap transaction to hedge $150 million of outstanding variable rate revolver borrowings against future interest rate volatility. Under the terms of the interest rate swap, the Corporation pays a fixed rate of 1.29 percent and receives one month LIBOR on a $150 million notional value expiring January 2021. As of June 30, 2018, the fair value of the Corporation's interest rate swap was an asset of $5.1 million, which is reflected in "Other Assets" in the Condensed Consolidated Balance Sheets. The unrecognized change in value of the interest rate swap is reported net of tax as $3.5 million in "Accumulated other comprehensive income (loss)" in the Condensed Consolidated Balance Sheets.

The following table details the reclassifications from accumulated other comprehensive income (loss) (in thousands):
 
 
Three Months Ended
 
Six Months Ended
Details about Accumulated Other Comprehensive Income (Loss) Components
Affected Line Item in the Statement Where Net Income is Presented
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Derivative financial instruments
 
 
 
 
 
 
 
 
Interest rate swap
Interest (expense) or income
$
241

 
$
(108
)
 
$
355

 
$
(301
)
 
Tax (expense) or benefit
(59
)
 
40

 
(87
)
 
111

 
Net of tax
$
182

 
$
(68
)
 
$
268

 
$
(190
)
Amounts in parentheses indicate reductions to profit.

Stock Repurchase
The following table summarizes shares repurchased and settled by the Corporation (in thousands, except share data):
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
Shares repurchased
205,822

 
521,562

 
 
 
 
Cash purchase price
$
(7,963
)
 
$
(23,828
)
Purchases unsettled as of quarter end
224

 
1,211

Prior year purchases settled in current year
(1,381
)
 

Shares repurchased per cash flow
$
(9,120
)
 
$
(22,617
)

As of June 30, 2018, approximately $70.0 million of the Corporation's Board of Directors' ("Board") current repurchase authorization remained unspent.


17




Dividend
The Corporation declared and paid cash dividends per share as follows (in dollars):
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
Common shares
$
0.580

 
$
0.560


Note 12.  Earnings Per Share

The following table reconciles the numerators and denominators used in the calculation of basic and diluted earnings per share ("EPS") (in thousands, except per share data):
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Numerator:
 
 
 
 
 
 
 
Numerator for both basic and diluted EPS attributable to HNI Corporation net income
$
18,597

 
$
13,848

 
$
21,107

 
$
18,685

Denominators:
 

 
 

 
 
 
 
Denominator for basic EPS weighted-average common shares outstanding
43,665

 
44,178

 
43,513

 
44,114

Potentially dilutive shares from stock-based compensation plans
625

 
1,128

 
688

 
1,261

Denominator for diluted EPS
44,290

 
45,306

 
44,201

 
45,375

Earnings per share – basic
$
0.43

 
$
0.31

 
$
0.49

 
$
0.42

Earnings per share – diluted
$
0.42

 
$
0.31

 
$
0.48

 
$
0.41


The weighted-average common stock equivalents presented above do not include the effect of the common stock equivalents in the table below because their inclusion would be anti-dilutive.
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Common stock equivalents excluded because their inclusion would be anti-dilutive
1,746,899

 
875,580

 
1,392,684

 
745,738


Note 13. Stock-Based Compensation

The Corporation measures stock-based compensation expense at grant date, based on the fair value of the award, and recognizes expense over the employees' requisite service periods. Stock-based compensation expense is the cost of stock options and time-based restricted stock units issued under the approved stock-based compensation plans and shares issued under the approved member stock purchase plans. The following table summarizes expense associated with these plans (in thousands):
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Compensation cost
$
1,196

 
$
1,132

 
$
4,908

 
$
5,803



18




The options and units granted by the Corporation had fair values as follows (in thousands):
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
Stock options
$
7,200

 
$
7,206


The following table summarizes unrecognized compensation expense and the weighted-average remaining service period for non-vested stock options and restricted stock units as of June 30, 2018:
 
Unrecognized Compensation Expense
(in thousands)
 
Weighted-Average Remaining
Service Period (years)
Non-vested stock options
$
5,238

 
1.2
Non-vested restricted stock units
$
178

 
0.5

Note 14.  Post-Retirement Health Care

The following table sets forth the components of net periodic benefit costs included in the Condensed Consolidated Statements of Comprehensive Income (in thousands):
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Service cost
$
213

 
$
186

 
$
426

 
$
371

Interest cost
197

 
206

 
394

 
412

Amortization of net (gain) loss
26

 
6

 
63

 
13

Net periodic post-retirement benefit cost
$
436

 
$
398

 
$
883

 
$
796


Note 15.  Recently Adopted Accounting Standards

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). The new standard replaces most existing revenue recognition guidance in U.S. GAAP. The core principle of the ASU requires companies to reevaluate when revenue is recorded on a transaction based upon newly defined criteria, either at a point in time or over time as goods or services are delivered. The ASU requires additional disclosure about the nature, amount, timing, and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and estimates, and changes in those estimates. The FASB has issued ASU No. 2016-08, Revenue from Contracts with Customers: Principal versus Agent Considerations, ASU No. 2016-10, Revenue from Contracts with Customers: Identifying Performance Obligations and Licensing, and ASU No. 2016-12, Revenue from Contracts with Customers: Narrow Scope Improvements and Practical Expedients to provide further clarification and guidance. The Corporation implemented the new standard in the first quarter of fiscal 2018 using the modified-retrospective method, which required the new guidance to be applied prospectively to revenue transactions completed on or after the effective date. Given the nature of the Corporation's revenue transactions, the new guidance did not have a material impact on the Corporation's results of operations or financial position. All necessary changes required by the new standard, including those to the Corporation's accounting policies, controls, and disclosures, have been identified and implemented as of the beginning of fiscal 2018. See "Note 2. Revenue from Contracts with Customers" in the Notes to Condensed Consolidated Financial Statements for further information.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows - Classification of Certain Cash Receipts and Cash Payments. The new standard provides classification guidance on eight cash flow issues including debt prepayment, settlement of zero-coupon bonds, contingent consideration payments made after a business combination, proceeds from the settlements of insurance claims, proceeds from the settlement of corporate-owned life insurance policies, and distributions received from equity method investees. The Corporation implemented the new standard in the first quarter of fiscal 2018. This standard did not have a material effect on the condensed consolidated financial statements or related disclosures.


19




In October 2016, the FASB issued ASU No. 2016-16, Intra-Entity Transfers of Assets Other Than Inventory. The new standard requires an entity to recognize the income tax consequences of intra-entity transfers of assets other than inventory when the transfer occurs. The Corporation implemented the new standard in the first quarter of fiscal 2018. This standard did not have a material effect on the condensed consolidated financial statements or related disclosures.

In March 2017, the FASB issued ASU No. 2017-07, Improving the Presentation of Net Periodic Pension Cost and Net Periodic Post-retirement Benefit Cost. The new standard requires an entity with defined benefit and post-retirement benefit plans to present the service cost component of the net periodic benefit cost in the same income statement line item or items as other compensation costs arising from services rendered by employees during the period. All other components of net periodic benefit cost will be presented outside of operating income, if a subtotal is presented. The Corporation implemented the new standard in the first quarter of fiscal 2018 and it was applied retrospectively to each period presented. This standard did not have a material effect on the condensed consolidated financial statements or related disclosures.

Note 16.  Guarantees, Commitments, and Contingencies

The Corporation utilizes letters of credit and surety bonds in the amount of approximately $20 million to back certain insurance policies and payment obligations.  The Corporation utilizes trade letters of credit and banker's acceptances in the amount of approximately $5 million to guarantee certain payments to overseas suppliers. The letters of credit, bonds, and banker's acceptances reflect fair value as a condition of their underlying purpose and are subject to competitively determined fees.

The Corporation initiated litigation in Iowa on August 15, 2017 against the purchasers of Artcobell for amounts owed in connection with the sale of Artcobell.  Artcobell initiated litigation against the Corporation in Texas on June 14, 2017 regarding a dispute arising after the sale of Artcobell, for which the Corporation believes it has strong legal and factual defenses.  The Corporation intends to vigorously prosecute the Iowa action and defend the Texas action.

The Corporation has contingent liabilities which have arisen in the ordinary course of its business, including liabilities relating to pending litigation, environmental remediation, taxes, and other claims.  It is the Corporation's opinion, after consultation with legal counsel, that liabilities, if any, resulting from these matters are not expected to have a material adverse effect on the Corporation's financial condition, cash flows, or on the Corporation's quarterly or annual operating results when resolved in a future period.

Note 17.  Reportable Segment Information

Management views the Corporation as being in two reportable segments based on industries: office furniture and hearth products, with the former being the principal segment.

The aggregated office furniture segment manufactures and markets a broad line of commercial and home office furniture which includes storage products, desks, credenzas, chairs, tables, bookcases, freestanding office partitions and panel systems, and other related products.  The hearth products segment manufactures and markets a broad line of gas, electric, wood, and biomass burning fireplaces, inserts, stoves, facings, and accessories, principally for the home.

For purposes of segment reporting, intercompany sales between segments are not material, and operating profit is income before income taxes exclusive of certain unallocated general corporate expenses.  These unallocated general corporate expenses include the net costs of the Corporation's corporate operations.  Management views interest income and expense as corporate financing costs and not as a reportable segment cost.  In addition, management applies an effective income tax rate to its consolidated income before income taxes so income taxes are not reported or viewed internally on a segment basis. Identifiable assets by segment are those assets applicable to the respective industry segments. Corporate assets consist principally of cash and cash equivalents, short-term investments, long-term investments, IT infrastructure, and corporate office real estate and related equipment.

No geographic information for revenues from external customers or for long-lived assets is disclosed since the Corporation's primary market and capital investments are concentrated in the United States.


20




Reportable segment data reconciled to the Corporation's condensed consolidated financial statements was as follows (in thousands):
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
June 30,
2018
 
July 1,
2017
Net Sales:
 
 
 
 
 
 
 
Office furniture
$
423,878

 
$
406,444

 
$
804,793

 
$
766,425

Hearth products
119,736

 
108,041

 
243,890

 
225,727

Total
$
543,614

 
$
514,485

 
$
1,048,683

 
$
992,152

 
 
 
 
 
 
 
 
Income Before Income Taxes:
 
 
 
 
 
 
 
Office furniture
$
20,519

 
$
19,683

 
$
20,132

 
$
26,127

Hearth products
16,312

 
12,104

 
33,426

 
23,915

General corporate
(9,771
)
 
(10,138
)
 
(22,812
)
 
(20,459
)
Operating income
$
27,060

 
$
21,649

 
$
30,746

 
$
29,583

Interest income (expense)
(2,629
)
 
(1,022
)
 
(4,853
)
 
(1,997
)
Total
$
24,431

 
$
20,627

 
$
25,893

 
$
27,586

 
 
 
 
 
 
 
 
Depreciation and Amortization Expense:
 
 
 
 
 
 
 
Office furniture
$
11,204

 
$
12,498

 
$
22,190

 
$
25,383

Hearth products
2,092

 
2,706

 
4,054

 
6,194

General corporate
5,539

 
2,421

 
11,036

 
4,887

Total
$
18,835

 
$
17,625

 
$
37,280

 
$
36,464

 
 
 
 
 
 
 
 
Capital Expenditures (including capitalized software):
 
 
 
 
 
 
 
Office furniture
$
13,420

 
$
16,345

 
$
24,997

 
$
37,365

Hearth products
1,229

 
5,134

 
4,167

 
7,212

General corporate
1,344

 
9,833

 
3,160

 
19,511

Total
$
15,993

 
$
31,312

 
$
32,324

 
$
64,088

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
As of
June 30,
2018
 
As of
December 30,
2017
Identifiable Assets:
 
 
 
 
 
 
 
Office furniture
 
 
 
 
$
822,130

 
$
821,767

Hearth products
 
 
 
 
352,625

 
347,189

General corporate
 
 
 
 
213,633

 
222,594

Total


 


 
$
1,388,388

 
$
1,391,550



21




Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion of the Corporation's historical results of operations and of its liquidity and capital resources should be read in conjunction with the Unaudited Condensed Consolidated Financial Statements of the Corporation and related notes. Statements that are not historical are forward-looking and involve risks and uncertainties. See "Forward-Looking Statements" at the end of this section for further information.

Overview

The Corporation has two reportable segments: office furniture and hearth products. The Corporation is a leading global office furniture manufacturer and the leading manufacturer and marketer of hearth products. The Corporation utilizes a split and focus with leverage, decentralized business model to deliver value to customers via various brands and selling models. The Corporation is focused on growing its existing businesses while seeking out and developing new opportunities for growth.

Net sales for the second quarter of fiscal 2018 were $543.6 million, an increase of 5.7 percent, compared to net sales of $514.5 million in the second quarter of fiscal 2017.  The change was driven by an increase in both the office furniture and hearth products segments. The closure and divestitures of small office furniture companies resulted in a net decrease in sales of $13.2 million compared to the second quarter of fiscal 2017.

Net income attributable to the Corporation in the second quarter of fiscal 2018 was $18.6 million compared to net income of $13.8 million in the second quarter of fiscal 2017. The increase was primarily driven by higher sales volume, lower restructuring and transition costs, and a lower tax rate. These factors were partially offset by input cost inflation, unfavorable product mix, amortization from the Corporation's Business Systems Transformation initiative, and strategic investments.

Recent Developments

On June 28, 2018, Stan Askren announced his retirement as Chief Executive Officer of the Corporation, following his previously announced retirement as President of the Corporation in April 2018. Consistent with a well-established and long-term succession plan, the Board promoted Jeffrey Lorenger as the Corporation's new Chief Executive Officer, who will also continue as President of the Corporation. The Corporation expects Mr. Askren will remain employed in a senior advisor role to assist with the transition and will continue as Chairman of the Board of Directors until his retirement, which is anticipated no later than December 31, 2018.


22




Results of Operations

The following table presents certain key highlights from the results of operations (in thousands):    
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
July 1,
2017
 
Change
 
June 30,
2018
 
July 1,
2017
 
Change
Net sales
$
543,614

 
$
514,485

 
5.7
%
 
$
1,048,683

 
$
992,152

 
5.7
%
Cost of sales
342,744

 
329,733

 
3.9
%
 
670,894

 
633,677

 
5.9
%
Gross profit
200,870

 
184,752

 
8.7
%
 
377,789

 
358,475

 
5.4
%
Selling and administrative expenses
172,973

 
162,684

 
6.3
%
 
344,868

 
326,350

 
5.7
%
Restructuring and impairment charges
837

 
419

 
99.8
%
 
2,175

 
2,542

 
(14.4
%)
Operating income
27,060

 
21,649

 
25.0
%
 
30,746

 
29,583

 
3.9
%
Interest expense, net
2,629

 
1,022

 
157.2
%
 
4,853

 
1,997

 
143.0
%
Income before income taxes
24,431

 
20,627

 
18.4
%
 
25,893

 
27,586

 
(6.1
%)
Income taxes
5,835

 
6,771

 
(13.8
%)
 
4,836

 
8,949

 
(46.0
%)
Net income (loss) attributable to non-controlling interest
(1
)
 
8

 
(112.5
%)
 
(50
)
 
(48
)
 
(4.2
%)
Net income attributable to HNI Corporation
$
18,597

 
$
13,848

 
34.3
%
 
$
21,107

 
$
18,685

 
13.0
%
 
 
 
 
 
 
 
 
 
 
 
 
As a Percentage of Net Sales:
 
 
 
 
 
 
 
 
 
 
 
Net sales
100.0
%
 
100.0
%
 


 
100.0
%
 
100.0
%
 


Gross profit
37.0

 
35.9

 
110
 bps
 
36.0

 
36.1

 
-10
 bps
Selling and administrative expenses
31.8

 
31.6

 
20
 bps
 
32.9

 
32.9

 

Restructuring and impairment charges
0.2

 
0.1

 
10
 bps
 
0.2

 
0.3

 
-10
 bps
Operating income
5.0

 
4.2

 
80
 bps
 
2.9

 
3.0

 
-10
 bps
Income taxes
1.1

 
1.3

 
-20
 bps
 
0.5

 
0.9

 
-40
 bps
Net income attributable to HNI Corporation
3.4

 
2.7

 
70
 bps
 
2.0

 
1.9

 
10
 bps

Three Months Ended

Net Sales

Consolidated net sales for the second quarter of 2018 increased 5.7 percent or $29.1 million compared to the same quarter last year. The change was driven by an increase in both the office furniture and hearth products segments. Office furniture segment sales increased in the supplies-driven, North American contract, and international businesses, but were partially offset by a decrease of $13.2 million from the net impact of closing and divesting small office furniture companies. Hearth products segment sales increased in the new construction and retail businesses.

Gross Profit

Gross profit as a percentage of net sales increased 110 basis points in the second quarter of 2018 compared to the same quarter last year primarily driven by improved price realization and lower restructuring and transition costs, partially offset by increased input costs.


23




Second quarter 2018 cost of sales included $0.3 million of transition costs primarily related to structural realignment in China. Specific items incurred include production move costs.

Second quarter 2017 cost of sales included $3.0 million of restructuring costs and $4.3 million of transition costs primarily related to the previously announced closures of the hearth manufacturing facilities in Paris, Kentucky and Colville, Washington and the office furniture manufacturing facility in Orleans, Indiana and structural realignments in China and between office furniture facilities in Muscatine, Iowa. Specific items incurred include accelerated depreciation and production move costs.

Selling and Administrative Expenses

Selling and administrative expenses as a percentage of net sales increased 20 basis points in the second quarter of 2018 compared to the same quarter last year primarily driven by amortization and impacts from the Business Systems Transformation initiative and strategic investments, partially offset by higher sales and the impact of closing and divesting small office furniture companies.

Restructuring and Impairment Charges