UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.  20549
FORM 10-Q

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

For the quarterly period ended October 28, 2018August 4, 2019
Commission File No. 1-12597

CULP, INC.
(Exact name of registrant as specified in its charter)

 NORTH CAROLINA  56-1001967
(State (State or other jurisdiction of
 
(I.R.S. (I.R.S. Employer Identification No.)
incorporation or other organization)  
   
1823 Eastchester Drive  
 
High Point, North Carolina
   27265-1402
 (Address of principal executive offices)
   (zip(zip code)
                                                                                             

(336) 889-5161
(Registrant's telephone number, including area code)

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

Title of Each Class
Trading Symbol(s)
Name of Each Exchange
On Which Registered
Common Stock, par value $.05/ ShareCULPNew York Stock Exchange

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 thesuch filing requirements for at least the past 90 days.       ☒    YES      NO  ☐


Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period after the registrant was required to submit and post such files). ☒ YES      NO  ☐


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


Large accelerated filer      ☐     Accelerated filer     ☒       Non-accelerated filer   ☐


   Smaller Reporting Company     ☐         Emerging Growth Company   ☐

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


Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).        ☐   YES      NO   ☒


Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

Common shares outstanding at October 28, 2018:  12,491,956
Par Value: $0.05 per share
Common shares outstanding at September 12, 2019:  12,405,014
Par Value: $0.05 per share

INDEX TO FORM 10-Q
For the period ended October 28, 2018August 4, 2019


Page

Part I - Financial Statements

Item 1.    Financial Statements: (Unaudited)


Part I - Financial Statements
Financial Statements: (Unaudited)
Consolidated Statements of Net Income — Three and Six Months Ended October 28,August 4, 2019 and July 29, 2018 and October 29, 2017
I-1
   
 
Consolidated Statements of Comprehensive Income – Three and Six Months Ended October 28,August 4, 2019 and July 29, 2018 and October 29, 2017
I-2
   
 
Consolidated Balance Sheets — OctoberAugust 4, 2019, July 29, 2018, and April 28, 2018, October 29, 2017, and2019
April 29, 2018
I-3

   
 
Consolidated Statements of Cash Flows — SixThree Months Ended October 28,August 4, 2019 and July 29, 2018 and October 29, 2017
I-4
   
 
Consolidated Statements of Shareholders’ Equity – Three Months Ended August 4, 2019
I-5
I-5Consolidated Statements of Shareholders’ Equity – Three Months Ended July 29, 2018
I-6
   
 
Notes to Consolidated Financial Statements
I-6
I-7
   
 
Cautionary Statement Concerning Forward-Looking Information
I-42
I-33
   
Management's Discussion and Analysis of Financial Condition and Results of Operations
I-43
I-34
   
Quantitative and Qualitative Disclosures About Market Risk
I-62
I-55
   
Controls and Procedures
I-62
I-56
 
 

 Part II - Other Information 
   
Legal Proceedings
II-1
   
Risk Factors
II-1
   
Unregistered Sales of Equity Securities and Use of Proceeds
II-2
II-1
   
II-3Exhibits
II-2
   

II-4II-3




Item 1:  Financial Statements
CULP, INC.

CULP, INC. 
CONSOLIDATED STATEMENTS OF NET INCOME 
FOR THE THREE MONTHS ENDED AUGUST 4, 2019 AND JULY 29, 2018 
UNAUDITED 
(Amounts in Thousands, Except for Per Share Data) 
       
  THREE MONTHS ENDED 
       
  August 4,  July 29, 
  2019  2018 
       
Net sales $74,847   71,473 
Cost of sales  61,482   60,914 
Gross profit  13,365   10,559 
         
Selling, general and        
  administrative expenses  10,711   8,033 
Restructuring (credit) expense  (35)  451 
Income from operations  2,689   2,075 
         
Interest expense  9   20 
Interest income  (249)  (150)
Other expense  87   257 
Income before income taxes  2,842   1,948 
         
Income taxes  1,681   906 
         
(Income) loss from investment in unconsolidated joint venture  (13)  77 
Net income $1,174   965 
      Net loss (income) attributable to non-controlling interest  164   (8)
Net income attributable to Culp, Inc. common shareholders $1,338   957 
         
         
Net income attributable to Culp Inc. common shareholders per share - basic $0.11   0.08 
Net income attributable to Culp Inc. common shareholders per share - diluted $0.11   0.08 
Average shares outstanding, basic  12,399   12,510 
Average shares outstanding, diluted  12,410   12,600 

See accompanying notes to consolidated financial statements.

CONSOLIDATED STATEMENTS OF NET INCOMEI-1
FOR THE THREE AND SIX MONTHS ENDED OCTOBER 28, 2018 AND OCTOBER 29, 2017
UNAUDITED
(Amounts in Thousands, Except for Per Share Data)

   THREE MONTHS ENDED    
 
         
   October 28,
   October 29,
 
    2018
    2017
 
Net sales $77,006   80,698 
Cost of sales  63,680   64,894 
Gross profit  13,326   15,804 
         
Selling, general and        
  administrative expenses  10,103   9,415 
Restructuring credit  (1,061)  - 
Income from operations  4,284   6,389 
         
Interest expense  18   37 
Interest income  (151)  (128)
Other expense  142   321 
Income before income taxes  4,275   6,159 
         
Income taxes  1,276   2,108 
         
Loss from investment in unconsolidated joint venture  55   75 
Net income $2,944   3,976 
      Less: Net income attributable to non-controlling interest  (11)  - 
Net income attributable to Culp, Inc. common shareholders $2,933   3,976 
         
Net income attributable to Culp Inc. common shareholders per share - basic $0.23   0.32 
Net income attributable to Culp Inc. common shareholders per share - diluted $0.23   0.32 
Average shares outstanding, basic  12,515   12,440 
Average shares outstanding, diluted  12,551   12,580 
         
         
   SIX MONTHS ENDED    
 
         
 
  October 28, 
 October 29, 
   2018   2017 
         
Net sales $148,479   160,230 
Cost of sales  124,594   127,962 
Gross profit  23,885   32,268 
         
Selling, general and        
  administrative expenses  18,136   18,916 
Restructuring credit  (610)  - 
Income from operations  6,359   13,352 
         
Interest expense  38   37 
Interest income  (301)  (259)
Other expense  399   674 
Income before income taxes  6,223   12,900 
         
Income taxes  2,182   3,748 
         
Loss from investment in unconsolidated joint venture  132   193 
Net income $3,909   8,959 
      Less: Net income attributable to non-controlling interest  (19)  - 
Net income attributable to Culp, Inc. common shareholders $3,890   8,959 
         
Net income attributable to Culp Inc. common shareholders per share - basic $0.31   0.72 
Net income attributable to Culp Inc. common shareholders per share - diluted $0.31   0.71 
Average shares outstanding, basic  12,512   12,420 
Average shares outstanding, diluted  12,612   12,613 
         
See accompanying notes to consolidated financial statements.        

I - 1
CULP, INC. 
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
 
FOR THE THREE MONTHS ENDED AUGUST 4, 2019 AND JULY 29, 2018 
(UNAUDITED) 
(AMOUNTS IN THOUSANDS) 
       
  THREE MONTHS ENDED 
       
  August 4,  July 29, 
  2019  2018 
       
Net income
 $1,174  
$
965
 
         
Other comprehensive income
        
         
Unrealized gain on investments, net of tax
        
         
Unrealized holding gains on investments
  6   
40
 
Reclassification adjustment for realized loss on investments
  -   
94
 
         
Total unrealized gain on investments
  6   
134
 
         
Unrealized gain on foreign currency cash flow hedge, net of tax
        
         
Unrealized holding loss on foreign currency cash flow hedge
  -   
(25
)
Reclassification adjustment for realized loss on foreign currency cash flow hedge
  -   
40
 
         
Total unrealized gain on foreign currency cash flow hedge
  -   
15
 
         
Total other comprehensive income
  6   
149
 
         
Comprehensive income
 $1,180  
$
1,114
 
      Comprehensive loss (income) attributable to non-controlling interest
  164   
(8
)
Comprehensive income attributable to Culp, Inc. common shareholders
 $1,344  
$
1,106
 

See accompanying notes to consolidated financial statements.

I-2
CULP, INC. 
CONSOLIDATED BALANCE SHEETS
 
AUGUST 4, 2019, JULY 29, 2018 AND APRIL 28, 2019 
UNAUDITED 
(Amounts in Thousands) 
          
  
  
     
   August 4,   July 29,   * April 28,
 
  2019  2018  2019 
Current assets:
         
Cash and cash equivalents
 $44,236   
8,593
   
40,008
 
Short-term investments - Held-To-Maturity
  -   
30,756
   
5,001
 
Accounts receivable, net
  24,090   
23,225
   
23,751
 
Inventories
  50,660   
54,989
   
50,860
 
Current income taxes receivable
  776   
-
   
776
 
Assets held for sale
  100   
-
   
-
 
Other current assets
  2,578   
3,852
   
2,849
 
Total current assets
  122,440   
121,415
   
123,245
 
             
Property, plant and equipment, net
  47,289   
53,178
   
48,389
 
Goodwill
  27,222   
27,222
   
27,222
 
Intangible assets
  10,354   
10,730
   
10,448
 
Long-term investments - Rabbi Trust
  7,347   
7,671
   
7,081
 
Right of use assets
  6,530   
-
   
-
 
Noncurrent income taxes receivable
  733   
-
   
733
 
Deferred income taxes
  486   
3,721
   
457
 
Investment in unconsolidated joint venture
  1,520   
1,525
   
1,508
 
Other assets
  526   
910
   
643
 
Total assets
 $224,447   
226,372
   
219,726
 
             
Current liabilities:
            
Accounts payable-trade
 $22,628   
25,070
   
24,377
 
Accounts payable - capital expenditures
  60   
862
   
78
 
Operating lease liability - current
  2,456   
-
   
-
 
Deferred revenue
  684   
634
   
399
 
Accrued expenses
  8,566   
8,176
   
9,192
 
Accrued restructuring costs
  42   
445
   
124
 
Income taxes payable - current
  1,116   
1,244
   
1,022
 
Total current liabilities
  35,552   
36,431
   
35,192
 
             
Line of credit
  -   
4,000
   
-
 
Accrued expenses - long-term
  333   
749
   
333
 
Subordinated loan payable
  925   
-
   
675
 
Operating lease liability - noncurrent
  3,955   
-
   
-
 
Contingent consideration - earn-out obligation
  5,931   
5,600
   
5,856
 
Income taxes payable - long-term
  3,640   
3,733
   
3,249
 
Deferred income taxes
  2,543   
2,150
   
3,176
 
Deferred compensation
  7,232   
7,679
   
6,998
 
Total liabilities
  60,111   
60,342
   
55,479
 
             
Commitments and Contingencies (Notes 12, 19 and 20)
            
             
Shareholders' equity
            
      Preferred stock, $0.05 par value, authorized
            
          10,000,000
  -   
-
   
-
 
 Common stock, $0.05 par value, authorized
            
     40,000,000 shares, issued and outstanding
            
     12,405,014 at August 4, 2019; 12,522,246
            
     at July 29, 2018; and 12,391,160 at
            
     April 28, 2019
  621   
627
   
620
 
 Capital contributed in excess of par value
  43,803   
46,334
   
43,694
 
 Accumulated earnings
  115,676   
114,465
   
115,579
 
Accumulated other comprehensive income
  46   
64
   
40
 
Total shareholders' equity attributable to Culp Inc.
  160,146   
161,490
   
159,933
 
Non-controlling interest
  4,190   
4,540
   
4,314
 
Total equity
  164,336   
166,030
   
164,247
 
         Total liabilities and shareholders' equity
 $224,447   
226,372
   
219,726
 

*  Derived from audited financial statements.

See accompanying notes to consolidated financial statements.
I-3
CULP, INC. 
CONSOLIDATED STATEMENTS OF CASH FLOWS
 
FOR THE THREE MONTHS ENDED AUGUST 4, 2019 AND JULY 29, 2018 
UNAUDITED 
(Amounts in Thousands) 
       
  THREE MONTHS ENDED 
       
  August 4,  July 29, 
  2019  2018 
       
Cash flows from operating activities:
      
Net income
 $1,174   
965
 
Adjustments to reconcile net income to net cash provided by
        
(used in) operating activities:
        
Depreciation
  1,905   
2,015
 
Amortization of assets
  176   
145
 
Stock-based compensation
  154   
(501
)
Deferred income taxes
  (662)  
(2,263
)
Realized loss on sale of short-term investments (Available for Sale)
  -   
94
 
(Gain) loss on disposal of equipment
  (17)  
35
 
(Income) loss from investment in unconsolidated joint venture
  (13)  
77
 
Foreign currency exchange gain
  (47)  
(91
)
Changes in assets and liabilities:
        
Accounts receivable
  (375)  
2,837
 
Inventories
  (25)  
(429
)
Other current assets
  161   
(989
)
Other assets
  111   
34
 
Accounts payable - trade
  (1,468)  
(2,494
)
Deferred revenue
  285   
(175
)
Accrued expenses and deferred compensation
  222   
(1,566
)
Accrued restructuring costs
  (82)  
445
 
Income taxes
  524   
(75
)
Net cash provided by (used in) operating activities  2,023   
(1,936
)
         
Cash flows from investing activities:
        
Net cash paid for acquisition of businesses
  -   
(11,971
)
Capital expenditures
  (935)  
(757
)
Proceeds from the sale of equipment
  209   
-
 
Investment in unconsolidated joint venture
  -   
(100
)
Proceeds from the sale of short-term investments (Held to Maturity)
  5,000   
-
 
Proceeds from the sale of short-term investments  (Available for Sale)
  -   
2,458
 
Purchase of short-term investments  (Available for Sale)
  -   
(10
)
Purchase of long-term investments (Rabbi Trust)
  (259)  
(302
)
Net cash used provided by (used in) investing activities  4,015   
(10,682
)
         
Cash flows from financing activities:
        
Proceeds from line of credit
  -   
11,000
 
Payments on line of credit
  -   
(7,000
)
Payments on vendor-financed capital expenditures
  -   
(1,412
)
Proceeds from subordinated loan payable
  250   
-
��
Cash paid for acquisition of business
  (763)  
-
 
Dividends paid
  (1,241)  
(1,127
)
Common stock surrendered for withholding taxes payable
  (44)  
(1,292
)
Captial contribution from non-controlling interest
  40   
-
 
Common stock repurchased
  -   
(72
)
Net cash (used in) provided by financing activities  (1,758)  
97
 
         
Effect of exchange rate changes on cash and cash equivalents
  (52)  
(114
)
         
Increase (decrease) in cash and cash equivalents
  4,228   
(12,635
)
         
Cash and cash equivalents at beginning of period
  40,008   
21,228
 
         
Cash and cash equivalents at end of period
 $44,236   
8,593
 

See accompanying notes to consolidated financial statements.
I-4
CULP, INC. 
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
 
THREE-MONTH PERIOD ENDED AUGUST 4, 2019 
UNAUDITED 
(Dollars in thousands, except share data) 
                         
   Shareholders' eqity attributable to Culp Inc.
       
                         
        Capital     Accumulated          
      Contributed     Other
          
   Common Stock
   in Excess   Accumulated   Comprehensive     Non-Controlling   Total 
  Shares  Amount  of Par Value  Earnings  Income  Total  Interest  Equity 
Balance,  April 28, 2019  *  12,391,160   620   43,694   115,579   40   159,933   4,314   164,247 
Net income (loss)  -   -   -   1,338   -   1,338   (164)  1,174 
Stock-based compensation  -   -   154   -   -   154   -   154 
Unrealized gain on investments  -   -   -   -   6   6   -   6 
Common stock issued in connection with vesting                                
of performance based restricted stock units  12,776   1   (1)  -   -   -   -   - 
Fully vested common stock award  3,659   -   -   -   -   -   -   - 
Common stock surrendered for withholding taxes payable  (2,581)  -   (44)  -   -   (44)  -   (44)
Dividends paid  -   -   -   (1,241)  -   (1,241)  -   (1,241)
Capital contribution from non-controlling interest  -   -   -   -   -   -   40   40 
Balance,  August 4, 2019  12,405,014   621   43,803   115,676   46   160,146   4,190   164,336 

*  Derived from audited financial statements.

See accompanying notes to consolidated financial statements.

I-5
CULP, INC. 
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
 
THREE-MONTH PERIOD ENDED JULY 29, 2018 
UNAUDITED 
(Dollars in thousands, except share data) 
                                
   Shareholders' equity attributable to Culp Inc.
         
      
       
               
      
Capital
      Accumulated
             
      
Contributed     
Other
             
   Common Stock
 
in Excess
  Accumulated
  Comprehensive
      Non-Controlling
  Total
 
  Shares
  Amount
  of Par Value
  Earnings
  (Loss) Income
  Total
  Interest
  Equity 
Balance, April 29, 2018 *  12,450,276  $623   48,203   114,635   (85) $163,376  $-  $163,376 
Net income  -   -   -   957   -   957   8   965 
Acquisition of subsidiary with non-controlling interest  -   -   -   -   -   -   4,532   4,532 
Stock-based compensation  -   -   (501)  -   -   (501)  -   (501)
Unrealized gain on foreign currency cash flow hedge  -   -   -   -   15   15   -   15 
Unrealized gain on investments  -   -   -   -   134   134   -   134 
Common stock issued in connection with vesting                                
of performance based restricted stock units  115,917   6   (6)  -   -   -   -   - 
Common stock issued in connection with vesting                                
of time-based restricted stock units  1,200   -   -   -   -   -   -   - 
Common stock surrendered for withholding                                
taxes payable  (42,157)  (2)  (1,290)  -   -   (1,292)  -   (1,292)
Common stock repurchased  (2,990)  -   (72)  -   -   (72)  -   (72)
Dividends paid  -   -   -   (1,127)  -   (1,127)  -   (1,127)
Balance,  July 29, 2018  12,522,246   627   46,334   114,465   64   161,490   4,540   166,030 

* Derived from audited financial statements.

See accompanying notes to consolidated financial statements.

I-6

CULP, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
 FOR THE THREE AND SIX MONTHS ENDED OCTOBER 28, 2018 AND OCTOBER 29, 2017
(UNAUDITED)
(AMOUNTS IN THOUSANDS)

   THREE MONTHS ENDED    
 
         
   October 28,
   October 29,
 
   2018
   2017
 
         
Net income $2,944  $3,976 
         
Other comprehensive (loss) income        
         
Unrealized (loss) gain on investments, net of tax        
         
Unrealized holding (losses) gains on investments  (43)  20 
Reclassification adjustment for realized loss (gain) on investments  -   - 
         
Total unrealized (loss) gain on investments  (43)  20 
         
Unrealized gain on foreign currency cash flow hedge, net of tax        
         
Unrealized holding gain on foreign currency cash flow hedge  17   - 
Reclassification adjustment for realized loss on foreign currency cash flow hedge  24   - 
         
Total unrealized gain on foreign currency cash flow hedge  41   - 
         
Total other comprehensive (loss) income  (2)  20 
         
Comprehensive income $2,942  $3,996 
      Less: Comprehensive income attributable to non-controlling interest  (11)  - 
Comprehensive income attributable to Culp, Inc. common shareholders $2,931  $3,996 
         
         
         
   SIX MONTHS ENDED    
 
         
 
 October 28, 
 October 29, 
   2018   2017 
         
Net income $3,909  $8,959 
         
Other comprehensive income        
         
Unrealized gain on investments, net of tax        
         
Unrealized holding (losses) gains on investments  (3)  64 
Reclassification adjustment for realized loss on investments  94   - 
         
Total unrealized gain on investments  91   64 
         
Unrealized gain on foreign currency cash flow hedge, net of tax        
         
Unrealized holding loss on foreign currency cash flow hedge  (8)  - 
Reclassification adjustment for realized loss on foreign currency cash flow hedge  64   - 
         
Total unrealized gain on foreign currency cash flow hedge  56   - 
         
Total other comprehensive income  147   64 
         
Comprehensive income $4,056  $9,023 
      Less: Comprehensive income attributable to non-controlling interest  (19)  - 
Comprehensive income attributable to Culp, Inc. common shareholders $4,037  $9,023 
         
See accompanying notes to consolidated financial statements.        
I - 2

CULP, INC.
CONSOLIDATED BALANCE SHEETS
 OCTOBER 28, 2018, OCTOBER 29, 2017 AND APRIL 29, 2018
UNAUDITED
(Amounts in Thousands)

  October 28,  October 29,  April 29,
 
  2018  2017  2018 
Current assets:         
Cash and cash equivalents $14,768   15,739   21,228 
Short-term investments - Available for Sale  -   2,478   2,451 
Short-term investments - Held-To-Maturity  26,719   4,015   25,759 
Accounts receivable, net  24,362   24,220   26,307 
Inventories
  50,601   50,209   53,454 
Assets held for sale  237   -   - 
Other current assets  2,461   2,263   2,870 
 Total current assets
  119,148   98,924   132,069 
             
Property, plant and equipment, net  51,325   52,530   51,794 
Goodwill  27,222   11,462   13,569 
Intangible assets  10,636   1,428   4,275 
Deferred income taxes  3,614   491   1,458 
Long-term investments - Held-To-Maturity  -   26,853   5,035 
Long-term investments - Rabbi Trust  7,851   6,921   7,326 
Investment in unconsolidated joint venture  1,470   1,522   1,501 
Other assets  945   912   957 
 Total assets
 $222,211   201,043   217,984 
             
Current liabilities:            
Accounts payable-trade $24,007   24,600   27,237 
Accounts payable - capital expenditures  114   3,209   1,776 
Deferred revenue  649   -   809 
Accrued expenses  8,670   7,364   9,325 
Accrued restructuring costs  260   -   - 
Deferred compensation  714   -   - 
Income taxes payable - current  2,044   692   1,437 
 Total current liabilities
  36,458   35,865   40,584 
             
Accrued expenses - long-term  -   -   763 
Contingent consideration - earn-out obligation  5,706   -   - 
Income taxes payable - long-term  3,233   487   3,758 
Deferred income taxes  2,225   4,641   2,150 
Deferred compensation  7,120   6,970   7,353 
 Total liabilities
  54,742   47,963   54,608 
             
Commitments and Contingencies (Notes 13 and 22)            
             
Shareholders' equity            
Preferred stock, $0.05 par value, authorized            
 10,000,000
  -
   -
   -
 
Common stock, $0.05 par value, authorized            
40,000,000 shares, issued and outstanding            
12,491,956 at October 28, 2018; 12,435,276            
at October 29, 2017; and 12,450,276 at            
April 29, 2018  625   622   623 
Capital contributed in excess of par value  45,959   47,441   48,203 
Accumulated earnings  116,272   104,957   114,635 
Accumulated other comprehensive income (loss)  62   60   (85)
Total shareholders' equity attributable to Culp Inc.  162,918   153,080   163,376 
Non-controlling interest  4,551   -   - 
Total equity  167,469   153,080   163,376 
Total liabilities and shareholders' equity $222,211   201,043   217,984 
             
* Derived from audited financial statements.            
             
See accompanying notes to consolidated financial statements.            

I - 3


CULP, INC
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED OCTOBER 28, 2018 AND OCTOBER 29, 2017
UNAUDITED
(Amounts in Thousands)

  SIX MONTHS ENDED 
       
  October 28,  October 29, 
  2018  2017 
       
Cash flows from operating activities:      
Net income $3,909   8,959 
Adjustments to reconcile net income to net cash        
provided by operating activities:        
Depreciation  4,056   3,713 
Amortization  391   166 
Stock-based compensation  (106)  1,558 
Deferred income taxes  (2,081)  976 
Realized loss on sale of short-term investments (Available for Sale)  94   - 
Gain on sale of equipment  (1,079)  - 
Loss from investment in unconsolidated joint venture  132   193 
Foreign currency exchange (gain) loss  (102)  42 
Changes in assets and liabilities, net of effects of acquisition of businesses        
Accounts receivable  1,639   561 
Inventories  3,767   1,597 
Other current assets  379   723 
Other assets  (10)  (35)
Accounts payable - trade  (3,264)  (5,074)
Deferred revenue  (160)  - 
Accrued expenses and deferred compensation  (1,472)  (3,607)
Accrued restructuring costs  260   - 
Income taxes  247   406 
Net cash provided by operating activities  6,600   10,178 
         
Cash flows from investing activities        
Net cash paid for acquisition of businesses  (12,096)  - 
Capital expenditures  (2,096)  (4,978)
Proceeds from the sale of equipment  1,280   6 
Investment in unconsolidated joint venture  (100)  (609)
Proceeds from the sale of short-term investments (Held to Maturity)  4,000   - 
Proceeds from the sale of short-term investments  (Available for Sale)  2,458   - 
Purchase of short-term investments  (Available for Sale)  (10)  (24)
Proceeds from the sale of long-term investments (Rabbi Trust)  -   54 
Purchase of long-term investments (Rabbi Trust)  (526)  (1,457)
Net cash used in investing activities  (7,090)  (7,008)
         
Cash flows from financing activities:        
Proceeds from line of credit  12,000   10,000 
Payments on line of credit  (12,000)  (10,000)
Payments on vendor-financed capital expenditures  (1,412)  (2,500)
Dividends paid  (2,253)  (4,603)
Common stock surrendered for withholding taxes payable  (1,292)  (1,147)
Common stock repurchased  (844)  - 
Proceeds from common stock issued  -   5 
Net cash used in financing activities  (5,801)  (8,245)
         
Effect of exchange rate changes on cash and cash equivalents  (169)  19 
         
Decrease in cash and cash equivalents  (6,460)  (5,056)
         
Cash and cash equivalents at beginning of period  21,228   20,795 
         
Cash and cash equivalents at end of period $14,768   15,739 
         
See accompanying notes to consolidated financial statements.        
I - 4
CULP, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
 UNAUDITED
(Dollars in thousands, except share data)


     Shareholders' equity attributable to Culp Inc.                   
                         
     Capital
     Accumulated
          
     Contributed     Other     Non-
    
   Common Stock      in Excess   Accumulated   Comprehensive      Controlling   Total 
  Shares  Amount  of Par Value  Earnings  (Loss) Income  Total  Interest  Equity 
Balance,  April 30, 2017 *  12,356,631  $618   47,415   100,601   (4) $148,630  $-  $148,630 
    Net income  -   -   -   20,877   -   20,877   -   20,877 
    Stock-based compensation  -   -   2,212   -   -   2,212   -   2,212 
    Unrealized loss on foreign currency cash flow hedge  -   -   -   -   (55)  (55)  -   (55)
    Unrealized loss on investments  -   -   -   -   (26)  (26)  -   (26)
Common stock issued in connection with vesting                                
       of performance based restricted stock units  118,845   6   (6)  -   -   -   -   - 
    Fully vested common stock award  4,800   -   -   -   -   -   -   - 
Common stock issued in connection with vesting                                
       of time- based restricted stock units  1,200   -   -   -   -   -   -   - 
Common stock issued in connection with exercise                  .             
       of stock options  15,600   1   110   -   -   111   -   111 
Common stock surrendered for the cost of stock option                                
       exercises and withholding taxes payable  (46,800)  (2)  (1,528)  -   -   (1,530)  -   (1,530)
    Dividends paid  -   -   -   (6,843)  -   (6,843)  -   (6,843)
Balance,  April 29, 2018  *  12,450,276   623   48,203   114,635   (85)  163,376   -   163,376 
    Net income  -   -   -   3,890   -   3,890   19   3,909 
    Acquisition of subsidiary with non-controlling interest  -   -   -   -   -   -   4,532   4,532 
    Stock-based compensation  -   -   (106)  -   -   (106)  -   (106)
    Unrealized gain on foreign currency cash flow hedge  -   -   -   -   56   56   -   56 
    Unrealized gain on investments  -   -   -   -   91   91   -   91 
Common stock issued in connection with vesting                                
       of performance based restricted stock units  115,917   6   (6)  -   -   -   -   - 
Common stock issued in connection with vesting                                
       of time- based restricted stock units  1,200   -   -   -   -   -   -   - 
    Fully vested common stock award  3,600   -   -   -   -   -   -   - 
Common stock surrendered for                                
       withholding taxes payable  (42,157)  (2)  (1,290)  -   -   (1,292)  -   (1,292)
    Common stock repurchased  (36,880)  (2)  (842)  -   -   (844)  -   (844)
    Dividends paid  -   -   -   (2,253)  -   (2,253)  -   (2,253)
Balance,  October 28, 2018  12,491,956  $625   45,959   116,272   62  $162,918  $4,551  $167,469 
                                 
* Derived from audited financial statements.                         
                                 
See accompanying notes to consolidated financial statements.                 

I - 5

Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


1.  Basis of Presentation

The accompanying unaudited consolidated financial statements of Culp, Inc. and its majority-owned subsidiaries (the “company”) include all adjustments, which are, in the opinion of management, necessary for fair presentation of the results of operations and financial position.  All of these adjustments are of a normal recurring nature. Results of operations for interim periods may not be indicative of future results.  The unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements, which are included in the company’s annual report on Form 10-K filed with the Securities and Exchange Commission on July 13, 2018, for the fiscal year ended April 29, 2018.

The company’s six-months ended October 28, 2018, and October 29, 2017, represent 26-week periods, respectively.

2. Significant Accounting Policies

As of October 28, 2018, there were no changes in the nature of our significant accounting policies or the application of those policies from those reported in our annual report on Form 10-K for the year then ended April 29, 2018.

Recently Adopted Accounting Pronouncements

In May 2014, the FASB issued ASU No. 2014-09, which subsequently amended ASC Topic 606, Revenue from Contracts with Customers. The amendments in this ASU are intended to enhance the comparability of revenue recognition practices and will be applied to all contracts with customers. Improved disclosures related to the nature, amount, timing, and uncertainty of revenue that is recognized are requirements under the amended guidance. The new revenue standard became effective at the beginning of our fiscal 2019, and therefore, we applied the new revenue guidance in our first quarter of fiscal 2019 interim financial statements. This guidance did not have a material impact on our results of operations and financial position but did have a material impact on the disclosures required in our notes to the consolidated financial statements, which are disclosed in Note 5.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, to address the diversity in how certain cash receipts and cash payments are presented in the statement of cash flows. This new guidance provides clarity around the cash flow classification for eight specific issues in an effort to reduce the current and potential future diversity in practice. This new standard, which is to be applied retrospectively, became effective at the beginning of our fiscal 2019, and therefore, we applied this new guidance in our first quarter of fiscal 2019 interim financial statements.  During the first quarter of fiscal 2019, this new guidance did not impact our results of operations, balance sheet, or statement of cash flows. Currently, we do expect that this guidance will be applicable in determining how we classify our contingent consideration payments associated with our business combinations (see note 3) as either investing or financing activities. This guidance requires cash payments not made soon after the acquisition date of a business combination by an acquirer to settle a contingent consideration liability should be separated and classified as cash outflows from financing activities. In comparison, cash payments made soon after the acquisition date should be separated and classified as cash outflows from investing activities.
I - 6

Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory, to reduce the diversity in practice and complexity associated with accounting for the income tax consequences of intra-entity transfers of assets other than inventory. Prior GAAP prohibited recognition of deferred income taxes for an intra-entity transfer until the asset had been sold to an outside party. The new pronouncement stipulates that an entity should recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. This new standard, which is required to be applied on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings, became effective at the beginning of our fiscal 2019. Therefore, we were required to apply this new guidance in our first quarter fiscal 2019 interim financial statements. This guidance did not impact our results of operations and financial position.

Recently Issued Accounting Pronouncements

Leases

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which increases transparency and comparability among companies accounting for lease transactions. The most significant change of this update will require the recognition of lease assets and liabilities on the balance sheet for operating lease arrangements with lease terms greater than twelve months for lessees. This update will require a modified retrospective application which includes a number of optional practical expedients related to the identification and classification of leases commenced before the effective date. This ASU is effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2018.

The FASB recently issued ASU No. 2018-11, “Leases (Topic 842): Targeted Improvements”, which allows entities to apply the transition provisions of the new standard at its adoption date instead of the earliest comparative period presented in the consolidated financial statements. This ASU allows entities to continue to use Topic 840, Leases, including its disclosure requirements, in the comparative years presented in the year the new leases standard is adopted. Entities that elect this option would still adopt the new leases standard using a modified retrospective transition method but would recognize a cumulative effect adjustment to the opening balance of retained earnings in the period of adoption rather than the earliest years presented.

We are required to apply this guidance in our fiscal 2020 interim and annual financial statements and are currently assessing the impact that this guidance will have on our consolidated financial statements. We do expect this guidance to have a material impact on our financial position due to the requirement to recognize right-of-use assets and lease liabilities on our Consolidated Balance Sheets and the disclosures required in our notes to the consolidated financial statements.

3.  Business Combinations

Read Window Products, LLC (Read)

Overview

Effective April 1, 2018, we entered into an Asset Purchase Agreement (Asset Agreement) to acquire certain assets and assume certain liabilities of Read, a source of custom window treatments for the hospitality and commercial industries. Based in Knoxville, Tennessee, Read is a turn-key provider of window treatments that offer sourcing of upholstery fabrics and other products, measuring, and installation services of their own products. Read’s custom product line includes motorization, shades, upholstered drapery, upholstered headboards and shower curtains. In addition, Read supplies soft goods such as decorative top sheets, coverlets, duvet covers, bed skirts, bolsters and pillows, for leading hospitality brands worldwide. The addition of window treatments and other soft goods to our product line will allow us to be a more complete source of fabrics for the hospitality market, in which we believe there are significant growth opportunities.
I - 7
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


The purchase price for the net assets acquired was $5.7 million, of which $4.5 million was paid at closing on April 1, 2018, $375,000 was paid in May 2018, and $763,000 is to be paid in June in 2019, subject to certain conditions as defined in the Asset Agreement.

Assets Acquired and Liabilities Assumed

The following table presents the final allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.

(dollars in thousands) Fair Value 
Customer relationships $2,247 
Goodwill  2,107 
Inventory  1,128 
Accounts receivable  897 
Tradename  683 
Property, plant & equipment  379 
Other assets  35 
Deferred revenue  (903)
Accounts payable  (719)
Accrued expenses  (174)
  $5,680 

We recorded customer relationships at fair market value based on a multi-period excess earnings valuation model. These customer relationships will be amortized on a straight-line basis over their nine-year useful life. We recorded the tradename at fair market value based on the relief from royalty method. This tradename was determined to have an indefinite useful life and, therefore, is not being amortized. Equipment will be depreciated on a straight-line basis over useful lives ranging from three to ten years.

The goodwill related to this acquisition is attributable to Read’s reputation with the products and services they provide and the collective experience of management with regards to its operations, customers, and industry. Goodwill is deductible for income tax purposes over the statutory period of fifteen years.

The Asset Agreement contains a contingent consideration arrangement that requires us to pay a former shareholder of Read, an earn-out payment based on adjusted EBITDA as defined in the agreement for calendar year 2018 in excess of fifty percent of a pre-established adjusted EBITDA target. As of October 28, 2018, based on historical and projected financial results in relation to the pre-established adjusted EBITDA target, we currently believe a contingent payment will not be made, and therefore, no contingent liability has been recorded.

Other

Acquisition costs totaling $339,000 were included in selling, general, and administrative expenses in our fiscal 2018 Consolidated Statement of Net Income.

I - 8
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


eLuxury, LLC (eLuxury)

Overview

Effective June 22, 2018, we entered an Equity Purchase Agreement (Equity Agreement) in which we acquired an initial 80% ownership interest in eLuxury, a company that offers bedding accessories and home goods directly to consumers. eLuxury’s primary products include a line of mattress pads manufactured at eLuxury’s facility located in Evansville, Indiana. eLuxury also offers handmade platform beds, cotton bed sheets, as well as other bedding items. Their products are available on eLuxury’s own branded website, eLuxury.com, Amazon, and other leading online retailers for specialty home goods.

We believe this acquisition will provide a new sales channel for the bedding accessories and will expand our opportunity to participate in the e-commerce direct-to-consumer space. This business combination brings together eLuxury’s experience in e-commerce, online brand building, and direct-to-consumer shopping and fulfillment expertise with our global production, sourcing, and distribution capabilities. We also have an opportunity to market our new line of bedding accessories, marketed under the brand name, “Comfort Supply Company by Culp”, as well as other finished products that we may develop, through this e-commerce platform.

The estimated consideration given for the initial 80% ownership interest in eLuxury totaled $18.1 million, of which $12.5 million represents the estimated purchase price and $5.6 million represents the fair value for contingent consideration associated with an earn-out obligation (see below for further details). Of the $12.5 million estimated purchase price, $11.6 million was paid at closing on June 22, 2018, $185,000 was paid in August 2018, and $749,000 is to be paid in September 2019, subject to certain conditions as defined in the Equity Agreement.

Assets Acquired and Liabilities Assumed

The following table presents the preliminary allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.

    
(dollars in thousands) Fair Value 
Goodwill $13,653 
Tradename  6,549 
Equipment  2,179 
Inventory  1,804 
Accounts receivable and other current assets  108 
Accounts payable  (1,336)
Accrued expenses  (295)
Non-controlling interest in eLuxury  (4,532)
  $18,130 
The estimated fair values of goodwill and tradename are provisional and are based on the information that was currently available to estimate their fair values. We believe that information provides a reasonable basis for estimating the fair values of goodwill and tradename, but we are waiting for additional information necessary to finalize those fair values. Therefore, the provisional measurements of fair value reflected are subject to change and such changes could be significant. The Company expects to finalize the valuation and complete the purchase price allocation as soon as practicable but no later than one year from the acquisition date.
I - 9
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


We recorded the tradename at fair market value based on the relief from royalty method. This tradename was determined to have an indefinite useful life and, therefore, is not being amortized. Equipment will be depreciated on a straight-line basis over useful lives ranging from five to ten years.

The goodwill related to this acquisition is attributable to eLuxury’s reputation with the products they offer and management’s experience in e-commerce, online brand building, and direct-to-consumer shopping and fulfillment expertise. Goodwill is deductible for income tax purposes over the statutory period of fifteen years.

As mentioned above, the Equity Agreement contains a contingent consideration arrangement that requires us to pay the seller, who is also the shareholder of the noncontrolling interest, an earn-out payment based on a multiple of adjusted EBITDA for the twelve-month period ending August 31, 2021, less $12.0 million, as defined in the Equity Agreement. We recorded a contingent liability at the acquisition date for this earn-out obligation at its fair value totaling $5.6 million based on the Black Scholes pricing model.

Consolidation and Non-Controlling Interest

The Equity Agreement contains substantive profit-sharing arrangement provisions in which it explicitly states the ownership interests at the effective date of this business combination and the allocation of net income or loss between the controlling interest (Culp) and the noncontrolling interest. The Equity Agreement states that at the effective date of this acquisition (June 22, 2018), Culp acquired an 80% ownership interest in eLuxury with the seller retaining a 20% noncontrolling interest. Additionally, the Equity Agreement states that eLuxury’s net income or loss will be allocated at a percentage of 70% and 30% to Culp and the noncontrolling interest, respectively.

As result of the acquisition of our 80% controlling interest, we included all the accounts of eLuxury in our consolidated financial statements and have eliminated all significant intercompany balances and transactions. Net income (loss) attributable to the minority interest in eLuxury is excluded from total consolidated net income (loss) attibutable to Culp, Inc. common shareholders.

Based on the terms of the Equity Agreement, we believe the related risks associated with the ownership interests are aligned and therefore, the total consideration of $18.1 million for the 80% controlling interest provides information for the equity value of eLuxury as a whole, and therefore, is useful in estimating fair value of the 20% noncontrolling interest. In order to determine the carrying value of our noncontrolling interest in eLuxury, we applied the Hypothetical-Liquidation-At-Book-Value method (HLBV). HLBV is an approach that is used in practice to determine the carrying value of a noncontrolling interest if it is consistent with an existing profit-sharing arrangement such as the Equity Agreement. Therefore, the carrying amount of the noncontrolling interest of $4.5 million represents the $4.5 million fair value determined at the acquisition date plus its allocation of net income totaling $19,000 subsequent to the acquisition date and through the end of our second quarter of fiscal 2019.

Other

Acquisitions costs totaling $270,000 were in included in selling, general, and administrative expenses in our Consolidated Statement of Net Income for the six-month period ending October 28, 2018.

Actual revenue and net income for the period June 22, 2018 through October 28, 2018 were included in our Consolidated Statement of Net Income for the six-months ended October 28, 2018, and totaled $7.4 million and $64,000, respectively.

I - 10
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Pro Forma Financial Information

The following unaudited pro forma consolidated results of operations for the three-month and six-month periods ending October 28, 2018, and October 29, 2017, have been prepared as if the acquisitions of Read had occurred on May 2, 2016 and eLuxury had occurred on May 1, 2017.

   
 Three Months Ended 
(dollars in thousands, except per share data)October 28, 2018 October 29, 2017 
Net Sales $77,006  $88,760 
Income from operations  4,284   6,675 
Net income  2,944   4,100 
Net income - noncontrolling interest  (11)  (57)
Net income – Culp Inc. common shareholders  2,933   4,043 
         
Net income per share (basic) –        
       Culp Inc. common shareholders  0.23   0.33 
         
Net income per share (diluted) –        
        Culp Inc. common shareholders  0.23   0.32 
         
         
         
 Six Months Ended 
(dollars in thousands, except per share data)October 28, 2018 October 29, 2017 
Net Sales $151,604  $177,498 
Income from operations  6,357   13,540 
Net income  3,883   8,973 
Net (income) loss - noncontrolling interest  (11)  28 
Net income – Culp Inc. common shareholders  3,872   9,001 
         
Net income per share (basic) –        
       Culp Inc. common shareholders  0.31   0.72 
         
Net income per share (diluted) –        
        Culp Inc. common shareholders  0.31   0.71 

The unaudited pro forma information is presented for informational purposes only and is not necessarily indicative of the results of operations that actually would have been achieved had the acquisition been consummated as of that time, nor is it intended to be a projection of future results.

I - 11
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


4.  Accounts Receivable

A summary of accounts receivable follows:

          
(dollars in thousands)
 October 28, 2018  October 29, 2017  April 29, 2018 
Customers $24,956  $25,593  $28,097 
Allowance - doubtful accounts  (388)  (374)  (357)
Allowance - cash discounts  (164)  (188)  (245)
Allowance - sales returns & allowances (1)  (42)  (811)  (1,188)
  $24,362  $24,220  $26,307 

(1) Due to the adoption of ASC Topic 606, Revenue from Contracts with Customers, certain balance sheet reclassifications were required regarding our allowance for sales returns and allowances for the current year’s presentation only. See Note 5 to the consolidated financial statements for required balance sheet disclosures associated with the adoption of ASC Topic 606.

A summary of the activity in the allowance for doubtful accounts follows:

    
  Six months ended 
(dollars in thousands) 
October 28, 2018
  October 29, 2017 
Beginning balance $(357) $(414)
Provision for bad debts  (28)  40 
Net write-offs, net of recoveries  (3)  - 
Ending balance $(388) $(374)

A summary of the activity in the allowances for sales returns and allowances and cash discounts follows:

    
  Six months ended 
(dollars in thousands) October 28, 2018  October 29, 2017 
Beginning balance $(1,433) $(1,220)
Adoption of ASC Topic 606 (1)  1,145   - 
Provision for returns, allowances and discounts  (1,080)  (1,330)
Credits issued  1,162   1,551 
Ending balance $(206) $(999)

5.  Revenue

Revenue from Contracts with Customers

On April 30, 2018, we adopted ASU 2014-09 “Revenue from Contracts with Customers” (ASC Topic 606 or the “new standard”) using the retrospective modified method.   The retrospective modified method requires an adjustment to the opening balance of retained earnings for the cumulative effect of initially applying the new revenue standard. As permitted by the transition guidance, we elected to apply the new standard only to contracts that were not completed at the date of initial application, and therefore, we only evaluated those contracts that were in-process and not completed before April 30, 2018.

I - 12
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


The application of the new standard did not result in a material impact to the opening balance of retained earnings, and therefore no adjustment to retained earnings was recorded. The largest impact of applying the new standard are the required qualitative and quantitative disclosures and the presentation and classification related to estimates of allowances for sales returns. The cumulative effect of the classification changes related to our allowances for sales returns on our April 30, 2018, balance sheet are as follows:

       
  Balance at  Adjustments Due to  Balance at 
(dollars in thousands)April 29, 2018 ASC 606 Adoption (1) April 30, 2018  
Balance Sheet      
Assets:      
Accounts Receivable $26,307  $1,145  $27,452 
Other Current Assets  2,870   27   2,897 
Liabilities:            
Accrued Expenses  9,325   1,172   10,497 


(1)1.  Basis of Presentation

The accompanying unaudited consolidated financial statements of Culp, Inc. and its majority-owned subsidiaries (the “company”) include all adjustments, which are, in the opinion of management, necessary for fair presentation of the results of operations and financial position.  All of these adjustments are of a normal recurring nature. Results of operations for interim periods may not be indicative of future results.  The unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements, which are included in the company’s annual report on Form 10-K filed with the Securities and Exchange Commission on July 12, 2019, for the fiscal year ended April 28, 2019.

The company’s three-months ended August 4, 2019, and July 29, 2018, represent 14-week and 13-week periods, respectively.

2. Significant Accounting Policies

As of August 4, 2019, there were no changes in the nature of our significant accounting policies or the application of those policies from those reported in our annual report on Form 10-K for the year then ended April 28, 2019.

Recently Adopted Accounting Pronouncements

Leases

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which requires lessees to recognize leases on the balance sheet and disclose certain key information about their leasing arrangements. The new standard establishes a right of use (“ROU”) model that requires a lessee to recognize a ROU asset and lease liability for certain lease contracts. Topic 842 is effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2018. As a result, we adopted Topic 842 on April 29, 2019, electing to use the modified retrospective transition method, which requires us to recognize a cumulative effect adjustment to the opening balance of retained earnings in the period of adoption. Consequently, financial information and disclosures will not be provided for periods prior to April 29, 2019.

Topic 842 allows the election of several practical expedients as part of adopting this new standard. We elected the “package of practical expedients” which permits us not to reassess, under Topic 842, our previous conclusions regarding lease identification and classification. We did not elect the use of hindsight with respect to determining the lease term. Also, Topic 842, provides practical expedients after adopting the new standard. We elected the short-term lease exemption, and therefore, we will not recognize ROU assets or lease liabilities for leases shorter than twelve months. We did not elect the practical expedient to combine lease and non-lease components for any class of assets and will account for lease components separately from non-lease components.

The adoption of Topic 842 had a material effect on our Consolidated Balance Sheets and increased the required disclosures in our notes to the consolidated financial statements (see note 19 for further details). The most significant effect related to the recognition of ROU assets totaling $7.2 million that were mostly offset by the recognition of lease liabilities totaling $7.1 million on our Consolidated Balance Sheets. The adoption of Topic 842 did not have a material impact on our Consolidated Statements of Net Income and our Consolidated Statement of Cash Flows.

I-7
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Recently Issued Accounting Pronouncements

The company has considered all recent accounting pronouncements and currently believes there are no recent accounting pronouncements that may have a material impact on our Consolidated Financial Statements.

3.  Business Combinations

eLuxury, LLC (eLuxury)

Overview

Effective June 22, 2018, we entered into an Equity Purchase Agreement (Equity Agreement) in which we acquired an initial 80% ownership interest in eLuxury, a company that offers bedding accessories and home goods directly to consumers. eLuxury’s primary products include a line of mattress pads manufactured at eLuxury’s facility located in Evansville, Indiana. eLuxury also offers handmade platform beds, cotton bed sheets, as well as other bedding items. Its products are available on eLuxury’s own branded website, eLuxury.com, Amazon, and other leading online retailers for specialty home goods.

This acquisition brings together eLuxury’s experience in e-commerce, online brand building, and direct-to-consumer shopping and fulfillment expertise with our global production, sourcing, and distribution capabilities.

The estimated consideration given for the initial 80% ownership interest in eLuxury totaled $18.1 million, of which $12.5 million represents the estimated purchase price and $5.6 million represents the fair value for contingent consideration associated with an earn-out obligation (see below for further details). Of the $12.5 million estimated purchase price, $11.6 million was paid at closing on June 22, 2018, $185,000 was paid in August 2018, and $749,000 is to be paid in September 2019, subject to certain conditions as defined in the Equity Agreement.

Assets Acquired and Liabilities Assumed

The following table presents the final allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.

(dollars in thousands) Fair Value 
Goodwill 
$
13,653
 
Tradename  
6,549
 
Equipment  
2,179
 
Inventory  
1,804
 
Accounts receivable and other current assets  
108
 
Accounts payable  
(1,336
)
Accrued expenses  
(295
)
Non-controlling interest in eLuxury  
(4,532
)
  
$
18,130
 

We recorded the tradename at fair market value based on the relief from royalty method. This tradename was determined to have an indefinite useful life and, therefore, is not being amortized. Equipment will be depreciated on a straight-line basis over useful lives ranging from five to ten years.
I-8
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


The goodwill related to this acquisition is attributable to eLuxury’s reputation with the products it offers and management’s experience in e-commerce, online brand building, and direct-to-consumer shopping and fulfillment expertise. Goodwill is deductible for income tax purposes over the statutory period of fifteen years.

As mentioned above, the Equity Agreement contains a contingent consideration arrangement that requires us to pay the seller, who is also the owner of the noncontrolling interest, an earn-out payment based on a multiple of adjusted EBITDA, as defined in the Equity Agreement, for the twelve-month period ending August 31, 2021, less $12.0 million We recorded a contingent liability at the acquisition date for this earn-out obligation at its fair value totaling $5.6 million based on the Black Scholes pricing model.

Non-Controlling Interest

The Equity Agreement contains substantive profit-sharing arrangement provisions which explicitly state the ownership interests at the effective date of this business combination and the allocation of net income or loss between Culp Inc., as the controlling interest, and the noncontrolling interest. The Equity Agreement states that at the effective date of this acquisition (June 22, 2018), we acquired an 80% ownership interest in eLuxury with the seller retaining a 20% noncontrolling interest. Additionally, the Equity Agreement states that eLuxury’s net income or loss and future capital contributions will be allocated, at a percentage of 70% and 30% to Culp Inc. and the noncontrolling interest, respectively.

Based on the terms of the Equity Agreement, we believe the related risks associated with the adoptionownership interests are aligned and therefore, the total consideration of $18.1 million for the 80% controlling interest provides information for the equity value of eLuxury as a whole, and is useful in estimating fair value of the new standard are related20% noncontrolling interest. In order to classifying allowances for estimated sales returnsdetermine the carrying value of the noncontrolling interest in eLuxury, we applied the Hypothetical-Liquidation-At-Book-Value method (HLBV). HLBV is an approach that is used in practice to determine the carrying value of a noncontrolling interest if it is consistent with an existing profit-sharing arrangement such as a liability rather than as a contra accountthe Equity Agreement. Therefore, the carrying amount of the noncontrolling interest of $4.2 million at August 4, 2019, mostly represents the $4.5 million fair value determined at the acquisition date minus its allocation of net loss subsequent to accounts receivable on the consolidated balance sheetacquisition date and through the end of our first quarter of fiscal 2020.

Other

Acquisitions costs totaling $270,000 were included in selling, general, and administrative expenses in our Consolidated Statement of Net Income for the current year’s presentation only. As required under the new standard, we also recorded the estimated allowance for sales returns on a gross basis rather than a net basis by separately reflecting a return goods asset within other current assets rather than netting such amounts with the estimated sales returns liability. 

Currently, we expect the adoption of this new standard to be immaterial to our net income on an ongoing basis. The effect of adopting ASC 606 on our Consolidated Statements of Net Income for the three-month and six-month periods ended October 28, 2018, are as follows:

       
  Three Months Ended  Adjustments Due to  Balances Without 
 (dollars in thousands)October 28, 2018  ASC 606 Adoption (1)  ASC 606 Adoption 
       
Statements of Net Income      
     Net Sales $77,006  $10  $77,016 
     Cost of Sales  63,680   10   63,690 

       
  Six Months Ended  Adjustments Due to  Balances Without 
 (dollars in thousands)October 28, 2018  ASC 606 Adoption (1)  ASC 606 Adoption 
       
Statements of Net Income      
     Net Sales $148,479  $
(30 
) $148,449 
     Cost of Sales  124,594   
(30 
)  124,564 

I - 13
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


The effect of adopting ASC 606 on our Consolidated Balance Sheets for the period ended October 28, 2018, is as follows:

       
                 Adjustments Due to Balances Without 
 (dollars in thousands) October 28, 2018 ASC 606 Adoption (1) ASC 606 Adoption 
       
Balance Sheet      
   Assets:      
         Accounts Receivable $24,362  $(1,094) $23,268 
         Other Current Assets  2,461   (30)  2,431 
             
Liabilities:            
Accrued Expenses $8,670   (1,124) $7,546 

three-month period ending July 29, 2018.
(1)The adjustments associated with the adoption of the new standard are related to classifying allowances for estimated sales returns as a liability rather than as a contra account to accounts receivable on the consolidated balance sheet for the current year’s presentation only. As required under the new standard, we also recorded the estimated allowance for sales returns on a gross basis rather than a net basis by separately reflecting a return goods asset within other current assets rather than netting such amounts with the estimated sales returns liability. 

Nature of Performance Obligations

Our operations are classified into two business segments: mattress fabrics and upholstery fabrics.  The mattress fabrics segment manufactures, sources, and primarily sells fabrics and mattress covers to bedding manufacturers.  Effective June 22, 2018, we acquired a majority interest in eLuxury (see Note 3 for further details), a company offering bedding accessories and home products directly to consumers. The upholstery fabrics segment manufactures, sources, develops, and sells fabrics primarily to residential and commercial furniture manufacturers. Effective April 1, 2018, we acquired Read (see Note 3 for further details), a turn key provider of window treatments that offer sourcing of upholstery fabrics and other products, measurement, and installation services for the hospitality and commercial industries. In addition, Read supplies soft goods such as decorative top sheets, coverlets, duvet covers, bed skirts, bolsters and pillows.

Our primary performance obligations include the sale of mattress and upholstery fabric products and the performance of customized fabrication and installation services associated with window treatments.

Significant Judgments

Revenue is recognized upon the transfer of control of promised products or services to customers in an amount that reflects the consideration we expect to receive in exchange for those products or services.  We determined that our customer purchase orders represent contracts as defined in the new standard.  In addition to purchase orders, we also have supply contracts with certain customers that define standard terms and conditions.   Our contracts generally include promises to sell either upholstery fabric or mattress fabric products or promises to provide fabrication and installation services associated with customized window treatments.  The transaction price is typically allocated to performance obligations based upon stand-alone selling prices. We did not disclose the value of unsatisfied performance obligations as substantially all of any unsatisfied performance obligations as of October 28, 2018, will be satisfied within one year or less.  Revenue associated with sales of our products are recognized at the point-in-time when control of the promised goods has been transferred to the customer.  The point-in-time when control transfers to the customer depends on the contractually agreed upon shipping terms, but typically occurs once the product has been shipped or once it has been delivered to a location specified by the customer. For certain warehousing arrangements, transfer of control to the customer is deemed to have occurred when the customer pulls the inventory for use in their production.  Revenue associated with our customized fabrication services, which are performed on various types of window treatments, is recognized over time once the customized products are deemed to have no alternative use but for which we have an enforceable right to payment for the services performed.  Revenue for our customized fabrication services is recognized over time using the output method based on units produced.  Revenue associated with our installation services is also recognized over time as the customer receives and consumes the benefits of the promised installation services. Revenue associated with our installation services is recognized over time using the output method based on units installed.
I - 14
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


We evaluated the nature of any guarantees or warranties related to our contracts with customers and determined that any such warranties are assurance-type warranties that cover only compliance with agreed upon specifications, and therefore are not considered separate performance obligations.  We have elected to treat both shipping costs and handling costs as fulfillment costs which are classified in the Consolidated Statements of Net Income as cost of sales and selling, general and administrative expenses, respectively.

Revenue is measured as the amount of consideration we expect to receive in exchange for the transfer of the promised products and services.  The amount of consideration we expect to receive changes due to variable consideration associated with allowances for sales returns, early payment discounts, and volume rebates that we offer to customers. The amount of variable consideration which is included in the transaction price is only included in net sales to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur in a future period. We only allow product returns to the extent that the products or services did not meet the contractually agreed upon specifications at the time of the sale. Customers must receive authorization prior to returning products.  Estimates of allowances for sales returns are based on historical data, current potential product return issues, and known sales returns for which customers have been granted return authorization. Known sales returns for which customers have been granted permission to return products for a refund or credit, continue to be recorded as a contra account receivable. Estimates for potential future sales returns and related customer accommodations are now recorded within accrued expenses as required by the new standard.  Under the new standard we record estimates for sales returns on a gross basis rather than a net basis and an estimate for a right of return asset is recorded in other current assets and cost of goods sold.   Variable consideration associated with early payment cash discounts are estimated using current payment trends and historical data on a customer-by-customer basis. The variable consideration associated with volume rebates are based on the portion of the rebate earned relative to the total amount of rebates the customer is expected to earn over the rebate period as determined using historical data and projections.

Revenue is recognized net of any taxes collected from customers which are subsequently remitted to governmental authorities. We generally recognize sales commission as expense when incurred because the amortization period is one year or less. Sales commissions are recorded within selling, general, and administrative expenses in the Consolidated Statements of Net Income.

I - 15
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Contract Assets & Liabilities

Certain contracts, primarily those for customized fabrication and installation services, require upfront customer deposits that result in a contract liability which is recorded on the Consolidated Balance Sheet as deferred revenue.  If upfront deposits or prepayment are not required, customers may be granted credit terms which generally range from 15 – 45 days.  Such terms are common within the industries in which we are associated and are not considered financing arrangements.  There were no contract assets recognized as of October 28, 2018.

A summary of the activity of deferred revenue for the three-month and six-month periods ended October 28, 2018 follows:

    
  Three Months Ended 
(dollars in thousands) October 28, 2018 
Balance as of July 29, 2018 $634 
Revenue recognized on contract liabilities during the period                               (792)
Payments received for services not yet rendered during the period  807 
Balance as of October 28, 2018 $649 
     
     
     
  Six Months Ended 
(dollars in thousands) October 28, 2018 
Balance as of April 29, 2018 $809 
Revenue recognized on contract liabilities during the period                               (1,534)
Payments received for services not yet rendered during the period  1,374 
Balance as of October 28, 2018 $649 

Disaggregation of Revenue

The following table presents our disaggregated revenue by segment, timing of revenue recognition, and product sales versus services rendered for the three-month period ending October 28, 2018:

 Net Sales      
       
(dollars in thousands)                               Mattress Fabrics Upholstery Fabrics Total 
Products transferred at a point in time $41,989  $31,877  $73,866 
             
Services transferred over time  -   3,140   3,140 
             
Total Net Sales $41,989   35,017  $ 77,006 


I - 16
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



The following table presents our disaggregated revenue by segment, timing of revenue recognition, and product sales versus services rendered for the six-month period ending October 28, 2018:

 Net Sales         
          
(dollars in thousands)                               Mattress Fabrics  Upholstery Fabrics  Total 
Products transferred at a point in time $78,972  $63,878   142,850 
             
Services transferred over time  -   5,629   5,629 
             
Total Net Sales $78,972  $69,507   148,479 

6.  Inventories

Inventories are carried at the lower of cost or net realizable value.  Cost is determined using the FIFO (first-in, first-out) method.

A summary of inventories follows:
          
(dollars in thousands) 
October 28, 2018
  October 29, 2017  April 29, 2018 
Raw materials $5,397  $6,617  $6,024 
Work-in-process  2,082   2,686   3,264 
Finished goods  43,122   40,906   44,166 
  $50,601  $50,209  $53,454 

7.  Intangible Assets

A summary of intangible assets follows:
          
(dollars in thousands) 
October 28, 2018
  October 29, 2017  April 29, 2018 
Tradenames $7,232  $-  $683 
Customer relationships, net  2,688   638   2,839 
Non-compete agreement, net  716   790   753 
  $10,636  $1,428  $4,275 

Tradename

A summary of the carrying amount of our tradenames from our recent acquisitions (see Note 3) follow:
       
(dollars in thousands)October 28, 2018 October 29, 2017 April 29, 2018 
Read $683  $-  $683 
eLuxury  6,549   -   - 
  $7,232  $-  $683 


I - 17
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Our tradenames were recorded at their fair market values at the effective date of their acquisitions (see Note 3) and were based on the relief from royalty method. These tradenames were determined to have an indefinite useful life and therefore, are not being amortized. However, these tradenames will be assessed annually for impairment.
Customer Relationships
A summary of the change in the carrying amount of our customer relationships follows:
    
  Six months ended    
 (dollars in thousands) October 28, 2018  October 29, 2017 
Beginning balance $2,839   664 
Acquisition of assets  -   - 
Amortization expense  (151)  (26)
Loss on impairment  -   - 
Ending balance $2,688  $638 
In connection with our asset purchase agreement with Read (see note 3) on April 1, 2018, we purchased certain customer relationships. We recorded these customer relationships at fair market value totaling $2.2 million based on a multi-period excess earnings valuation model. These customer relationships will be amortized on a straight-line basis over their nine-year useful life.
Additionally, we have customer relationships from a prior acquisition with a carrying amount of $587,000 at October 28, 2018. These customer relationships are being amortized on a straight-line basis over their seventeen-year useful life.
The gross carrying amount of our customer relationships were $3.1 million, $868,000 and $3.1 million at October 28, 2018, October 29, 2017, and April 29, 2018, respectively. Accumulated amortization for these customer relationships were $427,000, $230,000 and $276,000 at October 28, 2018, October 29, 2017, and April 29, 2018, respectively.
The remaining amortization expense for the next five fiscal years and thereafter follows: FY 2019 - $150,000; FY 2020 - $301,000; FY 2021 - $301,000; FY 2022 - $301,000; FY 2023 - $301,000; and Thereafter - $1,334,000.
The weighted average amortization period for our customer relationships is 9.1 years as of October 28, 2018.

Non-Compete Agreement

A summary of the change in the carrying amount of our non-compete agreement follows:
     
 Six months ended   
 (dollars in thousands)  October 28, 2018    October 29, 2017  
Beginning balance $753  $828 
Amortization expense  (37)  (38)
Loss on impairment  -   - 
Ending balance $716  $790 
We have a non-compete agreement from a prior acquisition that is being amortized on a straight-line basis over the fifteen-year life of the agreement.
I - 18
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



The gross carrying amount of this non-compete agreement was $2.0 million at October 28, 2018, October 29, 2017, and April 29, 2018, respectively. Accumulated amortization for this non-compete agreement was $1.3 million at October 28, 2018 and April 29, 2018, and $1.2 million at October 29, 2017.
The remaining amortization expense for the next five years and thereafter follows: FY 2019 - $38,000; FY 2020 - $75,000; FY 2021 - $75,000; FY 2022 - $75,000; FY 2023 - $75,000, and Thereafter - $378,000.
The weighted average amortization period for the non-compete agreement is 9.5 years as of October 28, 2018.

8.  Goodwill

A summary of the change in the carrying amount of goodwill follows:
    
  Six months ended    
(dollars in thousands) 
October 28, 2018
  October 29, 2017 
Beginning balance $13,569  $11,462 
Acquisition of business (see note 3)  13,653   - 
Loss on impairment  -   - 
Ending balance $27,222  $11,462 

9.  Investment in Unconsolidated Joint Venture

Culp International Holdings, Ltd., a wholly-owned subsidiary of Culp, Inc. (collectively known as CULP), entered into a joint venture agreement, pursuant to which CULP owns fifty percent of CLASS International Holdings, Ltd. (CLIH). CLIH produces cut and sewn mattress covers, and its operations are located in a modern industrial park in northeastern Haiti, which borders the Dominican Republic. CLIH commenced production during the second quarter of fiscal 2018 (October 2017) and complements our mattress fabric operations with a mirrored platform that enhances our ability to meet customer demand while adding a lower cost operation to our platform.

CLIH incurred a net loss totaling $263,000 and $386,000 for the six-month periods ending October 28, 2018 and October 29, 2017, respectively. CLIH’s net loss through the second quarter of fiscal 2018 pertained to initial start-up operating expenses incurred. Our equity interests in these net losses were $132,000 and $193,000 for the six-month periods ending October 28, 2018 and October 29, 2017, respectively.

The following table summarizes information on assets, liabilities and members’ equity of our equity method investment in CLIH:
             
   October 28,    October 29,    April 29,  
 (dollars in thousands)  2018    2017    2018  
Total assets $3,063  $3,180  $3,130 
Total liabilities $124  $136  $128 
Total members’ equity $2,939  $3,044  $3,002 

At October 28, 2018, October 29, 2017, and April 29, 2018, our investment in CLIH totaled $1.5 million, which represents the company’s fifty percent ownership interest in CLIH.
I - 19
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



10.  Accrued Expenses

A summary of accrued expenses follows:
          
(dollars in thousands) October 28, 2018  October 29, 2017  April 29, 2018 
Compensation, commissions and related benefits $3,353  $5,399  $6,918 
Interest  -   18   20 
Other accrued expenses  5,317   1,947   3,150 
  $8,670  $7,364  $10,088 

At October 28, 2018 and October 29, 2017, we had accrued expenses totaling $8.7 million and $7.4 million, respectively, all of which were classified as current accrued expenses in the accompanying Consolidated Balance Sheets. At April 29, 2018, we had accrued expenses totaling $10.1 million, of which $9.3 million and $763,000 were classified as current accrued expenses and long-term accrued expenses, respectively, in the accompanying Consolidated Balance Sheets.

11. Exit and Disposal Activity

On June 12, 2018, our board of directors announced the closure of our upholstery fabrics manufacturing facility in Anderson, South Carolina. This closure was completed during the second quarter of fiscal 2019 and was due to a continued decline in demand for the products manufactured at this facility, reflecting a change in consumer style preferences.

The following summarizes our restructuring credit and related charges totaling $1.2 million that were associated with the above exit and disposal activity:
    
  Six months ended October 28, 
(dollars in thousands) 2018 
Inventory markdowns $1,565 
Employee termination benefits  513 
Other operating costs associated with a closed facility  270 
Gain on sale of equipment  (1,123)
  $1,225 

Of this total net charge, a charge of $1.8 million and a credit of $610,000 was recorded in cost of sales and restructuring credit, respectively, in the Consolidated Statement of Net Income for the six-month period ending October 28, 2018.

I - 20
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



The following summarizes the activity in the restructuring accrual:
    
  
Six months ended
October 28,
 
(dollars in thousands) 2018 
Accrual established in fiscal 2019 $451 
Paid in fiscal 2019  (253)
Adjustments in fiscal 2019  62 
  $260 

The above restructuring accrual pertains to employee termination benefits that were associated with the above exit and disposal activity.

Note 12. Assets Held for Sale

During the second quarter of fiscal 2019, and in connection with our exit and disposal activity noted above, a building and equipment with a carrying value totaling $393,000 was classified as held for sale. We determined that the fair value of the building and equipment exceeded its carrying value and therefore, no impairment was recorded.

Additionally, during the second quarter we received sales proceeds totaling $1.3 million on all of the equipment that was classified as held for sale and recorded a corresponding gain on this sale totaling $1.1 million.

As of October 28, 2018, our assets held for sale had a carrying value totaling $237,000 and pertains to the building and land of the above closed facility. We expect that the final sale of the building and land will be completed within a year.

13. Lines of Credit

Revolving Credit Agreement – United States

At April 29, 2018, our Credit Agreement with Wells Fargo Bank, N.A. (“Wells Fargo”) provided for a revolving loan commitment of $30 million. Effective August 13, 2018, we entered into a Fifth Amendment to our Credit Agreement which reduced the amount of our line of credit from $30 million to $25 million, reduced the amount of the Unencumbered Liquid Assets maintenance covenant from $20 million to $15 million, and set the expiration date to August 15, 2020. Additionally, this amendment reduced the limit of outstanding letters to $1.0 million, which includes the $250,000 workers compensation letter of credit noted below.

Interest was charged at a rate (applicable interest rate of (3.75%, 2.69%, and 3.36% at October 28, 2018, October 29, 2017, and April 29, 2018) as a variable spread over LIBOR based on our ratio of debt to EBITDA.

Outstanding borrowings are secured by a pledge of 65% of the common stock of Culp International Holdings Ltd. (our subsidiary located in the Cayman Islands), as required by the Credit Agreement. There were no borrowings outstanding under the Credit Agreement at October 28, 2018, October 29, 2017, and April 29, 2018, respectively.
I - 21
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



At October 28, 2018, October 29, 2017, and April 29, 2018, there were $250,000 in outstanding letters of credit (all of which related to workers compensation) provided by the Credit Agreement.

Effective August 1, 2016, we entered into a Third Amendment to our Credit Agreement which allowed us to issue letters of credit not to exceed $7.5 million. On August 3, 2016, we issued a $5.0 million letter of credit, in addition to the $250,000 letter of credit noted above, for the construction of a new building associated with our mattress fabrics segment (see Note 22 for further details). The terms of this $5.0 million letter credit expired on May 15, 2018.


Revolving Credit Agreement – China

We have an unsecured credit agreement associated with our operations in China that provides for a line of credit up to 40 million RMB ($5.7 million USD at October 28, 2018) and is set to expire on March 2, 2019. This agreement has an interest rate determined by the Chinese government and there were no outstanding borrowings as of October 28, 2018, October 29, 2017, and April 29, 2018.

Overall

Our loan agreements require, among other things, that we maintain compliance with certain financial covenants. As of October 28, 2018, we were in compliance with these financial covenants.

14. Fair Value of Financial Instruments

ASC Topic 820 establishes a fair value hierarchy that distinguishes between assumptions based on market data (observable inputs) and the company’s assumptions (unobservable inputs). Determining where an asset or liability falls within that hierarchy depends on the lowest level input that is significant to the fair value measurement as a whole. An adjustment to the pricing method used within either level 1 or level 2 inputs could generate a fair value measurement that effectively falls in a lower level in the hierarchy. The hierarchy consists of three broad levels as follows:

Level 1 – Quoted market prices in active markets for identical assets or liabilities;

Level 2 – Inputs other than level 1 inputs that are either directly or indirectly observable, and

Level 3 – Unobservable inputs developed using the company’s estimates and assumptions, which reflect those that market participants would use.

I - 22
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Recurring Basis

The following table presents information about assets measured at fair value on a recurring basis:

 Fair value measurements at October 28, 2018 using: 
   
 Quoted prices in active markets for identical assets 
Significant other
observable inputs
 
Significant
unobservable
inputs
   
(amounts in thousands) Level 1 Level 2 Level 3 Total 
         
Assets:        
Premier Money Market Fund $6,943   N/A   N/A  $6,943 
Large Blend Fund  422   N/A   N/A   422 
Growth Allocation Fund  175   N/A   N/A   175 
Moderate Allocation Fund  114   N/A   N/A   114 
Other  197   N/A   N/A   197 


 Fair value measurements at October 29, 2017 using: 
   
 Quoted prices in active markets for identical assets 
Significant other
observable inputs
 
Significant
unobservable
inputs
   
(amounts in thousands)Level 1 Level 2 Level 3 Total 
         
Assets:        
Premier Money Market Fund $6,153   N/A   N/A  $6,153 
Low Duration Bond Fund  1,087   N/A   N/A   1,087 
Intermediate Term Bond Fund  765   N/A   N/A   765 
Strategic Income Fund  626   N/A   N/A   626 
Large Blend Fund  393   N/A   N/A   393 
Growth Allocation Fund  153   N/A   N/A   153 
Moderate Allocation Fund               107   N/A   N/A   107 
Other  115   N/A   N/A   115 

I - 23
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



 Fair value measurements at April 29, 2018 using: 
   
 Quoted prices in active markets for identical assets 
Significant other
observable inputs
 
Significant
unobservable
inputs
   
(amounts in thousands)Level 1 Level 2 Level 3 Total 
         
Assets:        
Premier Money Market Fund $6,492   N/A   N/A  $6,492 
Low Duration Bond Fund  1,085   N/A   N/A   1,085 
Intermediate Term Bond Fund  747   N/A   N/A   747 
Strategic Income Fund  619   N/A   N/A   619 
Large Blend Fund  402   N/A   N/A   402 
Growth Allocation Fund  169   N/A   N/A   169 
Moderate Allocation Fund  113   N/A   N/A   113 
Other  150   N/A   N/A   150 
 
Liabilities:
                
                 
EURO Foreign Currency                
    Cash Flow Hedge  N/A  $55   N/A  $55 

Our EURO foreign exchange contract was recorded at a fair value provided by our bank and is classified within level 2 of the fair value hierarchy. Most derivative contracts are not listed on an exchange and require the use of valuation models. In accordance with ASC Topic 820, we attempted to maximize the use of observable inputs used in the valuation models used to determine the fair value of this contract. Derivative contracts valued based on valuation models with significant unobservable inputs and that are not actively traded, are classified within level 3 of the fair value hierarchy.

The determination of where an asset or liability falls in the hierarchy requires significant judgment. We evaluate our hierarchy disclosures each quarter based on various factors and it is possible that an asset or liability may be classified differently from quarter to quarter. However, we expect that changes in classifications between different levels will be rare.

Short-Term Investments – Available for Sale

There were no short-term investments classified as available for sale held at October 28, 2018. At October 29, 2017 and April 29, 2018, our short-term investments classified as available for sale totaled $2.5 million and consisted of short-term bond funds. Since these short-term bond funds were classified as available for sale, these investments were recorded at their fair market value and their unrealized gains or losses are included in other comprehensive income (loss). Our short-term bond investments had an accumulated unrealized loss totaling $36,000 and $91,000 at October 29, 2017, and April 29, 2018, respectively. At October 29, 2017, and April 29, 2018, the fair value of our short-term bond funds approximated its cost basis.

I - 24
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Short-Term and Long-Term Investments - Held-To-Maturity

Our investments classified as held-to-maturity consist of investment grade U.S. Corporate bonds with maturities that ranged from 2 to 2.5 years. The purpose of these investments was to earn a higher rate of return on our excess cash located in the Cayman Islands. These investments are classified as held-to-maturity as we have the positive intent and ability to hold these investments until maturity. Our held-to-maturity investments are recorded as either current or noncurrent on our Consolidated Balance Sheets, based on contractual maturity date in relation to the respective reporting period and recorded at amortized cost.

At October 28, 2018, October 29, 2017 and April 29, 2018, our held-to-maturity investments recorded at amortized cost totaled $26.7 million, $30.9 million, and $30.8 million, respectively. The fair value of our held-to-maturity investments at October 28, 2018, October 29, 2017, and April 29, 2018 totaled $26.6 million, $30.8 million, and $30.6 million, respectively.

Our U.S. corporate bonds are classified as level 2 as they are traded over the counter within a broker network and not on an active market. The fair value of our U.S. corporate bonds is determined based on a published source that provides an average bid price. The average bid price is based on various broker prices that are determined based on market conditions, interest rates, and the rating of the respective U.S. corporate bond.

Long-Term Investments - Rabbi Trust

We have a Rabbi Trust to set aside funds for participants of our deferred compensation plan (the “Plan”) which enables the participants to credit their contributions to various investment options of the Plan. The investments associated with the Rabbi Trust consist of a money market fund and various mutual funds that are classified as available for sale.

These long-term investments are recorded at their fair values of $7.9 million, $6.9 million, and $7.3 million at October 28, 2018, October 29, 2017 and April 29, 2018, respectively. Our long-term investments had an accumulated unrealized gain of $62,000, $96,000, and $61,000 at October 28, 2018, October 29, 2017, and April 29, 2018, respectively. The fair value of our long-term investments associated with our Rabbi Trust approximates its cost basis.

Other
The carrying amount of our cash and cash equivalents, accounts receivable, other current assets, accounts payable, and accrued expenses approximates fair value because of the short maturity of these financial instruments.

I - 25
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Nonrecurring Basis

At October 28, 2018, we had no assets that were required to be measured at fair value on a nonrecurring basis other than the assets acquired from eLuxury (see note 3) that were acquired at fair value:

 Fair value measurements at October 28, 2018 using: 
   
 
Quoted prices in
active markets
for identical
assets
 
Significant other
observable inputs
 
Significant
unobservable
inputs
   
         
(amounts in thousands) Level 1 Level 2 Level 3 Total 
         
Assets:        
         
Goodwill  N/A   N/A  $13,653  $13,653 
Tradename  N/A   N/A   6,549   6,549 
Equipment  N/A   N/A   2,179   2,179 
Inventory  N/A   N/A   1,804   1,804 
                 
Liabilities:                
                 
Contingent Consideration –                
    Earn-Out Obligation  N/A   N/A  $5,706  $5,706 
                 
The tradename was recorded at fair market value using the royalty from relief method that used significant unobservable inputs and were classified as level 3. The contingent consideration – earn-out obligation was recorded at fair market value using Black Sholes pricing model.

Additionally, we acquired certain current assets such as accounts receivable and prepaid expenses and assumed certain liabilities such as accounts payable and accrued expenses.  Based on the nature of these items and their short maturity, the carrying amount of these items approximated their fair values. See note 3 for the preliminary allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.

I - 26
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



At April 29, 2018, we had no assets that were required to be measured at fair value on a nonrecurring basis other than the assets acquired from Read (see note 3) that were acquired at fair value:

 Fair value measurements at April 29, 2018 using: 
   
 
Quoted prices in
active markets
for identical
assets
 
Significant other
observable inputs
 
Significant
unobservable
inputs
   
         
(amounts in thousands) Level 1 Level 2 Level 3 Total 
         
Assets:        
         
Customer Relationships  N/A   N/A  $2,247  $2,247 
Goodwill  N/A   N/A   2,107   2,107 
Inventory  N/A   N/A   1,128   1,128 
Tradename  N/A   N/A   683   683 
Equipment  N/A   N/A   379   379 
                 
Liabilities:                
                 
None  N/A   N/A   N/A   N/A 
                 
These customer relationships were recorded at fair market value using a multi-period excess earnings valuation model that used significant unobservable inputs and were classified as level 3. The tradename was recorded at fair market value using the royalty from relief method that used significant unobservable inputs and were classified as level 3.

Additionally, we acquired certain current assets such as accounts receivable and other assets and assumed certain liabilities such as deferred revenue, accounts payable and accrued expenses.  Based on the nature of these items and their short maturity, the carrying amount of these items approximated their fair values. See note 3 for the allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.

15.  Derivatives

During the fourth quarter of fiscal 2018, we entered into a EURO foreign exchange contract to mitigate the risk of foreign exchange rate fluctuations associated with certain capital expenditures. The contract effectively converts our EURO capital expenditures at a fixed EURO foreign exchange rate compared with the United States dollar of 1.263 and expired in August 2018.
In accordance with the provisions of ASC Topic 815, Derivatives and Hedging, our EURO foreign exchange contract was designated as a cash flow hedge, with the fair value of these financial instruments recorded in accrued expenses and changes in fair value recorded in accumulated other comprehensive income (loss). ASC Topic 815 requires disclosure of gains and losses on derivative instruments in the following tabular format.

I - 27
I-9
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


(Amounts
Pro Forma Financial Information

The following unaudited pro forma consolidated results of operations for the three-month periods ending August 4, 2019, and July 29, 2018, have been prepared as if the acquisition of eLuxury had occurred on May 1, 2017.

       
   Three Months Ended    
(dollars in thousands, except per share data)
 August 4, 2019  July 29, 2018 
Net Sales 
$
74,847
  
$
74,598
 
Income from operations  
2,689
   
2,073
 
Net income  
1,174
   
939
 
Net loss - noncontrolling interest  
164
   
-
 
 Net income – Culp Inc. common shareholders  1,338
    939 
Net income per share (basic) –
Culp Inc. common shareholders
  
0.11
   
0.08
 
 Net income per share (diluted) –        
        Culp Inc. common shareholders
   0.11    0.07 
















The unaudited pro forma information is presented for informational purposes only and is not necessarily indicative of the results of operations that would actually have been achieved had the acquisition been consummated as of that time, nor is it intended to be a projection of future results.

4.  Allowance for Doubtful Accounts

A summary of the activity in Thousands)
Fair Valuesthe allowance for doubtful accounts follows:

   Three months ended    
(dollars in thousands) August 4, 2019  July 29, 2018 
Beginning balance
 
$
393
  
$
357
 
Provision for bad debts 
  
(30
)
  
9
 
Net write-offs, net of recoveries  -
   -
 
Ending balance
 
$
363
  
$
366
 

5.  Revenue from Contracts with Customers

Nature of Derivative Instruments
October 28,Performance Obligations

Our operations are classified into three business segments: mattress fabrics, upholstery fabrics, and home accessories.  The mattress fabrics segment manufactures, sources, and sells fabrics and mattress covers primarily to bedding manufacturers. The upholstery fabrics segment develops, manufactures, sources, and sells fabrics primarily to residential and commercial furniture manufacturers. Effective April 1, 2018,
April 29, 2018
Derivatives designated we acquired Read Window Products LLC (Read), a turn-key provider of window treatments that offers sourcing of upholstery fabrics and other products, measuring, and installation services of their own products for the hospitality and commercial industries. In addition, Read supplies soft goods such as hedging instruments under ASC Topic 815
Balancedecorative top sheets, coverlets, duvet covers, bed skirts, bolsters, and pillows. The home accessories segment is our finished products business that manufactures, sources, and sells bedding accessories and home goods directly to consumers and businesses through global e-commerce and business-to-business sales channels.
 Sheet
 Location
Fair
 Value
Balance
 Sheet
 Location
Fair
 Value
Euro Foreign Exchange ContractAccrued Expenses     $-Accrued Expenses
$55      


At October 29, 2017, we did not have any derivatives designated as hedging instruments under ASC Topic 815.

Derivatives in ASC Topic 815 Net Investment Hedging RelationshipsAmt of Gain (Loss) (net of tax) Recognized in OCI on Derivative (Effective Portion) and recorded in Accrued Expenses at Fair Value 
 
Location of Gain or (Loss) Reclassified from Accumulated OCI into Income
(Effective Portion)
  Amount of Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion) Location of Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion and Amount Excluded from Effectiveness Testing)Amount of Gain (loss) (net of tax) Recognized in Income on Derivative (Ineffective Portion and Amount Excluded from Effectiveness Testing) 
               
 
Six Months Ended
October 28, 2018
 
Six Months Ended
October 29, 2017
     
Six Months Ended
October 28, 2018
 
Six Months Ended
October 29, 2017
     
Six Months Ended
October 28, 2018
 
Six Months Ended
October 29, 2017
 
                 
EURO Foreign Exchange Contract
 $56  $- 
Other Expense
 $(64) $- 
 
Other Expense
 $-  $- 
                             

16.  Cash Flow Information

Interest and income taxes paid are as follows:
   
 Six months ended     
 
 (dollars in thousands)  October 28, 2018    October 29, 2017  
Interest $54  $146 
Income taxes  3,994   2,599 

Interest costs charged to operations were $38,000 and $137,000 for the six months ended October 28, 2018 and October 29, 2017, respectively.

No interest costs for the construction of qualifying fixed assets were capitalized for the six-months ended October 28, 2018. Interest costs totaling $100,000 for the construction of qualifying fixed assets were capitalized for the six-months ended October 29, 2017. As a result, these interest costs will be amortized over the related assets’ useful lives.

I - 28

Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


17.  Net Income Per Share

Basic net income per share is computed using the weighted-average number of shares outstanding during the period.  Diluted net income per share uses the weighted-average number of shares outstanding during the period plus the dilutive effect of stock-based compensation calculated using the treasury stock method.  Weighted average shares used in the computation of basic and diluted net income per share follows:

    
  Three months ended 
(amounts in thousands) October 28, 2018  October 29, 2017 
Weighted average common shares outstanding, basic  12,515   12,440 
Dilutive effect of stock-based compensation  36   140 
Weighted average common shares outstanding, diluted  12,551   12,580 

At October 28, 2018 and April 29, 2018, there were no options to purchase shares of our common stock outstanding. Therefore, options to purchase shares of our common stock were not included in the computation of diluted net income for the three-months ending October 28, 2018. All options to purchase shares of common stock were included in the computation of diluted net income for the three-months ending October 29, 2017, as the exercise price of the options was less than the average market price of the common shares.

    
  Six months ended 
(amounts in thousands) October 28, 2018  October 29, 2017 
Weighted average common shares outstanding, basic  
    12,512
   12,420 
Dilutive effect of stock-based compensation  100   
 193
 
Weighted average common shares outstanding, diluted  
 12,612
   
 12,613
 


At October 28, 2018 and April 29, 2018, there were no options to purchase shares of our common stock outstanding. Therefore, options to purchase shares of our common stock were not included in the computation of diluted net income for the six-months ending October 28, 2018. All options to purchase shares of common stock were included in the computation of diluted net income for the six-months ending October 29, 2017, as the exercise price of the options was less than the average market price of the common shares.

18.  Segment Information

Our operations are classified into two business segments: mattress fabrics and upholstery fabrics.  The mattress fabrics segment manufactures, sources, and primarily sells fabrics and mattress covers to bedding manufacturers.  The upholstery fabrics segment manufactures, sources, develops, and sells fabrics primarily to residential and commercial furniture manufacturers.

Effective April 1, 2018, we acquired Read (see Note 3 for further details), a turn key provider of window treatments that offer the sourcing of upholstery fabrics and other products, measuring, and installation services of their own products for the hospitality and commercial industries. Read's financial information is aggregated with our upholstery fabrics segment.
I - 29
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Effective June 22, 2018, we acquired eLuxury (see Note 3 for further details), a company that offers bedding accessories and home goods directly to consumers. eLuxury’s primary products include a line of mattress pads, and also offer handmade platform beds, cotton bed sheets, and other bedding items. Currently, eLuxury's financial information is aggregated with our mattress fabrics segment.

We evaluate the operating performance of our segments based upon income from operations before certain unallocated corporate expenses, restructuring expense (credit) and related charges, and other non-recurring items. Cost of sales in both segments include costs to manufacture, develop, or source our products, including costs such as raw material and finished goods purchases, direct and indirect labor, overhead and incoming freight charges.  Unallocated corporate expenses primarily represent compensation and benefits for certain executive officers, all costs associated with being a public company, and other miscellaneous expenses.  Segment assets include assets used in the operations of each segment and primarily consist of accounts receivable, inventories, and property, plant and equipment. The mattress fabrics segment also includes in segment assets their investment in an unconsolidated joint venture. During fiscal 2019, we elected to no longer include goodwill and intangible assets in segment assets, as these assets are not used by the CODM to evaluate the respective segment’s operating performance, to allocate resources to the individual segments, or to determine executive compensation.

Financial information for the company’s operating segments follows:
    
  Three months ended   
 
  Otober 28, 2018
  Otober 29, 2017
 
  Net sales:
        
Mattress Fabrics $41,989  $48,601 
Upholstery Fabrics  35,017   32,097 
  $77,006  $80,698 
  Gross profit:        
  Mattress Fabrics $7,498  $9,730
Upholstery Fabrics  6,257   6,074 
Total segment gross profit $13,755  $15,804 
Other non-recurring charges (1)  (159)  - 
Restructuring related charges (2)  (270)  - 
  $13,326  $15,804 
Selling, general, and administrative expenses        
Mattress Fabrics $4,566  $3,168 
Upholstery Fabrics  3,535   3,700 
Total segment selling, general, and administrative expenses  8,101   6,868 
Other non-recurring charges (1)  89   - 
Unallocated corporate expenses  1,913   2,547 
  $10,103  $9,415 
Income from operations:
 

  

 
      Mattress Fabrics
 $
2,932
  $
 6,562 
Upholstery Fabrics  2,722   2,374 
Total segment income from operations  5,654   8,936 
Unallocated corporate expenses  (1,913)  (2,547)
Other non-recurring charges (1)  (248)  - 
Restructuring credit and related charges (3)  791   - 
Total income from operations  4,284   6,389 
Interest expense  (18)  (37)
Interest income  151   128 
Other expense  (142)  (321)
Income before income taxes $4,275  $6,159 


I - 30I-10
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



 (1) During the three-month and six-month periods ending October 28, 2018, our mattress fabrics segment incurred non-recurring charges totaling $248 that pertained to employee termination benefits and other operational reorganization costs. Of the $248 total non-recurring charge, $159 and $89 were recorded in cost of sales and selling, general, and administrative expenses, respectively.

(2) The $270 represents a restructuring related charge for other operating costs associated with our closed upholstery fabrics plant facility located in Anderson, SC.

(3) The $791 pertains to a $1.1 million restructuring credit that represents a $1.1 million gain on the sale of equipment, partially offset by a restructuring charge of $63 for employee termination benefits and a restructuring related charge of $270 for other operating costs associated with our closed upholstery fabrics plant facility located in Anderson, SC.

    
  Six months ended
 
  October 28,2018
  October 29, 2017
 
  Net sales:
        
Mattress Fabrics $78,972  $97,030 
Upholstery Fabrics  69,507   63,200 
  $148,479  $160,230 
Gross profit:
 

  

 
      Mattress Fabrics $
 13,470  $
 19,495 
Upholstery Fabrics  12,410   12,773 
Total segment gross profit $25,880  $32,268 
Other non-recurring charges (1)  (159)  - 
Restructuring related charges (4)  (1,836)  - 
  $23,885  $32,268 
Selling, general, and administrative expenses        
Mattress Fabrics $7,714  $6,559 
Upholstery Fabrics  7,161   7,511 
Total segment selling, general, and administrative expenses  14,875   14,070 
Other non-recurring charges (1)  89   - 
Unallocated corporate expenses  3,172   4,846 
  $18,136  $18,916 
Income from operations:
 

  

 
      Mattress Fabrics $
5,755
  $
12,936
 
Upholstery Fabrics  5,249   5,262 
Total segment income from operations  11,004   18,198 
Unallocated corporate expenses  (3,172)  (4,846)
Other non-recurring charges (1)  (248)  - 
Restructuring credit and related charges (5)  (1,225)  - 
Total income from operations  6,359   13,352 
Interest expense  (38)  (37)
Interest income  301   259 
Other expense  (399)  (674)
Income before income taxes $6,223  $12,900 

(4) The $1.8 million represents restructuring related charges, of which $1.6 million pertains to inventory markdowns and $270 for other operating costs associated with our closed upholstery fabrics plant facility located in Anderson, SC.
I - 31
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)




(5) The $1.2 million pertains to restructuring related charges totaling $1.8 million, partially offset by a restructuring credit of $610 associated with our closed upholstery fabrics plant facility located in Anderson, SC.  The $1.8 million restructuring related charge represents $1.6 million for inventory markdowns and $270 for other operating costs. The $610 restructuring credit represents a $1.1 million gain on sale of equipment, partially offset by a charge for employee termination benefits totaling $513.

Balance sheet information for the company’s operating segments follows:

          
 (dollars in thousands)    October 28, 2018
  October 29, 2017
  April 29, 2018
 
 Segment assets:         
      Mattress Fabrics
            
Accounts receivable $10,740  $13,645  $15,195 
Inventory  29,836   29,083   28,740 
Property, plant and equipment (1)  48,825   49,965   48,797 
Investment in unconsolidated joint venture  1,470   1,522   1,501 
Total mattress fabrics assets  90,871   94,215   94,233 
      Upholstery Fabrics            
       Accounts receivable  13,622   10,575   11,112 
Inventory  20,765   21,126   24,714 
Property, plant and equipment (2)  2,048   2,063   2,445 
Total upholstery fabrics assets  36,435   33,764   38,271 
Total segment assets  127,306   127,979   132,504 
  Non-segment assets:
            
Cash and cash equivalents  14,768   15,739   21,228 
Short-term investments (Available for Sale)  -   2,478   2,451 
Short-term investments (Held-to-Maturity)  26,719   4,015   25,759 
Assets held for sale  237   -   - 
Other current assets  2,461   2,263   2,870 
Deferred income taxes  3,614   491   1,458 
Property, plant and equipment (3)  452   502   552 
Goodwill  27,222   11,462   13,569 
Intangible assets  10,636   1,428   4,275 
Long-term investments (Held-to-Maturity)  -   26,853   5,035 
Long-term investments (Rabbi Trust)  7,851   6,921   7,326 
Other assets  945   912   957 
Total assets $222,211  $201,043  $217,984 
        
       Six months ended    
(dollars in thousands)     October 28, 2018  October 29, 2017 
Capital expenditures (4):            
Mattress Fabrics     $1,578  $4,364 
Upholstery Fabrics      267   203 
Unallocated Corporate      -   30 
Total capital expenditures     $1,845  $4,597 
Depreciation expense:            
Mattress Fabrics     $3,644  $3,310 
Upholstery Fabrics      412   403 
Total depreciation expense     $4,056  $3,713 


I - 32
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



(1)
Our primary performance obligations include the sale of mattress fabrics, upholstery fabrics, and bedding and home accessories products, as well as the performance of customized fabrication and installation services of our own products associated with window treatments.

Contract Assets & Liabilities

Certain contracts, primarily those for customized fabrication and installation services, require upfront customer deposits that result in a contract liability which is recorded on the Consolidated Balance Sheets as deferred revenue.  If upfront deposits or prepayments are not required, customers may be granted credit terms which generally range from 15 – 45 days.  Such terms are common within the industries in which we operate and are not considered financing arrangements.  There were no contract assets recognized as of August 4, 2019, July 29, 2018, and April 28, 2019.

A summary of the activity of deferred revenue for the three-month periods ended August 4, 2019, and July 29, 2018, follows:
    
   Three months ended    
(dollars in thousands) August 4, 2019  July 29, 2018 
Beginning balance 
$
399
  
$
809
 
Revenue recognized on contract liabilities  
(483
)
  
(742
)
Payments received for services not yet rendered  
768
   
567
 
Ending balance 
$
684
  
$
634
 

Disaggregation of Revenue


The $48.8following table presents our disaggregated revenue by segment, timing of revenue recognition, and product sales versus services rendered for the three-month period ending August 4, 2019:

Net Sales  
  Mattress  Upholstery  Home   
 (dollars in thousands)Fabrics  Fabrics  Accessories Total 
Products transferred at a point in time $38,685  $29,827  $4,302  $72,814 
                 
Services transferred over time  -   2,033   -   2,033 
                 
Total Net Sales $38,685  $31,860  $4,302  $74,847 

I-11
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The following table presents our disaggregated revenue by segment, timing of revenue recognition, and product sales versus services rendered for the three-month period ending July 29, 2018:

Net Sales
  
  Mattress  Upholstery  Home   
(dollars in thousands)
Fabrics  Fabrics Accessories Total 
Products transferred at a point in time
 $34,398  $31,821  $2,585  $68,804 
                 
Services transferred over time
  -   2,669   -   2,669 
                 
Total Net Sales
 $34,398  $34,490  $2,585  $71,473 

6.  Inventories

Inventories are carried at the lower of cost or net realizable value.  Cost is determined using the FIFO (first-in, first-out) method.

A summary of inventories follows:
          
(dollars in thousands) August 4, 2019  July 29, 2018  April 28, 2019 
Raw materials $6,467  $5,291  $5,617 
Work-in-process  2,677   2,413   2,289 
Finished goods  41,516   47,285   42,954 
  $50,660  $54,989  $50,860 

7.  Intangible Assets

A summary of intangible assets follows:
          
(dollars in thousands) August 4, 2019  July 29, 2018  April 28, 2019 
Tradenames $7,232  $7,232  $7,232 
Customer relationships, net  2,463   2,764   2,538 
Non-compete agreement, net  659   734   678 
  $10,354  $10,730  $10,448 

Tradenames

A summary of the carrying amount of our tradenames follows:
    
   Three months ended    
(dollars in thousands) August 4, 2019  July 29, 2018 
Beginning balance $7,232  $683 
Acquisition of business (note 3)  -   6,549 
Ending balance $7,232  $7,232 

I-12
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Our tradenames were determined to have an indefinite useful life and therefore, are not being amortized. However, our tradenames will be assessed annually for impairment.
Customer Relationships
A summary of the change in the carrying amount of our customer relationships follows:
   
 Three months ended   
(dollars in thousands)August 4, 2019 July 29, 2018 
Beginning balance $2,538  $2,839 
Amortization expense  (75)  (75)
Ending balance $2,463  $2,764 

Our customer relationships are amortized on a straight-line basis over useful lives ranging from nine to seventeen years.
The gross carrying amount of our customer relationships were $3.1 million at August 4, 2019, July 29, 2018, and April 28, 2019, respectively. Accumulated amortization for these customer relationships were $652,000, $351,000 and $577,000 at August 4, 2019, July 29, 2018, and April 28, 2019, respectively.
The remaining amortization expense for the next five fiscal years and thereafter follows: FY 2020 - $226,000; FY 2021 - $301,000; FY 2022 - $301,000; FY 2023 - $301,000; FY 2024 - $301,000; and Thereafter - $1,033,000.
The weighted average amortization period for our customer relationships is 8.4 years as of August 4, 2019.

Non-Compete Agreement
A summary of the change in the carrying amount of our non-compete agreement follows:
   
 Three months ended 
(dollars in thousands)August 4, 2019 July 29, 2018 
Beginning balance $678  $753 
Amortization expense  (19)  (19)
Ending balance $659  $734 

Our non-compete agreement is amortized on a straight-line basis over the fifteen-year life of the agreement.
The gross carrying amount of our non-compete agreement was $2.0 million at August 4, 2019, July 29, 2018, and April 28, 2019, respectively. Accumulated amortization for our non-compete agreement was $1.4 million at August 4, 2019, $1.3 million at July 29, 2018, and $1.4 million at April 28, 2019.
The remaining amortization expense for the next five years and thereafter follows: FY 2020 - $57,000; FY 2021 - $75,000; FY 2022 - $75,000; FY 2023 - $75,000; FY 2024 - $75,000, and Thereafter - $302,000.
The weighted average amortization period for the non-compete agreement is 8.8 years as of August 4, 2019.

I-13
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

8.  Goodwill

A summary of the change in the carrying amount of goodwill follows:
   
 Three months ended   
(dollars in thousands)August 4, 2019 July 29, 2018 
Beginning balance 
$
27,222
  
$
13,569
 
Acquisition of business (see note 3)  
-
   
13,653
 
Ending balance 
$
27,222
  
$
27,222
 

9.  Investment in Unconsolidated Joint Venture

Culp International Holdings, Ltd. (Culp International), a wholly-owned subsidiary of the company, entered into a joint venture agreement, pursuant to which Culp International owns fifty percent of Class International Holdings, Ltd. (CLIH). CLIH produces cut and sewn mattress covers, and its operations are located in a modern industrial park in northeastern Haiti, which borders the Dominican Republic. CLIH commenced production in the second quarter of fiscal 2018 and complements our mattress fabric operations with a mirrored platform that enhances our ability to meet customer demand while adding a lower cost operation to our platform.

CLIH reported net income totaling $26,000 for the three-month period ending August 4, 2019, and incurred a net loss totaling $154,000 for the three-month period ending July 29, 2018. Our equity interest in CLIH’s net income for the three-month period ending August 4, 2019, was $13,000, and our equity interest in CLIH’s net loss for the three-month period ending July 29, 2018, was $77,000.

The following table summarizes information on assets, liabilities and members’ equity of our equity method investment in CLIH:
          
 
(dollars in thousands)
 
August 4,
2019
  
July 29,
2018
  
April 28,
2019
 
Total assets 
$
3,161
  
$
3,153
  
$
3,126
 
Total liabilities 
$
120
  
$
103
  
$
111
 
Total members’ equity 
$
3,041
  
$
3,050
  
$
3,015
 

At August 4, 2019, July 29, 2018, and April 28, 2019, our investment in CLIH totaled $1.5 million, which represents the company’s fifty percent ownership interest in CLIH.

10.  Accrued Expenses

A summary of accrued expenses follows:
          
(dollars in thousands) August 4, 2019  July 29, 2018  April 28, 2019 
Compensation, commissions and related benefits 
$
3,493
  
$
3,719
  
$
4,229
 
Interest  
13
   
12
   
4
 
Other accrued expenses  
5,393
   
5,194
   
5,292
 
  
$
8,899
  
$
8,925
  
$
9,525
 

I-14
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

At August 4, 2019, we had accrued expenses totaling $8.9 million, of which $8.6 million and $333,000 were classified as current accrued expenses and long-term accrued expenses, respectively, in the accompanying Consolidated Balance Sheets. At July 29, 2018, we had accrued expenses totaling $8.9 million of which $8.2 million and $749,000 were classified as current accrued expenses and long-term accrued expenses, respectively, in the accompanying Consolidated Balance Sheets. At April 28, 2019,  we had accrued expenses totaling $9.5 million, of which $9.2 million and $333,000 were classified as current accrued expenses and long-term accrued expenses, respectively, in the accompanying Consolidated Balance Sheets.

11. Exit and Disposal Activity

On June 12, 2018, our board of directors announced the closure of our upholstery fabrics manufacturing facility located in Anderson, South Carolina. This closure was completed during the second quarter of fiscal 2019 and was due to a continued decline in demand for the products manufactured at this facility, reflecting a change in consumer style preferences.

The following summarizes our restructuring (credit) expense and restructuring related charges that were associated with the above exit and disposal activity:                                         
   
 Three months ended  
 
 (dollars in thousands)August 4, 2019
 July 29, 2018
 
Inventory markdowns 
$
-
  
$
1,565
 
Employee termination benefits  
(35
)  
451
 
Restructuring (credit) expense and restructuring related charges (1)(2)
 $ 
(35)
 $2016 

(1)The $35,000 credit was recorded to restructuring credit in the Consolidated Statements of Net Income for the three-month period ending August 4, 2019.

(2)Of the $2.0 million, $1.6 million and $451,000 were recorded to cost of sales and restructuring expense, respectively, in the Consolidated Statements of Net Income for the three-month period ending July 29, 2018.

The following summarizes the activity in accrued restructuring costs:
    
  Three months ended 
(dollars in thousands) August 4, 2019  July 29, 2018 
Beginning balance 
$
124
  
$
-
 
 Accrual established in fiscal 2019   -    451 
Payments  
(47
)
  
(6
)
Adjustments  
(35
)
  
-
 
Ending balance 
$
42
  
$
445
 

The above restructuring accrual pertains to employee termination benefits that were associated with the above exit and disposal activity.

I-15
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
12. Lines of Credit

Revolving Credit Agreement – United States

Our Credit Agreement with Wells Fargo Bank, N.A. (“Wells Fargo”) provides a revolving loan commitment of $25 million, is set to expire on August 15, 2020, and allows us to issue letters of credit not to exceed $1 million.

Interest is charged at a rate (applicable interest rate of 3.68%, 3.53%, and 3.93% at August 4, 2019, July 29, 2018, and April 28, 2019) as a variable spread over LIBOR based on our ratio of debt to EBITDA.

Outstanding borrowings are secured by a pledge of 65% of the common stock of Culp International Holdings Ltd. (our subsidiary located in the Cayman Islands), as required by the Credit Agreement. There were no borrowings outstanding under the Credit Agreement at August 4, 2019 and April 28, 2019, respectively. At July 29, 2018, we had outstanding borrowings associated with the Credit Agreement totaling $4.0 million.

At August 4, 2019, July 29, 2018, and April 28, 2019, there were $250,000 in outstanding letters of credit (all of which related to workers compensation) provided by the Credit Agreement.

Revolving Credit Agreement – China

We have an unsecured credit agreement associated with our operations in China that provides for a line of credit up to 40 million RMB ($5.8 million USD at August 4, 2019). This agreement has an interest rate determined by the Chinese government and is set to expire on January 31, 2020. There were no outstanding borrowings as of August 4, 2019, July 29, 2018, and April 28, 2019, respectively.

Subordinated Loan Payable

On February 7, 2019, eLuxury entered into a subordinated credit agreement with the owner of its noncontrolling interest which provides a revolving loan commitment of $1.0 million that expires on June 22, 2023. Interest is charged at a rate (applicable interest rate of 3.68% at August 4, 2019) as a variable spread over LIBOR based on Culp’s ratio of debt to EBITDA. There were outstanding borrowings under this agreement totaling $925,000 and $675,000 at August 4, 2019 and April 28, 2019, respectively.

Overall

Our loan agreements require, among other things, that we maintain compliance with certain financial covenants. We were in compliance with these financial covenants as of August 4, 2019.

I-16
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

13. Fair Value of Financial Instruments

ASC Topic 820 establishes a fair value hierarchy that distinguishes between assumptions based on market data (observable inputs) and the company’s assumptions (unobservable inputs). Determining where an asset or liability falls within that hierarchy depends on the lowest level input that is significant to the fair value measurement as a whole. An adjustment to the pricing method used within either level 1 or level 2 inputs could generate a fair value measurement that effectively falls in a lower level in the hierarchy. The hierarchy consists of three broad levels as follows:

Level 1 – Quoted market prices in active markets for identical assets or liabilities;

Level 2 – Inputs other than level 1 inputs that are either directly or indirectly observable, and

Level 3 – Unobservable inputs developed using the company’s estimates and assumptions, which reflect those that market participants would use.


Recurring Basis

The following table presents information about assets measured at fair value on a recurring basis:

  Fair value measurements at August 4, 2019 using: 
    
  
Quoted prices
in active markets for identical assets
  
Significant other
observable inputs
  
Significant
unobservable
inputs
    
(amounts in thousands)  Level 1  Level 2  Level 3  Total 
Assets:            
Premier Money Market Fund 
$
6,920
   
N/A
   
N/A
  
$
6,920
 
Growth Allocation Fund  
213
   
N/A
   
N/A
   
213
 
Moderate Allocation Fund  
130
   
N/A
   
N/A
   
130
 
Other  
84
   
N/A
   
N/A
   
84
 


  Fair value measurements at July 29, 2018 using: 
    
  
Quoted prices
in active markets for identical assets
  
Significant other
observable inputs
  
Significant
unobservable
inputs
    
(amounts in thousands) Level 1  Level 2  Level 3  Total 
Assets:            
Premier Money Market Fund 
$
6,749
   
N/A
   
N/A
  
$
6,749
 
Large Blend Fund  
438
   
N/A
   
N/A
   
438
 
Growth Allocation Fund  
180
   
N/A
   
N/A
   
180
 
Moderate Allocation Fund  
117
   
N/A
   
N/A
   
117
 
Other  
187
   
N/A
   
N/A
   
187
 

I-17
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

  Fair value measurements at April 28, 2019 using: 
    
  
Quoted prices
in active markets for identical assets
  
Significant other
observable inputs
  
Significant
unobservable
inputs
    
(amounts in thousands) Level 1  Level 2  Level 3  Total 
Assets:            
Premier Money Market Fund 
$
6,639
   
N/A
   
N/A
  
$
6,639
 
Growth Allocation Fund  
203
   
N/A
   
N/A
   
203
 
Moderate Allocation Fund  
127
   
N/A
   
N/A
   
127
 
Other  
112
   
N/A
   
N/A
   
112
 

The determination of where an asset or liability falls in the hierarchy requires significant judgment. We evaluate our hierarchy disclosures each quarter based on various factors and it is possible that an asset or liability may be classified differently from quarter to quarter. However, we expect that changes in classifications between different levels will be rare.

Short-Term and Long-Term Investments - Held-To-Maturity

Our investments classified as held-to-maturity consisted of investment grade U.S. corporate bonds with maturities that ranged from 2 to 2.5 years, in which these bonds have since matured during the first quarter of fiscal 2020. These investments were classified as held-to-maturity as we had the positive intent and ability to hold these investments until maturity. Our held-to-maturity investments were recorded as either current or noncurrent in our Consolidated Balance Sheets, based on contractual maturity date in relation to the respective reporting period and recorded at amortized cost.

At April 28, 2019, and July 29, 2018, our held-to-maturity investments recorded at amortized cost totaled $5.0 million and $30.8 million, respectively. The fair value of our held-to-maturity investments at April 28, 2019, and July 29, 2018, totaled $5.0 million and $30.6 million, respectively.

Our U.S. corporate bonds were classified as level 2 as they were traded over the counter within a broker network and not on an active market. The fair value of our U.S. corporate bonds was determined based on a published source that provided an average bid price. The average bid price was based on various broker prices that were determined based on market conditions, interest rates, and the rating of the respective U.S. corporate bond.

Long-Term Investments - Rabbi Trust

We have a Rabbi Trust to set aside funds for participants of our deferred compensation plan (the “Plan”) which enables the participants to credit their contributions to various investment options of the Plan. The investments associated with the Rabbi Trust consist of a money market fund and various mutual funds that are classified as available for sale.

These long-term investments are recorded at their fair values of $7.3 million, $7.7 million, and $7.1 million at August 4, 2019, July 29, 2018, and April 28, 2019, respectively. Our long-term investments had an accumulated unrealized gain of $46,000, $104,000, and $40,000 at August 4, 2019, July 29, 2018, and April 28, 2019, respectively. The fair value of our long-term investments associated with our Rabbi Trust approximates its cost basis.
I-18
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Other
The carrying amount of our cash and cash equivalents, accounts receivable, other current assets, accounts payable, and accrued expenses approximates fair value because of the short maturity of these financial instruments.

Nonrecurring Basis

At July 29, 2018, we had no assets that were required to be measured at fair value on a nonrecurring basis other than the assets acquired from eLuxury (see note 3) that were acquired at fair value:

 
 
Fair value measurements at July 29, 2018 using:
 
    
 
 
Quoted prices in
active markets
for identical
assets
  
Significant other
observable inputs
  
Significant
unobservable
inputs
    
             
(amounts in thousands) 
 
Level 1
  
Level 2
  
Level 3
  
Total
 
             
Assets:
            
             
Goodwill
  
N/A
   
N/A
  
$
13,653
  
$
13,653
 
Tradename
  
N/A
   
N/A
   
6,549
   
6,549
 
Equipment
  
N/A
   
N/A
   
2,179
   
2,179
 
Inventory
  
N/A
   
N/A
   
1,804
   
1,804
 
                 
Liabilities:
                
                 
Contingent Consideration –
                
    Earn-Out Obligation
  
N/A
   
N/A
  
$
5,600
  
$
5,600
 

The tradename was recorded at fair market value using the royalty from relief method that used significant unobservable inputs and were classified as level 3. The contingent consideration – earn-out obligation was recorded at fair market value using the Black Sholes pricing model.

Additionally, we acquired certain current assets such as accounts receivable and prepaid expenses and assumed certain liabilities such as accounts payable and accrued expenses.  Based on the nature of these items and their short maturity, the carrying amount of these items approximated their fair values. See note 3 for the final allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.

I-19
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

14.  Cash Flow Information

Interest and income taxes paid are as follows:
   
 
Three months ended     
 
(dollars in thousands)
August 4, 2019 
 
July 29, 2018 
 
Interest 
$
-
  
$
24
 
Income taxes  
1,822
   
3,223
 

15.  Net Income Per Share

Basic net income per share is computed using the weighted-average number of shares outstanding during the period.  Diluted net income per share uses the weighted-average number of shares outstanding during the period plus the dilutive effect of stock-based compensation calculated using the treasury stock method.

Weighted average shares used in the computation of basic and diluted net income per share follows:
    
    Three months ended
 
(amounts in thousands) August 4, 2019  July 29, 2018 
Weighted average common shares outstanding, basic  
12,399
   
12,510
 
Dilutive effect of stock-based compensation  
11
   
90
 
Weighted average common shares outstanding, diluted  
12,410
   
12,600
 

16.  Segment Information

Our operations are classified into three business segments: mattress fabrics, upholstery fabrics, and home accessories.  The mattress fabrics segment manufactures, sources, and sells fabrics and mattress covers primarily to bedding manufacturers. The upholstery fabrics segment develops, manufactures, sources, and sells fabrics primarily to residential and commercial furniture manufacturers. The home accessories segment is our finished products business that manufactures, sources and sells bedding accessories and home goods directly to consumers and businesses through global e-commerce and business-to-business sales channels.

We evaluate the operating performance of our segments based upon income from operations before certain unallocated corporate expenses, restructuring (credit) expense and restructuring related charges, and other non-recurring items. Cost of sales for all segments include costs to develop, manufacture, or source our products, including costs such as raw material and finished goods purchases, direct and indirect labor, overhead, and incoming freight charges.  Unallocated corporate expenses primarily represent compensation and benefits for certain executive officers, all costs associated with being a public company, and other miscellaneous expenses.  Segment assets include assets used in the operations of each segment and primarily consist of accounts receivable, inventories, property, plant and equipment, and right of use assets (see note 19 for further details). The mattress fabrics segment also includes in segment assets their assets held for sale and investment in an unconsolidated joint venture. Goodwill and intangible assets are not included in segment assets, as these assets are not used by the Chief Operating Decision Maker to evaluate the respective segment’s operating performance, to allocate resources to the individual segments, or determine executive compensation.

I-20
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Financial information for the company’s operating segments follows:
    
  Three months ended   
 
  August 4, 2019
  July 29, 2018
 
 Net sales:        
Mattress Fabrics 
$
38,685
  
$
34,398
 
Upholstery Fabrics  
31,860
   
34,490
 
Home Accessories  
4,302
   
2,585
 
  
$
74,847
  
$
71,473
 
 Gross profit:        
  Mattress Fabrics 
$
5,691
  
$
5,302
 
Upholstery Fabrics  
6,721
   
6,153
 
Home Accessories  
953
   
669
 
Total segment gross profit 
$
13,365
  
$
12,124
 
Restructuring related charges (2)  
-
   
(1,565
)
  
$
13,365
  
$
10,559
 
Selling, general, and administrative expenses        
Mattress Fabrics 
$
3,071
  
$
2,512
 
Upholstery Fabrics  
3,846
   
3,626
 
Home Accessories  
1,488
   
636
 
Unallocated corporate expenses  
2,306
   
1,259
 
  
$
10,711
  
$
8,033
 

 Income (loss) from operations:        
Mattress Fabrics                                                                                   
 $2,620  
$
2,790
 
Upholstery Fabrics                                                                                         
  2,875
   
2,527
 
Home Accessories   (535)
   33 
Unallocated corporate expenses                                                                
  (2,306)  
(1,259
)
Total segment income from operations                                            
  2,654
   
4,091
 
Restructuring credit (expense) and restructuring related charges (1) (2)            
  35
   
(2,016
)
Total income from operations                                                            
  2,689
   
2,075
 
Interest expense                                                                                     
  (9)  
(20
)
Interest income                                                                                   
  249
   
150
 
Other expense                                                                                      
  (87)  
(257
)
Income before income taxes                                                    
 $2,842  
$
1,948
 

 (1) The $35 restructuring credit represents employee termination benefits associated with the closure of our upholstery fabrics plant facility located in Anderson, SC (see note 11 for further details). The $35 restructuring credit was recorded to restructuring credit in the Consolidated Statements of Net Income for the three-month period ending August 4, 2019.

(2) The total charge of $2.0 million, represents a restructuring related charge of $1.6 million for inventory markdowns and a $451 restructuring charge for employee termination benefits associated with the closure of our upholstery fabrics plant facility in Anderson, SC. The $1.6 million restructuring related charge and the $451 restructuring charge were recorded to cost of sales and restructuring expense in the Consolidated Statements of Net Income for the three-month period ending July 29, 2018.

I-21
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Balance sheet information for the company’s operating segments follows:                         
          
 (dollars in thousands)  
 August 4, 2019
  July 29, 2018
  April 28, 2019
 
 Segment assets:         
     Mattress Fabrics         
Accounts receivable 
$
12,632
  
$
11,408
  
$
12,098
 
Inventory  
24,410
   
31,506
   
24,649
 
Assets held for sale  
100
   
-
   
-
 
Property, plant and equipment (1)  
43,211
   
48,156
   
44,266
 
Right of use assets (2)  
235
   
-
   
-
 
Investment in unconsolidated joint venture  
1,520
   
1,525
   
1,508
 
Total mattress fabrics assets  
82,108
   
92,595
   
82,521
 
 Upholstery Fabrics            
  Accounts receivable  
11,029
   
11,345
   
11,274
 
Inventory  
23,183
   
21,784
   
22,915
 
Property, plant and equipment (3)  
1,856
   
2,370
   
1,795
 
Right of use assets (4)  
3,054
   
-
   
-
 
Total upholstery fabrics assets  
39,122
   
35,499
   
35,984
 
 Home Accessories            
  Accounts receivable  
429
   
472
   
379
 
Inventory  
3,067
   
1,699
   
3,296
 
Property, plant and equipment (5)  
1,815
   
2,141
   
1,910
 
Right of use assets (6)  
1,042
   
-
   
-
 
Total home accessories assets  
6,353
   
4,312
   
5,585
 
Total segment assets  
127,583
   
132,406
   
124,090
 
 Non-segment assets:            
Cash and cash equivalents  
44,236
   
8,593
   
40,008
 
Short-term investments (Held-to-Maturity)  
-
   
30,756
   
5,001
 
Current income taxes receivable  
776
   
-
   
776
 
Other current assets  
2,578
   
3,852
   
2,849
 
Deferred income taxes  
486
   
3,721
   
457
 
Property, plant and equipment (7)  
407
   
511
   
418
 
Right of use assets (8)  
2,199
   
-
   
-
 
Goodwill  
27,222
   
27,222
   
27,222
 
Intangible assets  
10,354
   
10,730
   
10,448
 
Long-term investments (Rabbi Trust)  
7,347
   
7,671
   
7,081
 
Noncurrent income taxes receivable  
733
   
-
   
733
 
Other assets  
526
   
910
   
643
 
Total assets 
$
224,447
  
$
226,372
  
$
219,726
 
I-22
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


  Three months ended    
(dollars in thousands) August 4, 2019  July 29, 2018 
Capital expenditures (9):      
Mattress Fabrics 
$
669
  
$
1,198
 
Upholstery Fabrics  
184
   
57
 
Home Accessories  
-
   
-
 
Unallocated Corporate  
56
   
-
 
Total capital expenditures 
$
909
  
$
1,255
 
Depreciation expense:        
Mattress Fabrics 
$
1,620
  
$
1,762
 
Upholstery Fabrics  
190
   
215
 
Home Accessories  
95
   
38
 
Total depreciation expense 
$
1,905
  
$
2,015
 

(1)
The $43.2 million at August 4, 2019, represents property, plant, and equipment of $31.2 million and $12.0 million located in the U.S. and Canada, respectively. The $48.2 million at July 29, 2018, represents property, plant, and equipment of $35.1 million and $13.1 million located in the U.S. and Canada, respectively. The $44.3 million at April 28, 2019, represents property, plant, and equipment of $32.4 million and $11.9 million located in the U.S. and Canada, respectively.

(2)
The $235 at August 4, 2019, represents right of use assets located in the U.S.

(3)
The $1.9 million at August 4, 2019, represents property, plant, and equipment of $1.3 million and $548 located in the U.S. and China, respectively. The $2.4 million at July 29, 2018, represents property, plant, and equipment of $1.8 million and $616 located in the U.S. and China, respectively. The $1.8 million at April 28, 2019, represents property, plant, and equipment of $1.2 million and $591 located in the U.S. and China, respectively.

(4)
The $3.1 million at August 4, 2019, represents right of use assets of $1.8 million and $1.3 million located in China and the U.S., respectively

(5)
The $1.8 million at August 4, 2019, $2.1 million at July 29, 2018, and $1.9 million at April 28, 2019, represents property, plant and equipment located in the U.S.

(6)
The $1.0 million at August 4, 2019, represents right of use assets located in the U.S.

(7)
The $407, $511, and $418 at August 4, 2019, July 29, 2018, and April 28, 2019, respectively, represent property, plant, and equipment associated with unallocated corporate departments and corporate departments shared by our mattress fabrics, upholstery fabrics, and home accessories segments. Property, plant, and equipment associated with our corporate departments reside in the U.S.

(8)
The $2.2 million at August 4, 2019, represents right of use assets located in the U.S.

(9)
Capital expenditure amounts are stated on the accrual basis. See Consolidated Statements of Cash Flows for capital expenditure amounts on a cash basis.

I-23
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

17.  Income Taxes

Effective Income Tax Rate

We recorded income tax expense of $1.7 million, or 59.1% of income before income taxes, for the three- month period ended August 4, 2019, compared with income tax expense of $906,000, or 46.5% of income before income taxes, for the three-month period ended July 29, 2018. Our effective income tax rates for the three-month periods ended August 4, 2019, and July 29, 2018, were based upon the estimated effective income tax rate applicable for the full year after giving effect to any significant items related specifically to interim periods. The effective income tax rate can be affected over the fiscal year by the mix and timing of actual earnings from our U.S. operations and foreign subsidiaries located in China and Canada versus annual projections, as well as changes in foreign currency exchange rates in relation to the U.S. dollar.

The following schedule summarizes the principal differences between income tax expense at the U.S. federal income tax rate and the effective income tax rate reflected in the consolidated financial statements:

 2020
2019
  U.S. federal income tax rate
21.0%21.0%
  Global Intangible Low Taxed Income Tax (GILTI)
23.72.5
  Foreign income tax rate differential
10.68.3
  Tax effects of Chinese foreign exchange gains
1.32.1
  Change in estimate of U.S. valuation allowance
1.88.6
  Excess income tax deficiency related to stock-based compensation
0.81.7
  Other
(0.1)
2.3
 59.1%
46.5%

Deferred Income Taxes

Valuation Allowance
In accordance with ASC Topic 740, we evaluate our deferred income taxes to determine if a valuation allowance is required. ASC Topic 740 requires that companies assess whether a valuation allowance should be established based on the consideration of all available evidence using a “more-likely-than-not” standard, with significant weight being given to evidence that can be objectively verified. Since the company operates in multiple jurisdictions, we assess the need for a valuation allowance on a jurisdiction-by-jurisdiction basis, taking into account the effects of local tax law.

Based on our assessments at August 4, 2019, July 29, 2018, and April 28, 2019, valuation allowances against our deferred income taxes pertain to the following jurisdictions:
 
  (dollars in thousands)
 
August 4,
2019
  
July 29,
2018
  
April 28,
2019
 
  U.S. state loss carryforwards and credits
 
$
711
   
849
   
666
 
  U.S. foreign income tax credits
  
-
   
4,550
   
82
 
  $
711
   
5,399
   
748
 







I-24
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Undistributed Earnings
In accordance with ASC Topic 740, we assess whether the undistributed earnings from our foreign subsidiaries will be reinvested indefinitely or eventually distributed to our U.S. parent company. ASC Topic 740 requires that a deferred tax liability should be recorded for undistributed earnings from foreign subsidiaries that will not be reinvested indefinitely. Based on our assessment as of August 4, 2019, it is our intention not to permanently invest our undistributed earnings from our foreign subsidiaries. Also, we assess the recognition of U.S. foreign income tax credits associated with foreign withholding and income tax payments and whether it is more-likely-than-not that our foreign income tax credits will not be realized. If it is determined that any foreign income tax credits need to be recognized or it is more-likely-than-not our foreign income tax credits will not be realized, an adjustment to our provision for income taxes will be recognized at that time.

As a result of the 2017 Tax Cuts and Jobs Act, a U.S. corporation is allowed a 100% dividend received deduction for earnings and profits received from a 10% owned foreign corporation.  Therefore, a deferred tax liability will be required for withholding taxes that are incurred by our foreign subsidiaries at the time earnings and profits are distributed. As a result, at August 4, 2019, July 29, 2018, and April 28, 2019, we recorded a deferred income tax liability of $2.9 million, $2.8 million, and $3.5 million, respectively, for withholding taxes on undistributed earnings and profits from our foreign subsidiaries.

Uncertainty In Income Taxes

In accordance with ASC Topic 740, an unrecognized income tax benefit for an uncertain income tax position can be recognized in the first interim period if the more-likely-than-not recognition threshold is met by the reporting period, or is effectively settled through examination, negotiation, or litigation, or the statute of limitations for the relevant taxing authority to examine and challenge the tax position has expired. If it is determined that any of the above conditions occur regarding our uncertain income tax positions, an adjustment to our unrecognized income tax benefits will be recorded at that time.

At August 4, 2019, we had a $914,000 total gross unrecognized income tax benefit that was recorded to income taxes payable- long-term in the accompanying Consolidated Balance Sheets. At July 29, 2018, we had a $820,000 total gross unrecognized income tax benefit, of which $440,000 and $380,000 were classified as income taxes payable – long-term and non-current deferred income taxes, respectively, in the accompanying Consolidated Balance Sheets. At April 28, 2019, we had a $903,000 total gross unrecognized income tax benefit, of which $523,000 and $380,000 were classified as income taxes payable – long-term and non-current deferred income taxes respectively, in the accompanying Consolidated Balance Sheets.

At August 4, 2019, our $914,000 total gross unrecognized income tax benefit would favorably affect the income tax rate in future periods. At July 29, 2018, our $820,000 total gross unrecognized income tax benefit, included $440,000 that, if recognized, would favorably affect the income tax rate in future periods. At April 28, 2019, our $903,000 total gross unrecognized income tax benefit included $523,000 that, if recognized, would favorably affect the income tax rate in future periods.

Our gross unrecognized income tax benefit of $914,000 relates to income tax positions for which significant change is currently not expected within the next year. This amount primarily relates to double taxation under applicable income tax treaties with foreign tax jurisdictions.

I-25
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


18.  Stock-Based Compensation

Equity Incentive Plan Description

On September 16, 2015, our shareholders approved an equity incentive plan entitled the Culp, Inc. 2015 Equity Incentive Plan (the “2015 Plan”). The 2015 Plan authorizes the grant of stock options intended to qualify as incentive stock options, nonqualified stock options, stock appreciation rights, restricted stock, restricted stock units, performance units, and other equity and cash related awards as determined by our Compensation Committee. An aggregate of 1,200,000 shares of common stock were authorized for issuance under the 2015 Plan, with certain sub-limits that would apply with respect to specific types of awards that may be issued as defined in the 2015 Plan.

At August 4, 2019, there were 913,648 shares available for future equity-based grants under our 2015 plan.

Performance-Based Restricted Stock Units

Executive Management

We grant performance-based restricted stock units to certain senior executives which could earn up to a certain number of shares of common stock if certain performance targets are met over a three-fiscal year performance period as defined in the related restricted stock unit agreements. The number of shares of common stock that are earned based on the performance targets that have been achieved will be adjusted based on a market-based total shareholder return component as defined in the related restricted stock unit agreements.

Compensation cost is measured based on their fair market value on the date of grant. The fair market value per share is determined using the Monte Carlo simulation model for the market-based total shareholder return component and the closing price of our common stock for the performance-based components.

Key Employees and a Non-Employee

We grant performance-based restricted stock units which could earn up to a certain number of shares of common stock if certain performance targets are met over a three-fiscal year performance period as defined in the related restricted stock unit agreements.

Our performance-based restricted stock units granted to key employees were measured based on the fair market value (the closing price of our common stock) on the date of grant. No market-based total shareholder return component was included in these awards.

Our performance-based restricted stock units granted to a non-employee, which vested during the first quarter of fiscal 2020, were measured based on the fair market value (the closing price of our common stock) on the date when the performance criteria was met.

I-26
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


The following table summarizes information related to our grants of performance-based restricted stock units associated with certain senior executives and key employees that are currently unvested:
Date of Grant
(3)
Restricted Stock
Units Awarded
Price Per Share
Vesting Period
July 18, 2019 (1)93,653$18.49 (6)

3 years
July 18, 2019 (2)15,213$18.49 (6)

3 years
August 2, 2018 (1)86,599$18.51 (4)

3 years
August 2, 2018 (2)47,800$24.35 (6)

3 years
July 13, 2017 (1)78,195$31.85 (5)

3 years
July 13, 2017 (2)44,000$32.50 (6)

3 years
(1) Performance-based restricted stock units awarded to certain senior executives.
(2) Performance-based restricted stock units awarded to key employees.
(3) Amounts represent the maximum number of common stock shares that could be earned if certain performance targets are met as defined in the related restricted stock unit agreements.
(4) Price per share represents the fair market value per share ($0.76 per $1 or a reduction of $5.84 to the closing price of the common stock on the date of grant) determined using the Monte Carlo simulation model for the market-based total shareholder return component and the closing price of our common stock ($24.35) for the performance-based components of the performance-based restricted stock units granted to certain senior executives on August 2, 2018.
(5) Price per share represents the fair market value per share ($0.98 per $1 or a reduction of $0.65 to the closing price of the common stock on the date of grant) determined using the Monte Carlo simulation model for the market-based total shareholder return component and the closing price of our common stock ($32.50) for the performance-based components of the performance-based restricted stock units granted to certain senior executives on July 13, 2017.
(6) Price per share represents the closing price of our common stock on the date of grant.

The following table summarizes information related to our performance-based restricted stock units that vested during the three-month periods ending August 4, 2019 and July 29, 2018:
          
 
Fiscal Year
 
Restricted Stock
Units Vested
 
(3)
Fair Value
 
Weighted Average
Price
Per Share
Fiscal 2020 (1)  
9,489
  $
165
  $
17.36
(4)
Fiscal 2020 (2)  
4,148
  $
72
  $
17.36
(4)
Fiscal 2019 (1)  
128,632
  $
3,754
  $
29.19
(4) 
Fiscal 2019 (2)  
10,364
  $
320
  $
30.90
(4)

(1) Certain senior executives and key employees.
(2) Non-employee
(3) Dollar amounts are in thousands.
(4) The weighted average price per share is derived from the closing prices of our common stock on the dates the respective performance based restricted stock units vested.
I-27
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Overall
We recorded compensation expense of $68,000 and a credit to compensation expense of $506,000 within selling, general, and administrative expenses for the three-month periods ending August 4, 2019, and July 29, 2018, respectively. Compensation cost is recorded based on an assessment each reporting period of the probability that certain performance goals will be met during the vesting period. If performance goals are not probable of occurrence, compensation cost will not be recorded and any previously recognized compensation cost would be reversed.
At August 4, 2019, the remaining unrecognized compensation cost related to our performance based restricted stock units was $1.4 million, which is expected to be recognized over a weighted average vesting period of 2.7 years. At August 4, 2019, the performance based restricted stock units that were expected to vest had a fair value totaling $1.5 million.

Time Based Restricted Stock Units

The following table summarizes information related to our grants of time-based restricted stock units associated with key members of management that are currently unvested:
 
Date of Grant
 
Time Based Stock
Units Awarded
 
Price Per Share
 
 
Vesting Period
July 18, 2019 15,213 $18.49(1)

3 years
August 2, 2018 10,000 $24.35(1)

5 years
(1) Price per share represents closing price of common stock on the date the respective award was granted

The following table summarizes information related to our time-based restricted stock units that vested during the three-month periods ending August 4, 2019 and July 29, 2018:

 
  Fiscal Year
 
Restricted Stock
Units Vested
 
(1)
Fair Value
 
Weighted Average
Price
Per Share
Fiscal 2020
  
-
  $
-
   
-
 
Fiscal 2019  
1,200
  $21  $
17.36
(2)
(1) Dollar amounts are in thousands.
(2) The weighted average price per share is derived from the closing prices of our common stock on the dates the respective time-based restricted stock units vested.

I-28
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Overall

We recorded compensation expense of $16,000 and $5,000 within selling, general, and administrative expense associated with our time vested restricted stock unit awards for the three-month periods ending August 4, 2019, and July 29, 2018, respectively.
At August 4, 2019, the remaining unrecognized compensation cost related to our time vested restricted stock units was $467,000, which is expected to be recognized over a weighted average vesting period of 3.3 years. At August 4, 2019, the time vested restricted stock awards that were expected to vest had a fair value totaling $435,000.
Common Stock Award
We granted a total of 3,659 shares of common stock to our outside directors on July 1, 2019. These shares of common stock vested immediately and were measured at their fair value on the date of grant. The fair value of this award was $19.21 per share on July 1, 2019, which represents the closing price of our common stock on the date of grant.
We recorded $70,000 of compensation expense within selling, general, and administrative expense for these common stock awards for the three-months ending August 4, 2019.

19.  Leases

Overview

We lease manufacturing facilities, office space, distribution centers, and equipment under operating lease arrangements.  We determine if an arrangement is a lease at its inception if it conveys the right to control the use of identified property, plant, or equipment for a period of time in exchange for consideration.  Operating leases with an initial term of 12 months or less are not recognized in our Consolidated Balance Sheets. We recognize a right of use asset and lease liability on the commencement date of a lease arrangement based on the present value of lease payments over the lease term.

Our operating leases have remaining lease terms of 1 to 6 years, with renewal options for additional periods ranging up to 10 years.  A lease term may include renewal options if it is reasonably certain that the option to renew a lease period will be exercised. A renewal option is considered reasonably certain to be exercised if there is a significant economic incentive, as defined in Topic 842, to exercise the renewal option on the date a lease arrangement is commenced. Currently, renewal options are not included in the lease terms for any of our leases, as there is not a significant economic incentive for us to exercise any of our renewal options.

Most of our leases do not provide an implicit interest rate, and as a result, we use our incremental borrowing rate based on information available on the commencement date of a lease arrangement in determining the present value of lease our payments.
I-29
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Balance Sheet
The right of use asset and lease liabilities associated with our operating leases as of August 4, 2019, and April 29, 2019, are as follows:
       
 
(dollars in thousands)
 
August 4, 2019
  
(1)
April 29, 2019
 
Right of use asset 
$
6,530
  
$
7,191
 
Operating lease liability - current  
2,456
   
2,629
 
Operating lease liability – noncurrent  
3,955
   
4,473
 

(1)
Represents adoption date of Topic 842.
Supplemental Cash Flow Information
   
 
Three Months
Ended
 
(dollars in thousands)August 4, 2019 
Operating lease liability payments    
 
$
657
 

    
Right of use assets exchanged for lease liabilities  
  
-
 


Operating lease expense for the three-months ended August 4, 2019, was $719,000. Short-term lease and variable lease expenses were immaterial for the three-months ended August 4, 2019.

Other Information

Maturity of our operating lease liabilities for the remainder of fiscal 2020, the subsequent next four fiscal years, and thereafter follows:
    
(dollars in thousands)   
 
2020
 
$
2,025
 
2021  
2,044
 
2022  
1,096
 
2023  
683
 
2024  
659
 
Thereafter  
346
 
  
$
6,853
 
Less: interest  
(442
)
Present value of lease liabilities 
$
6,411
 


I-30
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


As of August 4, 2019, the weighted average remaining lease term and discount rate for our operating leases follows:
 (dollars in thousands)August 4, 2019
 Weighted average lease term
3.5 years
 Weighted average discount rate
3.82
%

20.   Commitments and Contingencies

Litigation

The company is involved in legal proceedings and claims which have arisen in the ordinary course of business. Management has determined that it is not reasonably possible that these actions, when ultimately concluded and settled, will have a material adverse effect upon the financial position, results of operations, or cash flows of the company.

Accounts Payable – Capital Expenditures

At August 4, 2019, July 29, 2018, and April 28, 2019, we had total amounts due regarding capital expenditures totaling $60,000, $862,000, and $78,000, respectively, which pertained to outstanding vendor invoices, none of which were financed. These total outstanding amounts were required to be paid based on normal credit terms.

Purchase Commitments – Capital Expenditures

At August 4, 2019, we had open purchase commitments to acquire equipment for our mattress fabrics segment totaling $1.5 million.

21. Statutory Reserves
Our subsidiaries located in China are required to transfer 10% of their net income, as determined in accordance with the People’s Republic of China (PRC) accounting rules and regulations, to a statutory surplus reserve fund until such reserve balance reaches 50% of the company’s registered capital.
The transfer to this reserve must be made before distributions of any dividend to shareholders. As of August 4, 2019, the company’s statutory surplus reserve was $4.2 million, representing 10% of accumulated earnings and profits determined in accordance with PRC accounting rules and regulations. The surplus reserve fund is non-distributable other than during liquidation and can be used to fund previous years’ losses, if any, and may be utilized for business expansion or converted into share capital by issuing new shares to existing shareholders in proportion to their shareholding or by increasing the par value of the shares currently held by them provided that the remaining reserve balance after such issue is not less than 25% of the registered capital.
Our subsidiaries located in China can transfer funds to the parent company excerpt for the statutory surplus reserve of $4.2 million to assist with debt repayment, capital expenditures, and other expenses of the company’s business.
I-31
Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

22.  Common Stock Repurchase Program
On June 15, 2016, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock. During the three-month period ended August 4, 2019, we did not purchase any shares of our common stock. At August 4, 2019, we had $1.7 million available for repurchases of our common stock associated with the $5.0 million repurchase program approved by our board of directors on June 15, 2016.
On September 5, 2019, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock. Under the common stock repurchase program, shares may be purchased from time to time in open market transactions, block trades, through plans established under the Securities Exchange Act Rule 10b5-1, or otherwise. The number of shares purchased and the timing of such purchases will be based on working capital requirements, market and general business conditions, and other factors, including alternative investment opportunities.

23.  Dividend Program

On September 5, 2019, we announced that our board of directors approved a quarterly cash dividend of $0.10 per share. This payment will be made on or about October 15, 2019, to shareholders of record as of October 4, 2019.

During the three-months ended August 4, 2019, dividend payments totaled $1.2 million, which represented a quarterly dividend payment of $0.10 per share. During three-months ended July 29, 2018, dividend payments totaled $1.1 million, which represented a quarterly dividend payment of $0.09 per share.

Future dividend payments are subject to board approval and may be adjusted at the board’s discretion as business needs or market conditions change.
I-32
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING INFORMATION

This report and the exhibits attached hereto contain “forward-looking statements” within the meaning of the federal securities laws, including the Private Securities Litigation Reform Act of 1995 (Section 27A of the Securities Act of 1933 and Section 21E of the Securities and Exchange Act of 1934).  Such statements are inherently subject to risks and uncertainties that may cause actual events and results to differ materially from such statements.  Further, forward looking statements are intended to speak only as of the date on which they are made, and we disclaim any duty to update or alter such statements to reflect any changes in management’s expectations or any change in the assumptions or circumstances on which such statements are based, whether due to new information, future events, or otherwise. Forward-looking statements are statements that include projections, expectations, or beliefs about future events or results or otherwise are not statements of historical fact.  Such statements are often but not always characterized by qualifying words such as “expect,” “believe,” “anticipate,” “estimate,” “plan,” “project,” and their derivatives, and include but are not limited to statements about expectations for our future operations, production levels, new product launches, sales, profit margins, profitability, operating income, capital expenditures, working capital levels, income taxes, SG&A or other expenses, pre-tax income, earnings, cash flow, and other performance or liquidity measures, as well as any statements regarding potential acquisitions, future economic or industry trends, or future developments.  There can be no assurance that the company will realize these expectations, meet its guidance, or that these beliefs will prove correct.

Factors that could influence the matters discussed in such statements include the level of housing starts and sales of existing homes, consumer confidence, trends in disposable income, and general economic conditions. Decreases in these economic indicators could have a negative effect on our business and prospects. Likewise, increases in interest rates, particularly home mortgage rates, and increases in consumer debt or the general rate of inflation, could affect us adversely. The future performance of our business depends in part on our success in conducting and finalizing acquisition negotiations and integrating acquired businesses into our existing operations.  Changes in consumer tastes or preferences toward products not produced by us could erode demand for our products. Changes in tariffs or trade policy, or changes in the value of the U.S. dollar versus other currencies, could affect our financial results because a significant portion of our operations are located outside the United States. Strengthening of the U.S. dollar against other currencies could make our products less competitive on the basis of price in markets outside the United States, and the strengthening of currencies in Canada and China can have a negative impact on our sales of products produced in those places. Also, economic and political instability in international areas could affect our operations or sources of goods in those areas, as well as demand for our products in international markets. In addition, the impact of potential goodwill or intangible asset impairments could affect our financial results. Finally, increases in market prices for petrochemical products can significantly affect the prices we pay for raw materials, and in turn, increase our operating costs and decrease our profitability. Further information about these factors, as well as other factors that could affect our future operations or financial results and the matters discussed in forward-looking statements, are included in Item 1A “Risk Factors” section in our Form 10-K filed with the Securities and Exchange Commission on July 12, 2019, for the fiscal year ended April 28, 2019, and our subsequent periodic reports filed with the Securities and Exchange Commission.



I-33
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following analysis of financial condition and results of operations should be read in conjunction with the Financial Statements and Notes and other exhibits included elsewhere in this report.

General

Our fiscal year is the 52 or 53-week period ending on the Sunday closest to April 30. The three months ended August 4, 2019, and July 29, 2018, represent 14-week and 13-week periods, respectively. Our operations are classified into three business segments: mattress fabrics, upholstery fabrics, and home accessories. The mattress fabrics segment manufactures, sources, and sells fabrics and mattress covers primarily to bedding manufacturers. We have wholly owned mattress fabric operations located in Stokesdale, NC, High Point, NC, and Quebec, Canada, and a fifty-percent owned cut and sew mattress cover operation located in Haiti. The upholstery fabrics segment develops, sources, manufactures, and sells fabrics primarily to residential and commercial furniture manufacturers. We have wholly owned upholstery fabric operations located in Shanghai, China, and Burlington, NC. With the acquisition of Read Window Products, LLC (Read) late in fiscal 2018, we now have a wholly owned company located in Knoxville, TN, that provides window treatments and sourcing of upholstery fabrics and other products, as well as measuring and installation services of Read’s own products to customers in the hospitality and commercial industries. The company operated an upholstery fabrics plant in Anderson, SC during the first quarter of fiscal 2019, which has since been closed during the second quarter of fiscal 2019.  The home accessories segment is the company’s new finished products business that manufactures, sources, and sells bedding accessories and home goods directly to consumers and businesses through global e-commerce and business-to-business sales channels.  Through our June 22, 2018, investment in eLuxury, LLC (eLuxury), we now have a majority owned company located in Evansville, IN which operates the global e-commerce platform for the home accessories segment.

We evaluate the operating performance of our segments based upon income from operations before certain unallocated corporate expenses, restructuring expense (credit) and related charges, and other non-recurring items. Cost of sales in each segment includes costs to develop, manufacture, or source our products, including costs such as raw material costs and finished goods purchases, direct and indirect labor, overhead and incoming freight charges. Unallocated corporate expenses primarily represent compensation and benefits for certain executive officers, all costs associated with being a public company, and other miscellaneous expenses.

I-34

Executive Summary

Results of Operations

  Three Months Ended    
(dollars in thousands)
 August 4, 2019  July 29, 2018  Change 
Net sales
 
$
74,847
  
$
71,473
   
4.7
%
Gross profit
  
13,365
   
10,559
   
26.6
%
Gross profit margin
  
17.9
%
  
14.8
%
  
310
bp
SG&A expenses
  
10,711
   
8,033
   
33.3
%
Income from operations
  
2,689
   
2,075
   
29.6
%
Operating margin
  
3.6
%
  
2.9
%
  
70
bp
Income before income taxes
  
2,842
   
1,948
   
45.9
%
Income taxes
  
1,681
   
906
   
85.5
%
Net income
  
1,174
   
965
   
21.7
%
Net income attributable to
Culp Inc common shareholders
  
1,338
   
957
   
39.8
%

Net Sales

Overall, our net sales for the first quarter of fiscal 2020 increased by 4.7% compared with the same period a year ago, with mattress fabric sales increasing 12.5% and upholstery fabric sales declining 7.6%.  Net sales for our home accessories segment were $4.3 million compared with $2.6 million for the partial first quarter period of fiscal 2019, which commenced in the middle of the quarter with the June 22, 2018, investment in eLuxury.   Net sales for the home accessories segment were comparable to the fourth and third quarters of fiscal 2019.

The first quarter of fiscal 2020 had 14 weeks compared to 13 weeks for the first quarter of fiscal 2019.  With respect to the home accessories segment, the first quarter of fiscal 2020 had 14 weeks compared to six weeks for the partial first quarter period of fiscal 2019.

The increase in mattress fabrics net sales reflects an additional week of sales for the quarter, as well as a strong performance from CLASS, our sewn mattress cover business, and increased customer demand for our woven mattress fabrics.

The decline in upholstery fabric net sales for the quarter primarily relates to the continued soft retail environment for retail furniture, as well as ongoing issues surrounding international trade agreements and the associated tariffs. It also reflects a loss in sales resulting from the closure of our Anderson, SC facility, that was completed in the second quarter of fiscal 2019. 

The first quarter net sales for our new home accessories business segment, which includes our June 2018 majority investment in eLuxury, reflect reduced demand for legacy bedding products.
See the Segment Analysis section below for further details.

I-35
Income Before Income Taxes
Overall, our income before income taxes was $2.8 million, compared with $1.9 million for the prior-year period.  Income before income taxes for the first quarter of the prior fiscal year was affected by non-recurring restructuring and related charges of $2.0 million related to the company’s closure of the Anderson, South Carolina, production facility, while results for the first quarter of fiscal 2020 included a non-recurring restructuring credit of approximately $35,000 related to certain employee termination benefits.
Operating performance for the first quarter of fiscal 2020 was affected by operating income pressures in the mattress fabrics segment related primarily to lower demand for our more profitable knitted mattress fabrics products, resulting in reduced production schedules, as well as higher employee-related costs. In addition, the home accessories segment was affected by reduced demand for eLuxury’s legacy bedding products and increased marketing fees and promotional expenses. These pressures were offset somewhat by an improved operating performance in the upholstery fabrics segment as a result of a more profitable product mix and more favorable foreign currency exchange rates associated with our operations located in China compared with the same period a year ago.
Additionally, unallocated corporate SG&A expense was significantly higher this quarter as compared to the prior year due primarily to adjustments that occurred in the first quarter of fiscal 2019 that lowered share-based compensation expense.
See the Segment Analysis section below for further details.
Income Taxes

The effective income tax rate for the first quarter of fiscal 2020 was 59.1% compared with 46.5% for the same period a year ago. The increase reflects the continued shift in the mix of our taxable income that is now mostly earned by our foreign operations located in China and Canada at higher income tax rates in relation to the U.S. Additionally, this current mix of our taxable income has resulted in a significant increase in our Global Intangible Low Taxed Income (GILTI) Tax, which represents a U.S. income tax on our foreign earnings. Importantly, income taxes incurred in the U.S. on a cash basis for fiscal 2020 are expected to be minimal due to the projected utilization of our U.S. Federal net operating loss carryforwards.

Refer to note 17 located in the notes to the consolidated financial statements for further details regarding our provision for income taxes.

Liquidity

At August 4, 2019, our cash and investments (which comprise cash and cash equivalents and short-term investments (held-to-maturity)) totaled $44.2 million compared with $45.0 million at April 28, 2019. This slight decrease from the end of fiscal 2019 was primarily due to a regular quarterly dividend payment of $1.2 million, $935,000 for capital expenditures that were mostly associated with our mattress fabrics segment, and $763,000 for a final cash payment of an acquisition, partially offset by net cash provided by operating activities totaling $2.0 million.
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Our net cash provided by operating activities was $2.0 million during the first quarter of fiscal 2020, improved from a $2.0 million use of cash from operating activities during the first quarter of fiscal 2019. This improvement is due mostly to higher cash flow from earnings and improved working capital management during the first quarter of fiscal 2020 compared with the same period a year ago.

At August 4, 2019, our borrowings totaling $925,000 related to our subordinated loan payable between eLuxury and its minority owner.

Dividend Program

On September 5, 2019, we announced that our board of directors approved a quarterly cash dividend of $0.10 per share. This payment will be made on or about October 15, 2019, to shareholders of record as of October 4, 2019.

During the first quarter of fiscal 2020, dividend payments totaled $1.2 million, which represented a quarterly dividend payment of $0.10 per share. During first quarter of fiscal 2019, dividend payments totaled $1.1 million, which represented a quarterly dividend payment of $0.09 per share.

Common Stock Repurchase Program
On June 15, 2016, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock. During the three-month period ended August 4, 2019, we did not purchase any shares of our common stock. At August 4, 2019, we had $1.7 million available for repurchases of our common stock associated with the $5.0 million repurchase program approved by our board of directors on June 15, 2016.

On September 5, 2019, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock.

Segment Analysis

Mattress Fabrics Segment

  Three Months Ended    
(dollars in thousands)
 August 4, 2019  July 29, 2018  Change 
          
Net sales
 
$
38,685
  
$
34,398
   
12.5
%
Gross profit
  
5,691
   
5,302
   
7.3
%
Gross profit margin
  
14.7
%
  
15.4
%
  
(70
)bp
SG&A expenses
  
3,071
   
2,512
   
22.3
%
Income from operations
  
2,620
   
2,790
   
(6.1
)%
Operating margin
  
6.8
%
  
8.1
%
  
(130
)bp

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Net Sales

The increase in mattress fabrics net sales reflects a 14-week period in the first quarter of fiscal 2020 compared to a 13-week period in the first quarter of fiscal 2019, as well a higher customer demand for sewn mattress covers from our CLASS business and for woven mattress fabrics.

We benefitted from the growing demand for mattress covers from customers in the expanding roll-packed (boxed) bedding space.  We have diversified our customer base in this market segment, and we are encouraged by additional opportunities with existing and new customers.  Our flexible, global platform, including out production locations in the U.S., Haiti, and China, supports this diversification strategy.

Following a difficult year of declining sales related to the influx of low-cost mattress imports from China, as well as retail disruption, the domestic mattress industry appears to be stabilizing, and we are realizing some benefits from the punitive anti-dumping measures announced by the U.S. Department of Commerce early in the first quarter.  We expect business conditions will continue improving with the further sell-through of excess inventory of China mattress imports, as well as customers continuing to alter their supply chains away from China.  Nevertheless, it remains uncertain as to when demand trends will return to previous levels.

Gross Profit and Operating Income

Although our net sales increased over the first quarter of fiscal 2019 as noted above, our operating profits declined compared with the same period a year ago, due primarily to temporary lower demand for our more profitable knitted products as customers absorbed existing inventory, resulting in reduced production schedules.  We also incurred increases in certain employee-related costs.

Looking forward to the second quarter of fiscal 2020, we believe business conditions are stabilizing and will result in improved performance as we continue to rationalize production in the most cost-effective locations.  Additionally, our sustainable and efficient manufacturing platform with enhanced capacity and distribution capabilities continues to provide the flexibility and scalability necessary to serve our customers in a changing global environment.


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Segment assets

Segment assets consist of accounts receivable, inventory, assets held for sale, property, plant and equipment, right of use assets, and investment in an unconsolidated joint venture.

 
(dollars in thousands)
 
August 4,
2019
  
July 29,
2018
  
April 28,
2019
 
Accounts receivable
 
$
12,632
  
$
11,408
  
$
12,098
 
Inventory
  
24,410
   
31,506
   
24,649
 
Assets held for sale
  
100
   
-
   
-
 
Property, plant & equipment
  
43,211
   
48,156
   
44,266
 
Right of use assets
  
235
   
-
   
-
 
 Investment in unconsolidated joint venture  
1,520
   1,525
   1,508
 
  
$
82,108
  
$
92,595
  
$
82,521
 

Refer to note 16 located in the notes to the consolidated financial statements for disclosures regarding determination of our segment assets.

Accounts Receivable

As of August 4, 2019, accounts receivable increased by 10.7%, compared with July 29, 2018. This increase primarily reflects the increase in net sales of 12.5% during the first quarter noted above.

As of August 4, 2019, accounts receivable increased by 4.4%, compared with April 28, 2019. This increase primarily reflects an increase in net sales during the first quarter of fiscal 2020 compared with the fourth quarter of fiscal 2019. Net sales during the first quarter of fiscal 2020 were $38.7 million, an increase of 2.5%, compared with $37.7 million during the fourth quarter of fiscal 2019.

Inventory

As of August 4, 2019, inventory decreased by $7.1 million, or 22.5%, compared with July 29, 2018. During the first quarter of fiscal 2019, inventory significantly increased due to purchases in excess of actual demand trends that were much lower than anticipated as a result of the rapid growth of low-priced imported mattresses from China. Subsequently, management aligned our inventory purchases to reflect this lower demand, and therefore, was able to subsequently reduce our inventory levels.

As of August 4, 2019, inventory was comparable with April 28, 2019.

Property, Plant & Equipment

As of August 4, 2019, property plant, and equipment decreased in comparison to July 29, 2018, and April 28, 2019. This trend represents a decrease in capital expenditure requirements and a progression toward a more maintenance level of spending on our machinery and equipment.
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The $43.2 million at August 4, 2019, represents property, plant, and equipment of $36.1$31.2 million and $12.7$12.0 million located in the U.S. and Canada, respectively. The $50.0$48.2 million at OctoberJuly 29, 2017,2018, represents property, plant, and equipment of $35.8$35.1 million and $14.2$13.1 million located in the U.S. and Canada, respectively. The $48.8$44.3 million at April 29, 2018, represents property, plant, and equipment of $35.4$32.4 million and $13.4$11.9 million located in the U.S. and Canada, respectively.

Right of Use Assets

As of August 4, 2019, our right of use assets balance reflects the adoption of ASU No. 2016-02, Leases (Topic 842). See notes 2 and 19 located in the notes to the consolidated financial statements for further details. The $235,000 represents right of use assets located in the U.S.

Investment in Unconsolidated Joint Venture

Our investment in unconsolidated joint venture represents our fifty percent ownership of Class International Holdings Ltd. (See note 9 to the consolidated financial statements for further details).

Upholstery Fabrics Segment

Net Sales

  Three Months Ended        
 
(dollars in thousands)
 
August 4,
2019
     
July 29,
2018
     
% Change
 
                
Non-U.S. Produced
 
$
29,630
   
93
%
 
$
30,368
   
88
%
  
(2.4
)%
U.S. Produced
  
2,230
   
7
%
  
4,122
   
12
%
  
(45.9
)%
Total
 
$
31,860
   
100
%
 
$
34,490
   
100
%
  
(7.6
)%

Net sales in this segment decreased in the first quarter of fiscal 2020 as compared to the same period a year ago, in line with expectations. The first quarter of fiscal 2020 had 14 weeks compared to 13 weeks for the first quarter of fiscal 2019.

The drop in net sales for this segment reflects the continued soft retail environment for residential furniture, as well as ongoing issues surrounding international trade agreements and associated tariffs.  This unstable environment has disrupted supply chains throughout the furniture industry. Additionally, the drop in U.S. produced sales reflects the closure of our Anderson, SC, facility in the second quarter of fiscal 2019, such that net sales for the first quarter of fiscal 2019 included sales from the Anderson facility, whereas there were no such sales in the first quarter of fiscal 2020.
In spite of these challenges, we aggressively pursued our product-driven strategy and remained focused on the diversification of our customer base.  Our ability to provide a diverse product offering has allowed us to reach new market segments and expand our customer base in both the residential and hospitality markets.  Read Window Products, our window treatment and installation services business, has supported our ability to expand our reach in the hospitality market. We also continue to see favorable demand trends from our residential furniture customers for our popular line of LiveSmart® performance fabrics.  During the first quarter of fiscal 2020, we also expanded the LiveSmart® brand with the introduction of LiveSmart Evolve™, a new line of fabrics featuring the same performance technology with the use of recycled fibers to deliver a sustainable textile product.  The LiveSmart Evolve™ launch has been well received in recent showings and confirms our ongoing commitment to environmental responsibility.
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Currently, the uncertainties surrounding additional proposed tariffs and the associated geopolitical risks make it difficult to forecast the potential impact on our business.  We expect the soft retail demand trends for furniture, as well as the ongoing tariff uncertainties, to continue at least through the second quarter of fiscal 2020.

Gross Profit, Selling, General & Administrative Expenses, and Operating Income

  Three Months Ended    
(dollars in thousands) August 4, 2019  July 29, 2018  Change 
          
Gross profit
 
$
6,721
  
$
6,153
   
9.2
%
Gross profit margin
  
21.1
%
  
17.8
%
  
330
bp
SG&A expenses
  
3,846
   
3,626
   
6.1
%
Income from operations
  
2,875
   
2,527
   
13.8
%
Operating margin
  
9.0
%
  
7.3
%
  
170
bp
Restructuring related charges
  
-
   
1,565
   
(100.0
)%

Our improved operating performance for the first quarter of fiscal 2020 reflects a more profitable product mix and more favorable foreign currency exchange rates associated with our operations located in China, leading to higher gross profit and operating margin.

Exit and Disposal Activity

On June 12, 2018, our board of directors announced the closure of our upholstery fabrics manufacturing facility located in Anderson, South Carolina. This closure was completed during the second quarter of fiscal 2019 and was due to a continued decline in demand for the products manufactured at this facility, reflecting a change in consumer style preferences.

The following summarizes our restructuring (credit) expense and restructuring related charges that were associated with the above exit and disposal activity:
       
   Three months ended    
(dollars in thousands) August 4, 2019  July 29, 2018 
Inventory markdowns $-  $1,565 
Employee termination benefits  (35)  451 
  Restructuring (credit) expense and restructuring related charges (1) (2)
 $(35) $2,016

(1)The $35,000 credit was recorded to restructuring credit in the Consolidated Statements of Net Income for the three-month period ending August 4, 2019.

(2)Of the $2.0 million, $1.6 million and $451,000 were recorded to cost of sales and restructuring expense, respectively, in the Consolidated Statements of Net Income for the three-month period ending July 29, 2018.

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The $2.0following summarizes the activity in accrued restructuring costs:
       
   Three months ended    
(dollars in thousands) August 4, 2019  July 29, 2018 
Beginning balance 
$
124
  
$
-
 
 Accrual established in fiscal 2019   -   451
 
Payments  
(47
)
  
(6
)
Adjustments  
(35
)
  
-
 
Ending balance 
$
42
  
$
445
 

The above restructuring accrual pertains to employee termination benefits that were associated with the above exit and disposal activity.

Segment Assets

Segment assets consist of accounts receivable, inventory, property, plant, and equipment, and right of use assets.

 
(dollars in thousands)
 
August 4,
2019
  
July 29,
2018
  
April 28,
2019
 
Accounts receivable
 
$
11,029
  
$
11,345
  
$
11,274
 
Inventory
  
23,183
   
21,784
   
22,915
 
Property, plant & equipment
Right of use assets
  
1,856
3,054
   
2,370
-
   
1,795
-
 
  
$
39,122
  
$
35,499
  
$
35,984
 

Refer to note 16 located in the notes to the consolidated financial statements for disclosures regarding determination of our segment assets.

Accounts Receivable

As of August 4, 2019, accounts receivable was comparable with July 29, 2018, and April 28, 2019.

Inventory

As of August 4, 2019, inventory increased $1.4 million or 6.4%, compared with July 29, 2018. The increase in inventory stems from increased tariffs.

As of August 4, 2019, inventory was comparable with April 28, 2019.

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Property, Plant, & Equipment

The $1.9 million at October 28, 2018,August 4, 2019, represents property, plant, and equipment of $1.4$1.3 million and $636 located in the U.S. and China, respectively. The $2.1 million at October 29, 2017, represents property, plant, and equipment of $1.4 million and $722$548,000 located in the U.S. and China, respectively. The $2.4 million at AprilJuly 29, 2018, represents property, plant, and equipment of $1.8 million and $661$616,000 located in the U.S. and China, respectively. The $1.8 million at April 28, 2019, represents property, plant, and equipment of $1.2 million and $591,000 located in the U.S. and China, respectively.

Right of Use Assets

As of August 4, 2019, our right of use assets balance reflects the adoption of ASU No. 2016-02, Leases (Topic 842). See notes 2 and 19 located in the notes to the consolidated financial statements for further details. The $3.1 million represents right of use assets of $1.8 million and $1.3 million located in China and the U.S., respectively.

Home Accessories Segment

  Three Months Ended    
(dollars in thousands)
 August 4, 2019  July 29, 2018  Change 
          
Net sales
 
$
4,302
  
$
2,585
   
66.4
%
Gross profit
  
953
   
669
   
42.5
%
Gross profit margin
  
22.2
%
  
25.9
%
  
(370
)bp
SG&A expenses
  
1,488
   
636
   
134.0
%
             
(Loss) income from operations
  
(535
)
  
33
  N.M. 
             
Operating margin
  
(12.4
)%
  
1.3
%
 N.M. 

Net Sales, Gross Profit, and Operating (Loss) Income

This segment, which includes our June 2018 majority investment in eLuxury, represents our e-commerce and finished products business offering bedding accessories and home goods.  The combined platform for this new segment supports sales of finished products to both consumers and businesses through global e-commerce and business-to-business sales channels.

For our home accessories segment, the first quarter of fiscal 2020 had 14 weeks, compared to six weeks for the first quarter of fiscal 2019 as a result of the June 22, 2018 investment in eLuxury.  Net sales for this segment in the first quarter of fiscal 2020 were $4.3 million, compared with $2.6 million in net sales for the partial first quarter period of fiscal 2019.  Net sales for the home accessories segment were comparable to the third and fourth quarters of fiscal 2019.
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The operating loss for our home accessories segment was in line with expectations, and comparable to the operating loss in the third and fourth quarters of fiscal 2019.  The results reflect reduced demand for legacy bedding products and increased marketing fees and promotional expenses.  These challenges unfavorably affected our financial results for the first quarter.

Our strategic focus for the segment is to develop innovative bedding products and other home accessory items through our global manufacturing platform and in coordination with all of Culp’s other divisions.  We are refining this business model with a more aggressive and strategic focus on the business-to-business market, along with greater customer diversification and new online retail marketplaces.  We also remain committed to improving the performance of legacy product lines for this segment.  In tandem with these strategies, we are continuing to develop new products featuring Culp mattress fabrics and upholstery fabrics that we plan to market through this new sales channel.

In accordance with ASC Topic 350, we assess goodwill for impairment at the end of each fiscal year or between annual tests if events or changes in circumstances indicate the carrying value of the asset may not be recovered. Such indicators include, but are not limited to, market conditions, operating results, competition, and general economic conditions. Identifying and assessing whether such impairment indicators exist, or if events or changes in circumstances have occurred, requires significant judgment. At August 4, 2019, management determined that no impairment indicators existed for our home accessories segment. Management will continue to carefully review whether impairment indicators exist each quarter. If we are not successful with our refined business model and strategic focus discussed above, we may determine that impairment indicators exist, which could result in possible future write-downs in accordance with our policy.

eLuxury

Effective June 22, 2018, we entered into an Equity Purchase Agreement (Equity Agreement) in which we acquired an initial 80% ownership interest in eLuxury, a company that offers bedding accessories and home goods directly to consumers. eLuxury’s primary products include a line of mattress pads manufactured at eLuxury’s facility located in Evansville, Indiana. eLuxury also offers handmade platform beds, cotton bed sheets, as well as other bedding items. Its products are available on eLuxury’s own branded website, eLuxury.com, Amazon, and other leading online retailers for specialty home goods.

This acquisition brings together eLuxury’s experience in e-commerce, online brand building, and direct-to-consumer shopping and fulfillment expertise with our global production, sourcing, and distribution capabilities.

The estimated consideration given for the initial 80% ownership interest in eLuxury totaled $18.1 million, of which $12.5 million represents the estimated purchase price and $5.6 million represents the fair value for contingent consideration associated with an earn-out obligation (see below for further details). Of the $12.5 million estimated purchase price, $11.6 million was paid at closing on June 22, 2018, $185,000 was paid in August 2018, and $749,000 is to be paid in September 2019, subject to certain conditions as defined in the Equity Agreement.

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Assets Acquired and Liabilities Assumed

The following table presents the final allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.
    
(dollars in thousands) Fair Value 
Goodwill $13,653 
Tradename  6,549 
Equipment  2,179 
Inventory  1,804 
Accounts receivable and other current assets  108 
Accounts payable  (1,336)
Accrued expenses  (295)
Non-controlling interest in eLuxury  (4,532)
  $18,130 

We recorded the tradename at fair market value based on the relief from royalty method. This tradename was determined to have an indefinite useful life and, therefore, is not being amortized. Equipment will be depreciated on a straight-line basis over useful lives ranging from five to ten years.

The goodwill related to this acquisition is attributable to eLuxury’s reputation with the products it offers and management’s experience in e-commerce, online brand building, and direct-to-consumer shopping and fulfillment expertise. Goodwill is deductible for income tax purposes over the statutory period of fifteen years.

As mentioned above, the Equity Agreement contains a contingent consideration arrangement that requires us to pay the seller, who is also the owner of the noncontrolling interest, an earn-out payment based on a multiple of adjusted EBITDA, as defined in the Equity Agreement, for the twelve-month period ending August 31, 2021, less $12.0 million. We recorded a contingent liability at the acquisition date for this earn-out obligation at its fair value totaling $5.6 million based on the Black Scholes pricing model.

Non-Controlling Interest

The Equity Agreement contains substantive profit-sharing arrangement provisions which explicitly state the ownership interests at the effective date of this business combination and the allocation of net income or loss between Culp Inc., as the controlling interest, and the noncontrolling interest. The Equity Agreement states that at the effective date of this acquisition (June 22, 2018), we acquired an 80% ownership interest in eLuxury with the seller retaining a 20% noncontrolling interest. Additionally, the Equity Agreement states that eLuxury’s net income or loss and future capital contributions will be allocated, at a percentage of 70% and 30% to Culp Inc. and the noncontrolling interest, respectively.
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Based on the terms of the Equity Agreement, we believe the related risks associated with the ownership interests are aligned and therefore, the total consideration of $18.1 million for the 80% controlling interest provides information for the equity value of eLuxury as a whole, and is useful in estimating fair value of the 20% noncontrolling interest. In order to determine the carrying value of the noncontrolling interest in eLuxury, we applied the Hypothetical-Liquidation-At-Book-Value method (HLBV). HLBV is an approach that is used in practice to determine the carrying value of a noncontrolling interest if it is consistent with an existing profit-sharing arrangement such as the Equity Agreement. Therefore, the carrying amount of the noncontrolling interest of $4.2 million at August 4, 2019, mostly represents the $4.5 million fair value determined at the acquisition date minus its allocation of net loss subsequent to the acquisition date and through the end of our first quarter of fiscal 2020.

Other

Acquisitions costs totaling $270,000 were included in selling, general, and administrative expenses in our Consolidated Statement of Net Income for the three-month period ending July 29, 2018.

Segment Assets

Segment assets consist of accounts receivable, inventory, property, plant, and equipment, and right of use assets.

 
(dollars in thousands)
 
August 4,
2019
  
July 29,
2018
  
April 28,
2019
 
Accounts receivable
 
$
429
  
$
472
  
$
379
 
Inventory
  
3,067
   
1,699
   
3,296
 
Property, plant & equipment
  
1,815
   
2,141
   
1,910
 
 Right of use assets  1,042
    -    - 
  
$
6,353
  
$
4,312
  
$
5,585
 

Refer to note 16 located in the notes to the consolidated financial statements for disclosures regarding determination of our segment assets.

Accounts Receivable

As of August 4, 2019, accounts receivable were comparable with July 29, 2018, and April 28, 2019.

Inventory

As of August 4, 2019, inventory increased $1.4 million, or 80.5%, compared with July 29, 2018. The increase in inventory represents the start-up of our home accessories segment and acquisition of eLuxury that occurred during our first quarter of fiscal 2019.

As of August 4, 2019, inventory was comparable with April 28, 2019.
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Property, Plant, & Equipment

The $1.8 million at August 4, 2019, $2.1 million at July 29, 2018, and $1.9 million at April 28, 2019, represents property, plant, and equipment located in the U.S.

Right of Use Assets

As of August 4, 2019, our right of use assets balance reflects the adoption of ASU No. 2016-02, Leases (Topic 842). See notes 2 and 19 located in the notes to the consolidated financial statements for further details. The $1.0 million represents right of use assets located in the U.S.

Other Income Statement Categories

  Three Months Ended    
(dollars in thousands) August 4, 2019  July 29, 2018  % Change 
SG&A expenses
 
$
10,711
  
$
8,033
   
33.3
%
Interest expense
  
9
   
20
   
(55.0
)%
Interest income
  
249
   
150
   
66.0
%
Other expense
  
87
   
257
   
(66.1
)%

Selling, General and Administrative Expenses

The increase in selling, general, and administrative expenses during the first quarter of fiscal 2020 compared with the first quarter of fiscal 2019 is mostly due to the following:

●Stock-based compensation expense was $154,000 during the first quarter of fiscal 2020, compared with a credit to stock-based compensation expense of $501,000 during the first quarter of fiscal 2019. The credit to stock-based compensation expense during the first quarter of fiscal 2019 reflected change in estimate adjustments that were based on our assessment of the probability of whether certain pre-established targets would be met, and in turn, determine the number of performance-based restricted stock units expected to vest. The change in estimate adjustments reflected our decrease in profitability during the first quarter of fiscal 2019 stemming from the rapid growth of low-priced mattresses from China.

●Higher annual incentive bonus expense due to stronger financial results in relation to pre-established performance targets.

●Higher selling, general, and administrative expenses associated with our home accessories segment are mostly due to a full period of operations for the first quarter of fiscal 2020, compared with a partial period of operations during the first quarter of fiscal 2019. The partial period of operations during the first quarter of fiscal 2019 reflects the acquisition of eLuxury on June 22, 2018 (the middle of our first quarter of fiscal 2019).

●Higher selling expenses associated with the mattress fabrics segment due to a 12.5% increase in net sales during the first quarter of fiscal 2020 compared with the same period a year ago.

(3)
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Interest Expense

Interest expense reflects our historically low amount of borrowings outstanding. At August 4, 2019, our borrowings totaled $925,000 and related to our subordinated loan payable between eLuxury and the owner of its non-controlling interest.

Interest Income

The $452, $502,increase in interest income reflects our current investment of excess cash held in U.S. money market funds earning higher interest rates compared with those associated with our prior investment in U.S. corporate bonds (see Liquidity section below for further details).

Currently, as a result of the recent decrease in interest rates and $552 at October 28, 2018, Octoberpotential future interest rate reductions, we expect interest income to decrease for the remainder of fiscal 2020.

Other Expense

The decrease in other expense is primarily due to the realized loss of $94,000 from the sale of short-term investments (available-for-sale) that occurred during the first quarter of fiscal 2019 and more favorable foreign currency exchange rates associated with our China operations experienced during the first quarter of fiscal 2020 compared with the same period a year ago.

Income Taxes

Effective Income Tax Rate

We recorded income tax expense of $1.7 million, or 59.1% of income before income taxes, for the three-month period ended August 4, 2019, compared with income tax expense of $906,000, or 46.5% of income before income taxes, for the three-month period ended July 29, 20172018. Our effective income tax rates for the three-month periods ended August 4, 2019, and AprilJuly 29, 2018, respectively, represent property, plant,were based upon the estimated effective income tax rate applicable for the full year after giving effect to any significant items related specifically to interim periods. The effective income tax rate can be affected over the fiscal year by the mix and equipment associatedtiming of actual earnings from our U.S. operations and foreign subsidiaries located in China and Canada versus annual projections, as well as changes in foreign currency exchange rates in relation to the U.S. dollar.

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The following schedule summarizes the principal differences between income tax expense at the U.S. federal income tax rate and the effective income tax rate reflected in the consolidated financial statements:

  2020  2019 
U.S. federal income tax rate  
21.0
%
  
21.0
%
Global Intangible Low Taxed Income (GILTI) Tax
  
23.7
   
2.5
 
Foreign income tax rate differential  
10.6
   
8.3
 
Tax effects of Chinese foreign exchange gains  
1.3
   
2.1
 
Change in estimate of U.S. valuation allowance  
1.8
   
8.6
 
Excess income tax deficiency related        
to stock-based compensation  
0.8
   
1.7
 
Other  
(0.1
)
  
2.3
 
   
59.1
%
  
46.5
%

The increase in our effective income tax rate reflects the continued shift in the mix of our taxable income that is now mostly earned by our foreign operations located in China and Canada at higher income tax rates in relation to the U.S. Additionally, this current mix of our taxable income has resulted in a significant increase in our GILTI Tax, which represents a U.S. income tax on our foreign earnings.

The U.S. Treasury Department and Internal Revenue Service have issued newly proposed regulations that, if enacted, and if enacted as proposed, could provide us with unallocated corporate departmentssome relief from the GILTI Tax under the proposed GILTI High-Tax exception election beginning in fiscal 2021 or later, subject to the timing of enactment.  The proposed GILTI High-Tax exception election is not available until the proposed regulations are finalized and corporate departments shared by botheffective.  There is no guarantee that the mattress and upholstery fabric segments. Property, plant, and equipment associatedproposed regulations will be enacted, or that there won’t be changes to the final regulations that would reduce or eliminate the relief we would otherwise benefit from under the proposed regulations.

Valuation Allowance

In accordance with corporate areASC Topic 740, we evaluate our deferred income taxes to determine if a valuation allowance is required. ASC Topic 740 requires that companies assess whether a valuation allowance should be established based on the consideration of all available evidence using a “more-likely-than-not” standard, with significant weight being given to evidence that can be objectively verified. Since the company operates in multiple jurisdictions, we assess the need for a valuation allowance on a jurisdiction-by-jurisdiction basis, taking into account the effects of local tax law.

Refer to note 17 located in the U.S.
notes to the consolidated financial statements for disclosures regarding our assessments of our recorded valuation allowance as of August 4, 2019, July 29, 2018, and April 28, 2019, respectively.
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(4)Capital expenditure amounts are stated onUndistributed Earnings
In accordance with ASC Topic 740, we assess whether the accrual basis. See Consolidated Statementsundistributed earnings from our foreign subsidiaries will be reinvested indefinitely or eventually distributed to our U.S. parent company. ASC Topic 740 requires that a deferred tax liability should be recorded for undistributed earnings from foreign subsidiaries that will not be reinvested indefinitely. Also, we assess the recognition of Cash FlowsU.S. foreign income tax credits associated with foreign withholding and income tax payments and whether it is more-likely-than-not that our foreign income tax credits will not be realized. If it is determined that any foreign income tax credits need to be recognized or it is more-likely-than-not our foreign income tax credits will not be realized, an adjustment to our provision for capital expenditure amountsincome taxes will be recognized at that time.

Refer to note 17 located in the notes to the consolidated financial statements for disclosures regarding our assessments of our recorded deferred income tax liability balances associated with undistributed earnings from our foreign subsidiaries as of August 4, 2019, July 29, 2018, and April 28, 2019, respectively

Uncertain Income Tax Positions

In accordance with ASC Topic 740, an unrecognized income tax benefit for an uncertain income tax position can be recognized in the first interim period if the more-likely-than-not recognition threshold is met by the reporting period, or is effectively settled through examination, negotiation, or litigation, or the statute of limitations for the relevant taxing authority to examine and challenge the tax position has expired. If it is determined that any of the above conditions occur regarding our uncertain income tax positions, an adjustment to our unrecognized income tax benefits will be recorded at that time.

Refer to note 17 located in the notes to the consolidated financial statements for disclosures regarding our assessments of our uncertain income tax positions as of August 4, 2019, July 29, 2018, and April 28, 2019, respectively.

Income Taxes Paid

Our income tax payments totaled $1.8 million during the first quarter of fiscal 2020 compared with $3.2 million during the first quarter of fiscal 2019. Our income tax payments were associated with our subsidiaries located in Canada and China. Importantly, income taxes incurred in the U.S. on a cash basis.

19.  Income Taxes

Effective Income Tax Rate

We recorded income tax expense of $2.2 million, or 35.1% of income before income taxes, for the six- month period ended October 28, 2018, compared to income tax expense of $3.7 million or 29.1% of income before income taxes, for the six-month period ended October 29, 2017. Our effective income tax rates for the six-month periods ended October 28, 2018, and October 29, 2017, were based upon the estimated effective income tax rate applicable for the full year after giving effect to any significant items related specifically to interim periods. The effective income tax rate can be affected over the fiscal year by the mix and timing of actual earnings from our U.S. operations and foreign subsidiaries located in China and Canada versus annual projections and changes in foreign currency exchange rates in relation to the U.S. dollar.

The following schedule summarizes the factors that contribute to the difference between income tax expense at the federal income tax rate and the effective income tax rate reflected in the consolidated financial statements:

 20192018
Federal income tax rate21.0%34.0%
Foreign income tax rate differential7.81.1
Tax effects of Chinese foreign exchange (losses) gains2.8(1.5)
Global Intangible Low Taxed Income Tax (GILTI)2.1-
Change in estimate of valuation allowance1.20.7
Excess income tax deficiency (benefits)  
related to stock-based compensation0.5(4.3)
Other(0.3)(0.9)
 35.1%29.1%

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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



2017 Tax Cuts and Jobs Act

On December 22, 2017, the Tax Cuts and Jobs Act (H.R.1) (the Tax Act) was signed into law. The key effects of the Tax Act on our financial statements during fiscal 2019 will be the reduction of our U.S federal statutory income tax rate to 21% compared with the blended statutory income tax rate of 30.4% during fiscal 2018 and the creation of the Global Intangible Low Taxed Income Tax (GILTI).

In order to calculate GILTI, provisional estimates were required based on (i) projection and estimates associated with U.S. and foreign pre-tax earnings and income tax expense for fiscal 2019, (ii) projections and estimates regarding certain assets that will be held in our domestic operations or foreign subsidiaries, and (iii) projections and estimates associated with our net sales with foreign jurisdictions. Our estimates may change based on actual versus projected results.

Deferred Income Taxes

Valuation Allowance
In accordance with ASC Topic 740, we evaluate our deferred income taxes to determine if a valuation allowance is required. ASC Topic 740 requires that companies assess whether a valuation allowance should be established based on the consideration of all available evidence using a “more-likely-than-not” standard, with significant weight being given to evidence that can be objectively verified. Since the company operates in multiple jurisdictions, we assess the need for a valuation allowance on a jurisdiction-by-jurisdiction basis, taking into account the effects of local tax law.

Based on our assessments at October 28, 2018, October 29, 2017, and April 29, 2018, valuation allowances against our deferred income taxes pertain to the following jurisdictions:

 
(dollars in thousands)
 
October 28,
2018
  
October 29,
2017
  
April 29,
2018
 
U.S. foreign income tax credits $4,550   -   4,550 
U.S. state loss carryforwards and credits  756   554   578 
Polish loss carryforwards  -   78   76 
  $5,306   632   5,204 

Undistributed Earnings
In accordance with ASC Topic 740, we assess whether the undistributed earnings from our foreign subsidiaries will be reinvested indefinitely or eventually distributed to our U.S. parent company. ASC Topic 740 requires that a deferred tax liability should be recorded for undistributed earnings from foreign subsidiaries that will not be reinvested indefinitely. Based on our assessment as of October 28, 2018, it is our intention not to permanently invest our undistributed earnings from our foreign subsidiaries. Also, we assess the recognition of U.S. foreign income tax credits associated with foreign withholding and income tax payments and whether it is more-likely-than-not that our foreign income tax credits will not be realized. If it is determined that any foreign income tax credits need to be recognized or it is more-likely-than-not our foreign income tax credits will not be realized, an adjustment to our provision for income taxes will be recognized at that time.

For fiscal 2019 and beyond, the Tax Act allows a U.S. corporation a 100% dividend received deduction for earnings and profits received from a 10% owned foreign corporation.  Therefore, a deferred tax liability will be required for withholding taxes that are incurred by our foreign subsidiaries at the time earnings and profits are distributed. As a result, at October 28, 2018 and April 29, 2018, we recorded a deferred income tax liability of $3.1 million and $4.3 million for withholding taxes on undistributed earnings and profits from our foreign subsidiaries.
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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)




At October 29, 2017, which was prior to the Tax Act being signed into law, we recorded a deferred income tax liability of $322,000, which included U.S. and foreign withholding taxes totaling $42.4 million, offset by U.S. foreign income tax credits of $42.1 million.

Uncertainty In Income Taxes

In accordance with ASC Topic 740, an unrecognized income tax benefit for an uncertain income tax position can be recognized in the first interim period if the more-likely-than-not recognition threshold is met by the reporting period, or is effectively settled through examination, negotiation, or litigation, or the statute of limitations for the relevant taxing authority to examine and challenge the tax position has expired. If it is determined that any of the above conditions occur regarding our uncertain income tax positions, an adjustment to our unrecognized income tax benefits will be recorded at that time.

At October 28, 2018, we had a $820,000 total gross unrecognized income tax benefit, of which $440,000 and $380,000 were classified as income taxes payable- long-term and non-current deferred income taxes, respectively, in the accompanying Consolidated Balance Sheets. At October 29, 2017, we had a $12.6 million total gross unrecognized income tax benefit, of which $12.1 million and $487,000 were classified as non-current deferred income taxes and income taxes payable – long-term, respectively, in the accompanying Consolidated Balance Sheets. At April 29, 2018, we had a $844,000 total gross unrecognized income tax benefit, of which $464,000 and $380,000 were classified as income taxes payable – long-term and non-current deferred income taxes respectively, in the accompanying Consolidated Balance Sheets.

At October 28, 2018, our $820,000 total gross unrecognized income tax benefit included $440,000 that, if recognized, would favorably affect the income tax rate in future periods. At October 29, 2017, our $12.6 million total gross unrecognized income tax benefit, included $487,000 that, if recognized, would favorably affect the income tax rate in future periods. At April 29, 2018, our $844,000 total gross unrecognized income tax benefit included $464,000 that, if recognized, would favorably affect the income tax rate in future periods.

Our gross unrecognized income tax benefit of $820,000, relates to income tax positions for which significant change is currently not expected within the next year. This amount primarily relates to double taxation under applicable income tax treaties with foreign tax jurisdictions.

20.  Stock-Based Compensation

Equity Incentive Plan Description

On September 16, 2015, our shareholders approved an equity incentive plan entitled the Culp, Inc. 2015 Equity Incentive Plan (the “2015 Plan”). The 2015 Plan updated and replaced our 2007 Equity Incentive Plan (the “2007 Plan”) as the vehicle for granting new equity-based awards substantially similar to those authorized under the 2007 Plan. In general, the 2015 Plan authorizes the grant of stock options intended to qualify as incentive stock options, nonqualified stock options, stock appreciation rights, restricted stock, restricted stock units, performance units, and other equity and cash related awards as determined by our Compensation Committee. An aggregate of 1,200,000 shares of common stock were authorized for issuance under the 2015 Plan, with certain sub-limits that would apply with respect to specific types of awards that may be issued as defined in the 2015 Plan. In connection with the approval of the 2015 Plan, no further awards will be granted under the 2007 Plan, but outstanding awards under the 2007 Plan will be settled in accordance with their terms.
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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)




At October 28, 2018, there were 941,528 shares available for future equity-based grants under our 2015 plan.

Performance Based Restricted Stock Units

Executive Management (NEOs)

Fiscal 2019 and 2018
On August 2, 2018 (Fiscal 2019), and July 13, 2017 (Fiscal 2018), we granted performance-based restricted stock units to NEOs which could earn up to a certain number of shares of common stock if certain performance targets are met over a three-fiscal year performance period as defined in the related restricted stock unit agreements. The number of shares of common stock that are earned based on the performance targets that have been achieved will be adjusted based on a market-based total shareholder return component as defined in the related restricted stock unit agreements.
Compensation cost was measured based at the fair market value on the date of grant (August 2, 2018 and July 13, 2017). The fair market value per share was determined using the Monte Carlo simulation model for the market-based total shareholder return component and the closing price of our common stock for the performance-based component.
The following table provides assumptions used to determine the fair market value of the market-based shareholder return component using the Monte Carlo simulation model on the date of grants noted above:

  Fiscal 2019  Fiscal 2018 
Closing price of our common stock $24.35  $32.50 
Expected volatility of our common stock  33.5%  31.0%
Expected volatility of peer companies  16.0%  16.5%
Risk-free interest rate  2.74%  1.56%
Dividend yield  1.35%  1.66%
Correlation coefficient of peer companies  0.47   0.46 

Fiscal 2017

On July 14, 2016 we granted performance-based restricted stock units to NEOs which could earn up to a certain number of shares of common stock if certain performance targets were met over a three-fiscal year performance period as defined in the related restricted stock unit agreements. These awards were measured based on the fair market value (closing price of our common stock) on the date of grant. No market-based total shareholder return component was included in this award.

Key Employees and a Non-Employee

Fiscal 2019, 2018, and 2017

We granted performance-based restricted stock units which could earn up to a certain number of shares of common stock if certain performance targets are met over a three-fiscal year performance period as defined in the related restricted stock unit agreements. Our performance based restricted stock units granted to key employees were measured based on the fair market value (the closing price of our common stock) on the date of grant. Our performance based restricted stock units granted to a non-employee (fiscal 2017 only) were measured based on the fair market value (the closing price of our common stock) at the earlier date of when the performance criteria are met or the end of the reporting period. No market-based total shareholder return component was included in these awards.
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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



The following table summarizes information related to our grants of performance based restricted stock units associated with NEOs and key employees that are currently unvested:
  
(3)
Restricted Stock
  Price Per  Vesting
Date of Grant Units Awarded  Share  Period
August 2, 2018 (1)  86,599  $18.51(4)3 years
August 2, 2018 (2)  47,800  $24.35(6)3 years
July 13, 2017 (1)  78,195  $31.85(5)3 years
July 13, 2017 (2)  44,000  $32.50(6)3 years
July 14, 2016 (1) (2)  107,880  $28.00(6)3 years

(1) Performance-based restricted stock units awarded to NEOs.
(2) Performance-based restricted stock units awarded to key employees.
(3) Amounts represent the maximum number of common stock shares that could be earned if certain performance targets are met as defined in the related restricted stock unit agreements.
(4) Price per share represents the fair market value per share ($0.76 per $1 or a reduction of $5.84 to the closing price of the our common stock) determined using the Monte Carlo simulation model for the market-based total shareholder return component and the closing price of our common stock ($24.35) for the performance-based components of the performance-based restricted stock units granted to our NEOs on August 2, 2018.
(5) Price per share represents the fair market value per share ($0.98 per $1 or a reduction of $0.65 to the closing price of the our common stock) determined using the Monte Carlo simulation model for the market-based total shareholder return component and the closing price of our common stock ($32.50) for the performance-based components of the performance-based restricted stock units granted to our NEOs on July 13, 2017.
(6) Price per share represents the closing price of our common stock on the date of grant.

The following table summarizes information related to our grants of performance-based restricted stock units associated with a non-employee that are currently unvested:

 (1)
        
 
Restricted Stock 
 
Price Per
  Vesting
Date of Grant
Units Awarded 
 
Share  Period
July 14, 2016  11,549  $22.31(2)

3 years

(1) Amounts represent the maximum number of common stock shares that could be earned if certain performance targets are met as defined in the related restricted stock unit agreements.
(2) The respective grant was unvested at the end of our reporting period. Accordingly, the price per share represents the closing price of our common stock on October 28, 2018, the end of our reporting period.

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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



The following table summarizes information related to our performance based restricted stock units that vested during the six-month periods ending October 28, 2018 and October 29, 2017:

           
Fiscal Year 
Common Stock
Shares Vested
  
(3)
Weighted Average
Fair Value
  
Price
Per Share


Fiscal 2019 (1)  107,553  $3,466  $32.23(4)
Fiscal 2019 (2)  10,364  $320  $30.90(5)
Fiscal 2018 (1)  102,845  $1,820  $17.70(4)
Fiscal 2018 (2)  16,000  $520  $32.50(5)

 (1) NEOs and key employees.
(2) Non-employee
(3) Dollar amounts are in thousands.
(4) Price per share represents closing price of our common stock on the date of grant.
(5) The respective grant vested during the first quarter of fiscal 2019 or 2018, respectively. Accordingly, the price per share represents the closing price of our common stock on the date the award vested.
The performance based restricted stock units that vested during the six-months ending October 28, 2018, and October 29, 2017, had a fair value totaling $3.6 million and $3.9 million, respectively.
Overall
We recorded a credit to compensation expense of $216,000 and a charge to compensation expense totaling $1.4 million within selling, general, and administrative expenses for the six-month periods ending October 28, 2018 and October 29, 2017, respectively. Compensation cost is recorded based on an assessment each reporting period of the probability that certain performance goals will be met during the vesting period. If performance goals are not probable of occurrence, compensation cost will not be recognized and any recognized compensation cost would be reversed.
At October 28, 2018, the remaining unrecognized compensation cost related to our performance based restricted stock units was $1.6 million, which is expected to be recognized over a weighted average vesting period of 2.3 years. At October 28, 2018, the performance based restricted stock units that were expected to vest had a fair value totaling $2.4 million.

Time Vested Restricted Stock Units

Fiscal 2019

On August 2, 2018, we granted 11,200 shares of restricted stock units to certain key employees. Of the 11,200 shares of restricted stock units granted, 10,000 had a vesting period of 59 months and 1,200 had a vesting period 11 months, respectively. These awards were measured at their fair market value, which was $24.35 per share, and represents the closing price of our common stock at the date of grant.

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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)




Fiscal 2018 Grant

On July 13, 2017, an employee was granted 1,200 shares of time vested restricted stock units which vested over the requisite service period of 11 months. This award was measured at its fair market value, which was $32.50 per share, and represented the closing price of our common stock on the date of grant.

During the first quarter of fiscal 2019, 1,200 shares of common stock associated with this grant vested and had a weighted average grant date fair value of $39,000 or $32.50 per share.

Fiscal 2017 Grant

On July 14, 2016, an employee was granted 1,200 shares of time vested restricted stock units which vested over the requisite service period of 11 months. This award was measured at its fair market value, which was $28 per share, and represented the closing price of our common stock on the date of grant.

During the first quarter of fiscal 2018, 1,200 shares of common stock associated with this grant vested and had a weighted average grant date fair value of $34,000 or $28 per share.

Overall

We recorded compensation expense of $26,000 and $17,000 within selling, general, and administrative expense associated with our time vested restricted stock unit awards for the six-month periods ending October 28, 2018 and October 29, 2017, respectively.
At October 28, 2018, the remaining unrecognized compensation cost related to our time vested restricted stock units was $252,000, which is expected to be recognized over a weighted average vesting period of 4.3 years. At October 28, 2018, the time vested restricted stock awards that were expected to vest had a fair value totaling $250,000.
Common Stock Awards
We granted a total of 3,600 and 4,800 shares of common stock to our outside directors on October 1, 2018, and October 2, 2017, respectively. These shares of common stock vested immediately and were valued based on the fair market value on the date of grant. The fair value of these awards were $23.45 and $33.20 per share, on October 1, 2018, and October 2, 2017, which represents the closing price of our common stock on the date of grant.
We recorded $84,000 and $159,000 of compensation expense within selling, general, and administrative expense for these common stock awards for the six-month periods ending October 28, 2018 and October 29, 2017, respectively.

21. Statutory Reserves
Our subsidiaries located in China are required to transfer 10% of their net income, as determined in accordance with the People’s Republic of China (PRC) accounting rules and regulations, to a statutory surplus reserve fund until such reserve balance reaches 50% of the company’s registered capital.
The transfer to this reserve must be made before distributions of any dividend to shareholders. As of October 28, 2018, the company’s statutory surplus reserve was $4.2 million, representing 10% of accumulated earnings and profits determined in accordance with PRC accounting rules and regulations. The surplus reserve fund is non-distributable other than during liquidation and can be used to fund previous years’ losses, if any, and may be utilized for business expansion or converted into share capital by issuing new shares to existing shareholders in proportion to their shareholding or by increasing the par value of the shares currently held by them provided that the remaining reserve balance after such issue is not less than 25% of the registered capital.
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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)




Our subsidiaries located in China can transfer funds to the parent company with the exception of the statutory surplus reserve of $4.2 million to assist with debt repayment, capital expenditures, and other expenses of the company’s business.

22.   Commitments and Contingencies

Litigation

The company is involved in legal proceedings and claims which have arisen in the ordinary course of business. Management has determined that it is not reasonably possible that these actions, when ultimately concluded and settled, will have a material adverse effect upon the financial position, results of operations, or cash flows of the company.

Accounts Payable – Capital Expenditures

At October 28, 2018, we had total amounts due regarding capital expenditures totaling $114,000, which pertained to outstanding vendor invoices, none of which were financed. The total amount outstanding of $114,000 is required to be paid based on normal credit terms.

At October 29, 2017, and April 29, 2018, we had total amounts due regarding capital expenditures totaling $3.2 million and $1.8 million, respectively, of which $2.7 million and $1.4 million was financed and pertained to completed work for the construction of a new building (see below).

Purchase Commitments – Capital Expenditures

At October 28, 2018, we had open purchase commitments to acquire equipment for our mattress fabrics segment totaling $826,000.

Mattress Fabric Building

Effective May 16, 2016, we entered into an agreement with a contractor to construct a new building located in North Carolina to expand our distribution capabilities and office space at a cost of $11.3 million. This agreement required an installment payment of $1.9 million that was made in April 2016, with additional installment payments of $4.3 million that were made in fiscal 2017, $3.7 million that were made in fiscal 2018, and a final installment payment of $1.4 million made in May 2018 (first quarter of fiscal 2019). Interest was charged on the required outstanding installment payments for services that were previously rendered at a rate of $2.25% plus the current 30-day LIBOR rate.

Also, we were required to issue a letter of a credit totaling $5.0 million with the contractor’s bank being the beneficiary. In addition to the interest charged on the outstanding installment payments noted above, there was a 0.1% unused fee calculated on the balance of the $5.0 million letter of credit less the amount outstanding per month (see Note 13 for further details).

This new building was placed into service in July 2017 (first quarter of fiscal 2018).
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Culp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



23.  Common Stock Repurchase Program
On June 15, 2016, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock. Under the common stock repurchase program, shares may be purchased from time to time in open market transactions, block trades, through plans established under the Securities Exchange Act Rule 10b5-1, or otherwise. The amount of shares purchased and the timing of such purchases will be based on working capital requirements, market and general business conditions, and other factors, including alternative investment opportunities.
During the six-month period ended October 28, 2018, we purchased 36,880 shares of our common stock at a cost of $844,000. During the six-month period ended October 29, 2017, we did not purchase any shares of our common stock.
At October 28, 2018, we had $4.2 million available for repurchases of our common stock.

24.  Dividend Program

On November 29, 2018, we announced that our board of directors approved an increase in the quarterly cash dividend from $0.09 to $0.10 per share. This payment will be made on or about January 16, 2019, to shareholders of record as of January 2, 2019.

During the six-months ended October 28, 2018, dividend payments totaled $2.3 million, which represented quarterly dividend payments of $0.09 per share. During the six-months ended October 29, 2017, dividend payments totaled $4.6 million, of which $2.6 million represented a special cash dividend payment of $0.21 per share, and $2.0 million represented quarterly dividend payments of $0.08 per share.

Future dividend payments are subject to board approval and may be adjusted at the board’s discretion as business needs or market conditions change.
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CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING INFORMATION

This report and the exhibits attached hereto contain “forward-looking statements” within the meaning of the federal securities laws, including the Private Securities Litigation Reform Act of 1995 (Section 27A of the Securities Act of 1933 and Section 21E of the Securities and Exchange Act of 1934).  Such statements are inherently subject to risks and uncertainties.  Further, forward looking statements are intended to speak only as of the date on which they are made, and we disclaim any duty to update or alter such statements due to new information, future events, or otherwise. Forward-looking statements are statements that include projections, expectations or beliefs about future events or results or otherwise are not statements of historical fact.  Such statements are often but not always characterized by qualifying words such as “expect,” “believe,” “estimate,” “plan,” and “project,” and their derivatives, and include but are not limited to statements about expectations for our future operations, production levels, sales, profit margins, profitability, operating income, capital expenditures, working capital levels, income taxes, SG&A or other expenses, pre-tax income, earnings, cash flow, and other performance or liquidity measures, as well as any statements regarding potential acquisitions, future economic or industry trends or future developments. Factors that could influence the matters discussed in such statements include the level of housing starts and sales of existing homes, consumer confidence, trends in disposable income, and general economic conditions, as well as our success in finalizing acquisition negotiations and integrating acquired business into our existing operations. Decreases in these economic indicators could have a negative effect on our business and prospects. Likewise, increases in interest rates, particularly home mortgage rates, and increases in consumer debt or the general rate of inflation, could affect us adversely. Changes in consumer tastes or preferences toward products not produced by us could erode demand for our products. Changes in tariffs or trade policy, or changes in the value of the U.S. dollar versus other currencies could affect our financial results because a significant portion of our operations are located outside the United States. Strengthening of the U.S. dollar against other currencies could make our products less competitive on the basis of price in markets outside the United States, and strengthening of currencies in Canada and China can have a negative impact on our sales of products produced in those places. Also, economic and political instability in international areas could affect our operations or sources of goods in those areas, as well as demand for our products in international markets. Finally, increases in market prices for petrochemical products can significantly affect the prices we pay for raw materials, and in turn, increase our operating costs and decrease our profitability. Further information about these factors, as well as other factors that could affect our future operations or financial results and the matters discussed in forward-looking statements, are included in Item 1A “Risk Factors” section in our Form 10-K filed with the Securities and Exchange Commission on July 13, 2018, for the fiscal year ended April 29, 2018.

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basis for fiscal 2020 are expected to be minimal due to the projected utilization of our U.S. Federal net operating loss carryforwards and immediate expensing of U.S. capital expenditures.
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSI-50

The following analysis of financial condition and results of operations should be read in conjunction with the Financial Statements and Notes and other exhibits included elsewhere in this report.

General

Our fiscal year is the 52 or 53-week period ending on the Sunday closest to April 30. The six-months ended October 28, 2018, and October 29, 2017, each represent 26-week periods. Our operations are classified into two business segments: mattress fabrics and upholstery fabrics. The mattress fabrics segment manufactures, sources and sells fabrics and mattress covers to bedding manufacturers. We have wholly owned mattress fabric operations located in Stokesdale, NC, High Point, NC, and Quebec, Canada, and a fifty percent owned cut and sew mattress cover operation located in Haiti. Additionally, with the recent acquisition of eLuxury, LLC (eLuxury), we now have a majority owned company located in Evansville, IN, that offers bedding accessories and home goods directly to consumers. The upholstery fabrics segment develops, manufactures, and sells fabrics primarily to residential and commercial furniture manufacturers. We have wholly owned upholstery fabric operations located in Shanghai, China and Burlington, NC. With the recent acquisition of Read, we now have a wholly owned company located in Knoxville, TN, that provides window treatments that Read offers sourcing of upholstery fabrics and other products, measuring, as well as installation services of their own products to customers in the hospitality and commercial industries. The company operated an upholstery fabrics plant facility in Anderson, SC during the first quarter of fiscal 2019, which has since been closed during the second quarter of fiscal 2019.

We evaluate the operating performance of our segments based upon income from operations before certain unallocated corporate expenses, restructuring expense (credit) and related charges, and other non-recurring items. Cost of sales in both segments include costs to manufacture, develop, or source our products, including costs such as raw material costs and finished goods purchases, direct and indirect labor, overhead and incoming freight charges. Unallocated corporate expenses primarily represent compensation and benefits for certain executive officers, all costs associated with being a public company, and other miscellaneous expenses.

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Executive Summary

Results of Operations

  Three Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  Change 
Net sales $77,006  $80,698   (4.6)%
Gross profit  13,326   15,804   (15.7)%
Gross profit margin  17.3%  19.6%  (230)bp
SG&A expenses  10,103   9,415   7.3%
Income from operations  4,284   6,389   (32.9)%
Operating margin  5.6%  7.9%  (230)bp
Income before income taxes  4,275   6,159   (30.6)%
Income taxes  1,276   2,108   (39.5)%
Net income  2,944   3,976   (26.0)%
Net income attributable to
Culp Inc common shareholders
  2,933   3,976   (26.2)%


  Six Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  Change 
Net sales $148,479  $160,230   (7.3)%
Gross profit  23,885   32,268   (26.0)%
Gross profit margin  16.1%  20.1%  (400)bp
SG&A expenses  18,136   18,916   (4.1)%
Income from operations  6,359   13,352   (52.4)%
Operating margin  4.3%  8.3%  (400)bp
Income before income taxes  6,223   12,900   (51.8)%
Income taxes  2,182   3,748   (41.8)%
Net income  3,909   8,959   (56.4)%
Net income attributable to
Culp Inc common shareholders
  3,890   8,959   (56.6)%

Net Sales

Overall, our net sales for the second quarter of fiscal 2019 decreased by 4.6% compared with the same period a year ago, with mattress fabric sales declining 13.6% and upholstery fabrics increasing 9.1%. Our net sales for the first half of fiscal 2019 decreased by 7.3% compared with the same period a year ago, with mattress fabrics decreasing 18.6% and upholstery fabrics increasing 10.0%.

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The decrease in mattress fabrics sales reflects the ongoing challenges facing the bedding industry, related to the significant increase of low-priced imported mattresses from China. In anticipation of both increased tariffs on mattresses and the anti-dumping petition that was approved by the United States International Trade Commission (ITC) on November 1, 2018, we believe that a number of companies and retailers accelerated orders and promotions of low-priced imported mattresses. As a result, we experienced reduced demand for mattress fabric and sewn covers

Liquidity and Capital Resources

Liquidity

Overall

Currently, our sources of liquidity include cash and cash equivalents, cash flow from operations, and amounts available under our revolving credit lines. These sources have been adequate for day-to-day operations, capital expenditures, debt payments, common stock repurchases, and dividend payments. We believe our present cash and cash equivalents of $44.2 million as of August 4, 2019, cash flow from operations, and the current availability ($30.8 million) under our revolving credit lines will be sufficient to fund our foreseeable business needs, contractual obligations, and potential acquisitions.

At August 4, 2019, our cash and investments (which comprise cash and cash equivalents and short-term investments (held-to-maturity)) totaled $44.2 million compared with $45.0 million at April 28, 2019. This slight decrease from the end of fiscal 2019 was primarily due to a regular quarterly dividend payment of $1.2 million, $935,000 for capital expenditures that were mostly associated with our mattress fabrics segment, and $763,000 for a final cash payment of an acquisition, partially offset by net cash provided by operating activities totaling $2.0 million.

Our net cash provided by operating activities was $2.0 million during the first quarter of fiscal 2020, improved from a $2.0 million use of cash from operating activities during the first quarter of fiscal 2019. This improvement is due mostly to higher cash flow from earnings and improved working capital management during the first quarter of fiscal 2020 compared with the same period a year ago.

At August 4, 2019, our borrowings totaling $925,000 related to our subordinated loan payable between eLuxury and the owner of its non-controlling interest.

Our cash and cash equivalents and short-term investment (available for sale) balance may be adversely affected by factors beyond our control, such as lower net sales due to weakening industry demand and delays in receipt of payment on accounts receivable.

By Geographic Area

A summary of our cash and cash equivalents and short-term investments (held-to-maturity) by geographic area follows:

  August 4,  July 29,  April 28, 
(dollars in thousands) 2019  2018  2019 
United States $37,906  $3,407  $33,078 
China  4,654   4,742   9,670 
Canada  1,634   176   2,196 
Cayman Islands  42   31,024   64 
  $44,236  $39,349  $
45,008 

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During the third and fourth quarters of fiscal 2019, we experienced a significant shift of cash and investments held in the Cayman Islands to the U.S. This trend was mostly due to our strategy of taking advantage of the of the 2017 Tax Cuts and Jobs Act, which allows a U.S. corporation a 100% dividend received deduction on earnings and profits repatriated to the U.S. from foreign owned corporations.

At July 29, 2018, we had cash and investments totaling $31.0 million that mostly pertained to investment grade U.S. corporate bonds. As our U.S. corporate bonds matured, we repatriated almost all our earnings and profits residing in the Cayman Islands to our U.S parent company. As of the end of our first quarter of fiscal 2020, all our U.S. corporate bonds that resided in the Cayman Islands have matured and all of the corresponding sales proceeds have been repatriated to the U.S. parent company.

Common Stock Repurchase Program
On June 15, 2016, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock. During the three-month period ended August 4, 2019, we did not purchase any shares of our common stock. At August 4, 2019, we had $1.7 million available for repurchases of our common stock associated with the $5.0 million repurchase program approved by our board of directors on June 15, 2016.
On September 5, 2019, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock. Under the common stock repurchase program, shares may be purchased from time to time in open market transactions, block trades, through plans established under the Securities Exchange Act Rule 10b5-1, or otherwise. The number of shares purchased and the timing of such purchases will be based on working capital requirements, market and general business conditions, and other factors, including alternative investment opportunities.
Dividend Program

On September 5, 2019, we announced that our board of directors approved a quarterly cash dividend of $0.10 per share. This payment will be made on or about October 15, 2019, to shareholders of record as of October 4, 2019.

During the three months ended August 4, 2019, dividend payments totaled $1.2 million, which represented a quarterly dividend payment of $0.10 per share. During the three months ended July 29, 2018, dividend payments totaled $1.1 million, which represented a quarterly dividend payment of $0.09 per share.

Future dividend payments are subject to board approval and may be adjusted at the board’s discretion as business needs or market conditions change.

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Working Capital

Operating Working Capital

Operating working capital (accounts receivable and inventories, less accounts payable-trade, accounts payable-capital expenditures, and deferred revenue) was $51.4 million at August 4, 2019, compared with $51.7 million at July 29, 2018. Operating working capital turnover was 5.9 during the first quarter of fiscal 2020 compared with 6.6 during the first quarter of fiscal 2019.

Accounts Receivable

Accounts receivable as of August 4, 2019, totaling $24.1 million, increased 3.7%, compared with $23.2 million at July 29, 2018. This increase primarily reflects the increase in net sales of 4.7% during the first quarter compared with the same period a year ago.

Days’ sales outstanding were 31 days for the first quarter of fiscal 2020 compared with 29 days for the first quarter of fiscal 2019.

Inventory

Inventories as of August 4, 2019, totaling $50.7 million, decreased $4.3 million, or 7.9%, compared with $55.0 million at July 29, 2018.

This decrease is attributable to a significant decline in inventory associated with our mattress fabrics business of $7.1 million, or 22.5%. During the first quarter of fiscal 2019, inventory significantly increased due to purchases in excess of actual demand trends that were much lower than anticipated as a result of the rapid growth of low-priced imported mattresses from China. Subsquently, management aligned our inventory purchases to reflect this lower demand, and therefore was able to subsequently reduce our inventory levels.

The decrease in inventory associated with our mattress fabrics segment was partially offset by an increase in inventory for both our upholstery fabrics and home accessories segments. Inventory associated with our upholstery fabrics segment increased $1.4 million or 6.4%, and primarily stemmed from increased tariffs. Inventory relating to our home accessories segment increased $1.4 million or 80.5% and represents the start-up of our home accessories segment and acquisition of eLuxury that occurred during our first quarter of fiscal 2019.

Inventory turns were 4.9 for the first quarter of fiscal 2020 compared with 4.4 for the first quarter of fiscal 2019.

Accounts Payable

Accounts payable - trade as of August 4, 2019, totaling $22.6 million, decreased $2.4 million or 9.7%, compared with $25.1 million at July 29, 2018. The decrease in accounts payable reflects the overall decrease in inventory purchases noted above.
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Financing Arrangements

Currently, we have revolving credit agreements with banks for our U.S parent company and our operations located in China. The purposes of our revolving lines of credit are to support potential short-term cash needs in different jurisdictions, mitigate our risk associated with foreign currency exchange rate fluctuations, and ultimately repatriate earnings and profits from our foreign subsidiaries.
Our revolving credit agreements require us to maintain compliance with certain financial covenants as defined in the respective agreements. At August 4, 2019, we were in compliance with all our financial covenants.

At August 4, 2019, we had borrowings totaling $925,000 related to our subordinated loan payable between eLuxury and its minority owner.
Refer to Note 12 located in the notes to the consolidated financial statements for further details of our revolving credit agreements.

Capital Expenditures and Depreciation

Overall

Capital expenditures on a cash basis were $935,000 for the first quarter of fiscal 2020, compared with $2.2 million (of which $1.4 million were vendor-financed) for the same period a year ago. Capital expenditures mostly related to our mattress fabrics segment for both periods.

Depreciation expense was $1.9 million for the first quarter of fiscal 2020, compared with $2.0 million for the same period a year ago. Depreciation expense mostly related to our mattress fabrics segment for both periods.

For fiscal 2020, we are projecting cash capital expenditures to be in the range of $7.0 million to $8.0 million. Depreciation expense is projected to be approximately $8.0 million in fiscal 2020. The estimated capital expenditures and depreciation expense for fiscal 2020 mostly relate to the mattress fabrics segment. These are management’s current expectations only, and changes in our business could cause changes in plans for capital expenditures and expectations related to depreciation expense.

Accounts Payable – Capital Expenditures

At August 4, 2019, we had total amounts due regarding capital expenditures totaling $60,000, pertaining to outstanding vendor invoices, none of which were financed. The total amount outstanding of $60,000 is required to be paid based on normal credit terms.

Purchase Commitments – Capital Expenditures

At August 4, 2019, we had open purchase commitments to acquire equipment for our mattress fabrics segment totaling $1.5 million.

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Critical Accounting Policies and Recent Accounting Developments

At August 4, 2019, there were no changes in our significant accounting policies or the application of those policies from those reported in our annual report on Form 10-K for the year ended April 28, 2019.

Refer to Notes 2 and 19 located in the notes to the consolidated financial statements for recently adopted and issued accounting pronouncements since the filing of our Form 10-K for the year ended April 28, 2019.

Contractual Obligations
As of August 4, 2019, there were no significant or new contractual obligations from those reported in our annual report on Form 10-K for the year ended April 28, 2019.

Inflation

Any significant increase in our raw material costs, utility/energy costs and general economic inflation could have a material adverse impact on the company, because competitive conditions have limited our ability to pass significant operating cost increases on to customers.

The increase in upholstery fabric net sales for fiscal 2019 primarily relates to the net sales contribution from Read, acquired on April 1, 2018, partially offset by a decrease in sales associated with our closed facility located in Anderson, SC.
See the Segment Analysis section below for further details.

Income Before Income Taxes
Overall, income before income taxes decreased for the second quarter and first half of fiscal 2019, due primarily to the decrease in sales of mattress fabrics noted above.
Additionally, income before income taxes was affected by a non-recurring credit of $543,000 in the second quarter and a charge of $1.5 million in the first half of fiscal 2019, both of which related to the closure of our upholstery fabrics operation located in Anderson, SC, and other non-recurring charges associated with the mattress fabrics segment.
See the Segment Analysis section below for further details.
Income Taxes

We recorded income tax expense of $2.2 million, or 35.1% of income before income taxes, for the first half of fiscal 2019 compared with income tax expense of $3.7 million, or 29.1% of income before income taxes, for the same period a year ago. The increase in our effective income tax rate was primarily due to the mix of pre-tax earnings favoring our foreign jurisdictions that are taxed at higher income and withholding tax rates compared to the U.S. federal statutory rate of 21%.

Refer to Note 19 located in the notes to the consolidated financial statements for further details regarding our provision for income taxes.

Liquidity

At October 28, 2018, our cash and investments (which comprise cash and cash equivalents, short-term investments (available for sale)), and short-term and long-term investments (held-to-maturity), totaled $41.5 million at October 28, 2018, compared with $54.5 million at April 29, 2018.  Additionally, we did not have any outstanding borrowings on our lines of credit as of October 28, 2018.

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The decrease in our cash and investments from the end of fiscal 2018 was primarily due to cash payments of $12.1 million for acquisitions, capital expenditures totaling $3.5 million (of which $1.4 million was vendor-financed) that were mostly associated with our mattress fabrics segment, $3.1 million returned to our shareholders primarily in the form of our regular quarterly cash dividend payments and common stock share repurchases, and $1.3 million in employee withholding tax payments associated with the vesting of certain stock-based compensation awards, partially offset by net cash provided by operating activities totaling $6.6 million.

Our net cash provided by operating activities of $6.6 million during the first half of fiscal 2019 decreased from $10.2 million during the same period a year ago. This decrease is primarily due to the decrease in earnings, partially offset by a decrease in working capital requirements as of result of the decreased business volume noted above.
See the Liquidity section below for further details.

Dividend and Common Stock Repurchase Programs

On November 29, 2018, we announced that our board of directors approved an increase in the quarterly cash dividend from $0.09 to $0.10 per share. This payment will be made on or about January 16, 2019, to shareholders of record as of January 2, 2019.

During the six-months ended October 28, 2018, dividend payments totaled $2.3 million, which represented quarterly dividend payments of $0.09 per share. During the six months ended October 29, 2017, dividend payments totaled $4.6 million, of which $2.6 million represented a special cash dividend payment of $0.21 per share, and $2.0 million represented quarterly dividend payments of $0.08 per share.
During the six month period ended October 28, 2018, we purchased 36,880 shares of our common stock at a cost of $844,000. During the six month period ended October 29, 2017, we did not purchase any shares of our common stock. At October 28, 2018, we had $4.2 million available for repurchases of our common stock.
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Segment Analysis

Mattress Fabrics Segment

  Three Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  Change 
          
Net sales $41,989  $48,601   (13.6)%
Gross profit  7,498   9,730   (22.9)%
Gross profit margin  17.9%  20.0%  (210)bp
SG&A expenses  4,566   3,168   44.1%
Non-recurring charges  248   -   100.0%
Income from operations  2,932   6,562   (55.3)%
Operating margin  7.0%  13.5%  (650)bp

  Six Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  Change 
          
Net sales $78,972  $97,030   (18.6)%
Gross profit  13,470   19,495   (30.9)%
Gross profit margin  17.1%  20.1%  (300)bp
SG&A expenses  7,714   6,559   17.6%
Non-recurring charges  248   -   100.0%
Income from operations  5,755   12,936   (55.5)%
Operating margin  7.3%  13.3%  (600)bp

Net Sales

The decreases in mattress fabrics sales for the second quarter and first half of fiscal 2019 reflect the ongoing challenges facing the bedding industry related to the significant increase of low-priced imported mattresses from China. In anticipation of both increased tariffs on mattresses and the anti-dumping petition that was approved by the United States International Trade Commission (ITC) on November 1, 2018, we believe that a number of companies and retailers accelerated orders and promotions of low-priced imported mattresses. As a result, we experienced reduced demand for mattress fabric and sewn covers from our customers.

Currently, we expect the ongoing challenges in the mattress industry continue to affect short-term demand trends and operating performance. While we are pleased to see the anti-dumping petition approved, and we are beginning to see some positive developments, it is uncertain when demand trends will return to normal levels. We believe expected punitive measures against Chinese importers will ultimately benefit our customers and our business.
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Gross Profit and Operating Income

Our operating profits declined in the second quarter and first half of fiscal 2019 compared with the same periods a year ago, due primarily to the decrease in net sales noted above. In addition, we had a non-recurring charge of $248,000 relating to employee termination benefits and other operational reorganization costs.

Over the past several years, we have invested substantially in creating a sustainable and efficient platform with enhanced capacity and distribution capabilities. We are focused on maximizing the efficiency of our operations and aligning our costs with current and expected demand trends. We have reduced our capital expenditure budget and deferred certain capital projects that were originally expected to be completed in fiscal 2019.

eLuxury, LLC (eLuxury)

Overview

Effective June 22, 2018, we entered an Equity Purchase Agreement (Equity Agreement) pursuant to which we acquired an initial 80% ownership interest in eLuxury, a company that offers bedding accessories and home goods directly to consumers. eLuxury’s primary products include a line of mattress pads manufactured at eLuxury’s facility located in Evansville, Indiana. eLuxury also offers handmade platform beds and, cotton bed sheets, as well as other bedding items. Their products are available on eLuxury’s own branded website, eLuxury.com, Amazon, and other leading online retailers for specialty home goods.

We believe this acquisition will provide a new sales channel for bedding accessories and will expand our opportunity to participate in the e-commerce direct-to-consumer space. This business combination brings together eLuxury’s experience in e-commerce, online brand building, and direct-to-consumer shopping and fulfillment expertise with our global production, sourcing, and distribution capabilities. We also have an opportunity to market our new line of bedding accessories, marketed under the brand name, “Comfort Supply Company by Culp”, as well as other finished products that we may develop, through this e-commerce platform.

The estimated consideration given for the initial 80% ownership interest in eLuxury totaled $18.1 million, of which $12.5 million represents the estimated purchase price and $5.6 million represents the fair value for contingent consideration associated with an earn-out obligation (see below for further details). Of the $12.5 million estimated purchase price, $11.6 million was paid at closing on June 22, 2018, $185,000 was paid in August 2018, and $749,000 is to be paid in September 2019, subject to certain conditions as defined in the Equity Agreement.
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Assets Acquired and Liabilities Assumed

The following table presents the preliminary allocation of the acquisition cost to the assets acquired and liabilities assumed based on their fair values.

 
(dollars in thousands) Fair Value 
Goodwill $13,653 
Tradename  6,549 
Equipment  2,179 
Inventory  1,804 
Accounts receivable and other current assets  108 
Accounts payable  (1,336)
Accrued expenses  (295)
Non-controlling interest in eLuxury  (4,532)
  $18,130 

The estimated fair values of goodwill and tradename are provisional and are based on the information that was currently available to estimate their fair values. We believe that information provides a reasonable basis for estimating the fair values of goodwill and tradename, but we are waiting for additional information necessary to finalize those fair values. Therefore, the provisional measurements of fair value reflected are subject to change and such changes could be significant. The Company expects to finalize the valuation and complete the purchase price allocation as soon as practicable but no later than one year from the acquisition date.

As mentioned above, the Equity Agreement contains a contingent consideration arrangement that requires us to pay the seller, who is also the shareholder of the noncontrolling interest, an earn-out payment based on a multiple of adjusted EBITDA for the twelve-month period ending August 31, 2021, less $12.0 million, as defined in the Equity Agreement. We recorded a contingent liability at the acquisition date for this earn-out obligation at its fair value totaling $5.6 million based on the Black Scholes pricing model.

Consolidation and Non-Controlling Interest

As result of the acquisition of our 80% controlling interest, we included all the accounts of eLuxury in our consolidated financial statements and have eliminated all significant intercompany balances and transactions. Net income (loss) attributable to the minority interest in eLuxury is excluded from total consolidated net income (loss) to arrive at net income (loss) attributable to Culp Inc. common shareholders.

Other

Acquisitions costs totaling $270,000 were in included in selling, general, and administrative expenses in our Consolidated Statement of Net Income for the six-month period ending October 28, 2018.

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Segment assets

Segment assets consist of accounts receivable, inventory, property, plant and equipment, and our investment in an unconsolidated joint venture.

 
(dollars in thousands)
 
October 28,
2018
  
October 29,
2017
  
April 29,
2018
 
Accounts receivable $10,740  $13,645  $15,195 
Inventory  29,836   29,083   28,740 
Property, plant & equipment
Investment in unconsolidated joint venture
  
48,825
1,470
   
49,965
1,522
   
48,797
1,501
 

Refer to Note 18 located in the notes to the consolidated financial statements for disclosures regarding determination of our segment assets.

Accounts Receivable

As of October 28, 2018, accounts receivable decreased by $2.9 million, or 21.3%, compared with October 29, 2017.  As of October 28, 2018, accounts receivable decreased by $4.5 million, or 29.3%, compared with April 29, 2018. The decrease for the respective periods is due mostly to the decline in net sales noted above.

Inventory

Despite the decrease in net sales in the second quarter and first half of fiscal 2019, inventory remained flat as of October 28, 2018, compared with October 29, 2017, and April 29, 2018. This is primarily due to the inventory associated with eLuxury, acquired on June 22, 2018, which offset the decrease in inventory due to the decreased business volume noted above.

Property, Plant & Equipment

The $48.8 million at October 28, 2018, represents property, plant, and equipment of $36.1 million and $12.7 million located in the U.S. and Canada, respectively. The $50.0 million at October 29, 2017, represents property, plant, and equipment of $35.8 million and $14.2 million located in the U.S. and Canada, respectively. The $48.8 million at April 29, 2018, represents property, plant, and equipment of $35.4 million and $13.4 million located in the U.S. and Canada, respectively.

Investment in Unconsolidated Joint Venture

Our investment in unconsolidated joint venture represents our fifty percent ownership of Class International Holdings Ltd. (See Note 9 to the consolidated financial statements for further details).

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Upholstery Fabrics Segment

Net Sales

   Three Months Ended     
 
(dollars in thousands)
October 28,
2018
   
October 29,
2017
   
% Change
 
           
Non U.S. Produced $30,542   87% $30,138   94%  1.3%
U.S. Produced  4,475   13%  1,959   6%  128.4%
Total $35,017   100% $32,097   100%  9.1%


   Six Months Ended     
 
(dollars in thousands)
October 28,
2018
   
October 29,
2017
   
% Change
 
           
Non U.S. Produced $60,911   88% $59,522   94%  2.3%
U.S. Produced  8,596   12%  3,678   6%  133.7%
Total $69,507   100% $63,200   100%  10.0%

Our increases in upholstery fabric sales for the second quarter and first half of fiscal 2019 include the contribution from Read, acquired on April 1, 2018, partially offset by the decline in net sales associated with the closure of our Anderson, SC facility during the second quarter.

Gross Profit, Selling, General & Administrative Expenses, and Operating Income

  Three Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  Change 
          
Gross profit $6,257  $6,074   3.0%
Gross profit margin  17.9%  18.9%  (100)bp
SG&A expenses  3,535   3,700   (4.5)%
Income from operations  2,722   2,374   14.7%
Operating margin  7.8%  7.4%  40bp
Restructuring related charges  270   -   100%

Our operating results for the second quarter reflect lower operating costs associated with more favorable foreign currency exchange rates in China, leading to higher gross profit and operating margins. However, the lower operating costs associated with our China operations were partially offset by the effects of U.S. tariffs implemented during the second quarter.

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  Six Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  Change 
          
Gross profit $12,410  $12,773   (2.8)%
Gross profit margin  17.9%  20.2%  (230)bp
SG&A expenses  7,161   7,511   (4.7)%
Income from operations  5,249   5,262   (0.2)%
Operating margin  7.6%  8.3%  (70)bp
Restructuring related charges  1,836   -   100%

Exit and Disposal Activity

On June 12, 2018, our board of directors announced the closure of our upholstery fabrics manufacturing facility in Anderson, South Carolina. This closure was completed during the second quarter of fiscal 2018 and was due to a continued decline in demand for the products manufactured at this facility, reflecting a change in consumer style preferences.

The following summarizes our restructuring credit and related charges totaling $(791) million that were associated with the above exit and disposal activity:

 
(dollars in thousands)
 
Three months ended
October 28,
2018
 
Gain on sale of equipment $(1,124)
Employee termination benefits  63 
Other operating costs associated with a closed facility  270 
  $(791)

Of this total net credit, a credit of $1.1 million and a charge of $270,000 were recorded in restructuring credit and cost of sales, respectively, in the Consolidated Statement of Net Income for the three-month period ending October 28, 2018.

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The following summarizes our restructuring credit and related charges totaling $1.2 million that were associated with the above exit and disposal activity:

 
(dollars in thousands)
 
Six months ended  October 28,
2018
 
Inventory markdowns $1,566 
Employee termination benefits  513 
Other operating costs associated with a closed facility  270 
Gain on sale of equipment  (1,124)
  $1,225 

Of this total net charge, a charge of $1.8 million and a credit of $610,000 were recorded in cost of sales and restructuring credit, respectively, in the Consolidated Statement of Net Income for the six-month period ending October 28, 2018.

Segment Assets

Segment assets consist of accounts receivable, inventory, and property, plant, and equipment.

(dollars in thousands) October 28, 2018  October 29, 2017  April 29, 2018 
Accounts receivable $13,622  $10,575  $11,112 
Inventory  20,765   21,126   24,714 
Property, plant & equipment  2,048   2,063   2,445 

Refer to Note 18 located in the notes to the consolidated financial statements for disclosures regarding determination of our segment assets.

Accounts Receivable

As of October 28, 2018, accounts receivable increased by $3.0 million or 28.8%, compared with October 29, 2017.  As of October 28, 2018, accounts receivable increased by $2.5 million or 22.6%, compared with April 29, 2018. The increase for the respective periods is due mostly to the increase in net sales noted above.

Inventory

Despite the increase in net sales in the second quarter and first half of fiscal 2019, inventory declined as of October 28, 2018, compared with October 29, 2017 and April 29, 2018. This is primarily due to the reduction in inventory associated with the closure of our upholstery fabrics operation located Anderson, SC in the second quarter of fiscal 2019.

Property, Plant & Equipment

The $2.0 million at October 28, 2018, represents property, plant, and equipment of $1.4 million and $636 located in the U.S. and China, respectively. The $2.1 million at October 29, 2017, represents property, plant, and equipment of $1.4 million and $722 located in the U.S. and China, respectively. The $2.4 million at April 29, 2018, represents property, plant, and equipment of $1.8 million and $661 located in the U.S. and China, respectively.
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Other Income Statement Categories

  Three Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  % Change 
SG&A expenses $10,103  $9,415   7.3%
Interest expense  18   37   (51.4)%
Interest income  151   128   18.0%
Other expense  142   321   (55.8)%


  Six Months Ended    
(dollars in thousands) October 28, 2018  October 29, 2017  % Change 
SG&A expenses $18,136  $18,916   (4.1)%
Interest expense  38   37   2.7%
Interest income  301   259   16.2%
Other expense  399   674   (40.8)%

Selling, General and Administrative Expenses

SG&A expenses increased during the second quarter of fiscal 2019 compared with the same period a year ago. This increase is primarily due to selling expenses associated with eLuxury, as this was their first full quarter of operations, partially offset by lower incentive compensation reflecting weaker financial results for the company in relation to pre-established targets.
SG&A expenses decreased during first half of fiscal 2019 compared with the same period a year ago due primarily to lower incentive compensation expense reflecting weaker financial results for the company in relation to pre-established financial targets, partially offset by selling expenses associated with eLuxury.

Interest Expense

Interest costs charged to operations were $38,000 and $137,000 for the six months ended October 28, 2018, and October 29, 2017, respectively.

No interest costs for the construction of qualifying fixed assets were capitalized for the six months ended October 28, 2018. Interest costs totaling $100,000 for the construction of qualifying fixed assets were capitalized for the six months ended October 29, 2017. These interest costs will be amortized over the related assets’ useful lives.

Interest Income

Interest income for the second quarter and first half of fiscal 2019 was comparable with the same respective periods of fiscal 2018. Our interest income is mostly associated with our investment grade U.S. corporate bonds located in the Cayman Islands.

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Other Expense

Other expense decreased for the second quarter and first half of fiscal 2019 compared with the same respective periods of fiscal 2018. This decrease was mostly due to more favorable foreign currency exchange rates associated with our operations located in China.

Income Taxes

Effective Income Tax Rate

We recorded income tax expense of $2.2 million, or 35.1% of income before income taxes, for the six- month period ended October 28, 2018, compared to income tax expense of $3.7 million, or 29.1% of income before income taxes, for the six-month period ended October 29, 2017. Our effective income tax rates for the six-month periods ended October 28, 2018, and October 29, 2017, were based upon the estimated effective income tax rate applicable for the full year after giving effect to any significant items related specifically to interim periods. The effective income tax rate can be affected over the fiscal year by the mix and timing of actual earnings from our U.S. operations and foreign subsidiaries located in China and Canada versus annual projections and changes in foreign currency exchange rates in relation to the U.S. dollar.

The following schedule summarizes the factors that contribute to the difference between income tax expense at the federal income tax rate and the effective income tax rate reflected in the consolidated financial statements:

  2019  2018 
Federal income tax rate  21.0%  34.0%
Foreign income tax rate differential  7.8   1.1 
Tax effects of Chinese foreign exchange (losses) gains  2.8   (1.5)
Global Intangible Low Taxed Income Tax (GILTI)  2.1   - 
Change in estimate of valuation allowance  1.2   0.7 
Excess income tax deficiency (benefits)        
related to stock-based compensation  0.5   (4.3)
Other  (0.3)  (0.9)
   35.1%  29.1%

2017 Tax Cuts and Jobs Act

On December 22, 2017, the Tax Cuts and Jobs Act (H.R.1) (the Tax Act) was signed into law. The key effects of the Tax Act on our financial statements during fiscal 2019 will be the reduction of our U.S federal statutory income tax rate to 21% compared with the blended statutory income tax rate of 30.4% during fiscal 2018 and the creation of the Global Intangible Low Taxed Income Tax (GILTI).

In order to calculate GILTI, provisional estimates were required based on (i) projection and estimates associated with U.S. and foreign pre-tax earnings and income tax expense for fiscal 2019, (ii) projections and estimates regarding certain assets that will be held in our domestic operations or foreign subsidiaries, and (iii) projections and estimates associated with our net sales with foreign jurisdictions. Our estimates may change based on actual versus projected results.

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Valuation Allowance

In accordance with ASC Topic 740, we evaluate our deferred income taxes to determine if a valuation allowance is required. ASC Topic 740 requires that companies assess whether a valuation allowance should be established based on the consideration of all available evidence using a “more-likely-than-not” standard, with significant weight being given to evidence that can be objectively verified. Since the company operates in multiple jurisdictions, we assess the need for a valuation allowance on a jurisdiction-by-jurisdiction basis, taking into account the effects of local tax law.

Refer to Note 19 located in the notes to the consolidated financial statements for disclosures regarding our assessments of our recorded valuation allowance as of October 28, 2018, October 29, 2017, and April 29, 2018, respectively.
Undistributed Earnings
In accordance with ASC Topic 740, we assess whether the undistributed earnings from our foreign subsidiaries will be reinvested indefinitely or eventually distributed to our U.S. parent company. ASC Topic 740 requires that a deferred tax liability should be recorded for undistributed earnings from foreign subsidiaries that will not be reinvested indefinitely. Also, we assess the recognition of U.S. foreign income tax credits associated with foreign withholding and income tax payments and whether it is more-likely-than-not that our foreign income tax credits will not be realized. If it is determined that any foreign income tax credits need to be recognized or it is more-likely-than-not our foreign income tax credits will not be realized, an adjustment to our provision for income taxes will be recognized at that time.

Refer to Note 19 located in the Notes to the Consolidated Financial Statements for disclosures regarding our assessments of our recorded deferred income tax liability balances associated with undistributed earnings from our foreign subsidiaries as of October 28, 2018, October 29, 2017, and April 29, 2018, respectively.

Uncertain Income Tax Positions

In accordance with ASC Topic 740, an unrecognized income tax benefit for an uncertain income tax position can be recognized in the first interim period if the more-likely-than-not recognition threshold is met by the reporting period, or is effectively settled through examination, negotiation, or litigation, or the statute of limitations for the relevant taxing authority to examine and challenge the tax position has expired. If it is determined that any of the above conditions occur regarding our uncertain income tax positions, an adjustment to our unrecognized income tax benefits will be recorded at that time.

Refer to Note 19 located in the Notes to the Consolidated Financial Statements for disclosures regarding our assessments of our uncertain income tax positions as of October 28, 2018, October 29, 2017, and April 29, 2018, respectively.

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Income Taxes Paid

We reported income tax expense of $2.2 million and $3.7 million for the six-month periods ending October 28, 2018 and October 29, 2017, respectively. In addition, our income tax payments totaled $4.0 million and $2.6 million for the same respective periods. Our income tax payments were associated with our foreign subsidiaries located in Canada and China. These payments increased during the first half of fiscal 2019 as compared with the same period a year ago, mostly due to a withholding tax payment of $862,000 associated with an earnings and profit distribution from our Canadian subsidiary and the first installment of our mandatory repatriation tax payment of $500,000 made in our second quarter.

As a result of the Tax Act noted above, we were required to calculate a one-time mandatory repatriation tax (the Transition Tax) for fiscal 2018 related to the transition of U.S. international tax from a worldwide tax system to a territorial tax system.  Consequently, we started making income tax payments associated with the Transition Tax in the second quarter fiscal 2019, which we elected to pay over a period of eight years. Additionally, as part of the Tax Act, we currently expect to elect out of using our U.S. Federal net loss operating carryforwards on our fiscal 2018 income tax returns, to offset the Transition Tax by fully utilizing our foreign tax credits. As a result, we expect to have approximately $7.0 million of U.S. Federal net loss operating carryforwards to apply against fiscal 2019 U.S. taxable income.  This fact, coupled with the lower U.S. corporate income tax rate and the immediate expensing of U.S. capital expenditures next year, is currently expected to result in minimal U.S. cash income taxes paid in fiscal 2019 (excluding the Transition Tax).

Liquidity and Capital Resources

Liquidity

Overall

Currently, our sources of liquidity include cash and cash equivalents, cash flow from operations, and amounts available under our revolving credit lines. These sources have been adequate for day-to-day operations, capital expenditures, debt payments, common stock repurchases, and dividend payments. We believe our present cash and cash equivalents of $14.8 million as of October 28, 2018, cash flow from operations, and the current availability ($30.7 million) under our revolving credit lines will be sufficient to fund our foreseeable business needs, contractual obligations, and potential acquisitions.

At October 28, 2018, our cash and investments (which comprise cash and cash equivalents, short-term investments (available for sale)), and short-term and long-term investments (held-to-maturity), totaled $41.5 million compared with $54.5 million at April 29, 2018.  Additionally, we did not have any outstanding borrowings on our lines of credit as of October 28, 2018.

The decrease in our cash and investments from the end of fiscal 2018 was primarily due to cash payments of $12.1 million for acquisitions, capital expenditures totaling $3.5 million (of which $1.4 million was vendor-financed) that were mostly associated with our mattress fabrics segment, $3.1 million returned to our shareholders primarily in the form of our regular quarterly cash dividend payments and common stock share repurchases, and $1.3 million in employee withholding tax payments associated with the vesting of certain stock-based compensation awards, partially offset by net cash provided by operating activities totaling $6.6 million.
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Our net cash provided by operating activities of $6.6 million during the first half of fiscal 2019 decreased from $10.2 million during the same period a year ago. This decrease is primarily due to the decrease in earnings, partially offset by a decrease in working capital requirements as a result of the decreased business volume noted above.

Our cash and cash equivalents and short-term investment (available for sale) balance may be adversely affected by factors beyond our control, such as lower net sales due to weakening industry demand and delays in receipt of payment on accounts receivable.

By Geographic Area

A summary of our cash and cash equivalents, short-term investments (available for sale), and short-term and long-term investments (held-to-maturity) by geographic area follows:

 
(dollars in thousands)
 
October 28,
2018
  
October 29,
2017
  
April 29,
2018
 
Cayman Islands $27,812  $39,004  $31,000 
China  9,898   6,153   10,537 
United States  2,302   3,275   9,221 
Canada  1,475   653   3,715 
  $41,487  $49,085  $54,473 
Currently, we are holding a significant amount of our cash and investments with our international holding company located in the Cayman Islands. Our cash and investments located in this jurisdiction stemmed from accumulated earnings and profits (totaling $57.5 million as of October 28, 2018) that were distributed from our subsidiary located in China.Of the $27.8 million held in the Cayman Islands, $26.7 million represents investment grade U.S. corporate bonds with maturities with less than one year (as of October 28, 2018), ranging from November 2018 through May 2019. These investments are classified as held-to-maturity as we have the positive intent and ability to hold these investments until maturity.

For fiscal 2019 and beyond, the Tax Act allows a U.S. corporation a 100% dividend received income tax deduction on earnings and profits repatriated to the U.S. from 10% owned foreign corporations. As a result, and as our U.S. corporate bonds mature, we plan to repatriate most or all of our earnings and profits residing in the Cayman Islands to the U.S. parent company.

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Common Stock Repurchase Program
On June 15, 2016, we announced that our board of directors approved an authorization for us to acquire up to $5.0 million of our common stock. Under the common stock repurchase program, shares may be purchased from time to time in open market transactions, block trades, through plans established under the Securities Exchange Act Rule 10b5-1, or otherwise. The amount of shares purchased and the timing of such purchases will be based on working capital requirements, market and general business conditions, and other factors, including alternative investment opportunities.
During the six month period ended October 28, 2018, we purchased 36,880 shares of our common stock at a cost of $844,000. During the six month period ended October 29, 2017, we did not purchase any shares of our common stock.
At October 28, 2018, we had $4.2 million available for repurchases of our common stock.
Dividend Program

On November 29, 2018, we announced that our board of directors approved an increase in the quarterly cash dividend from $0.09 to $0.10 per share. This payment will be made on or about January 16, 2019, to shareholders of record as of January 2, 2019.

During the six-months ended October 28, 2018, dividend payments totaled $2.3 million, which represented quarterly dividend payments of $0.09 per share. During the six-months ended October 29, 2017, dividend payments totaled $4.6 million, of which $2.6 million represented a special cash dividend payment of $0.21 per share, and $2.0 million represented quarterly dividend payments of $0.08 per share.

Future dividend payments are subject to board approval and may be adjusted at the board’s discretion as business needs or market conditions change.

Working Capital

Accounts receivable at October 28, 2018, totaling $24.4 million, were comparable with $24.2 million at October 29, 2017. Days’ sales outstanding were 28 days for the second quarter of fiscal 2019, compared with 27 days for the second quarter of fiscal 2018.

Inventories as of October 28, 2018, totaling $50.6 million, were comparable with $50.2 million at October 29, 2017. Inventory turns were 5.0 for the second quarter of fiscal 2019 compared with 5.2 for the second quarter of fiscal 2018.

Accounts payable-trade as of October 28, 2018, totaling $24.0 million, were comparable with $24.6 million at October 29, 2017.

Operating working capital (accounts receivable and inventories, less accounts payable-trade, accounts payable-capital expenditures, and deferred revenue) was $50.2 million at October 28, 2018, compared with $46.6 million at October 29, 2017. Operating working capital turnover was 6.3 during the second quarter of fiscal 2019 compared with 7.4 during the second quarter of fiscal 2018.
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Financing Arrangements
Currently, we have revolving credit agreements with banks for our U.S parent company and our operations located in China. The purposes of our revolving lines of credit are to support potential short-term cash needs in different jurisdictions, mitigate our risk associated with foreign currency exchange rate fluctuations, and ultimately repatriate earnings and profits from our foreign subsidiaries to the U.S. for various strategic purposes. Our revolving credit agreements require us to maintain compliance with certain financial covenants as defined in the respective agreements.
At October 28, 2018, we were in compliance with all our financial covenants.
Refer to Note 13 located in the notes to the consolidated financial statements for further details of our revolving credit agreements.

Capital Expenditures and Depreciation

Overall

Capital expenditures on a cash basis were $3.5 million (of which $1.4 million were vendor- financed) for the six-months ending October 28, 2018, compared with $7.5 million (of which $2.5 million were vendor-financed) for the same period a year ago. Capital expenditures mostly related to our mattress fabrics segment for both periods.

Depreciation expense was $4.1 million for the six-month period ending October 28, 2018 compared with $3.7 million for the six-month period ending October 29, 2017 and mostly related to the mattress fabrics segment.

For fiscal 2019, we are projecting capital expenditures to be in the range of $6.0 million to $6.5 million. Depreciation expense is projected to be approximately $8.0 million in fiscal 2019. The estimated capital expenditures and depreciation expense for fiscal 2019 mostly relates to the mattress fabrics segment. These are management’s current expectations only, and changes in our business could cause changes in plans for capital expenditures and expectations related to depreciation expense.

Accounts Payable – Capital Expenditures

At October 28, 2018, we had total amounts due regarding capital expenditures totaling $114,000, pertaining to outstanding vendor invoices, none of which were financed. The total amount outstanding of $114,000 is required to be paid based on normal credit terms.

Purchase Commitments – Capital Expenditures

At October 28, 2018, we had open purchase commitments to acquire equipment for our mattress fabrics segment totaling $826,000.

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Mattress Fabric Building

Effective May 16, 2016, we entered into an agreement with a contractor to construct a new building located in North Carolina to expand our distribution capabilities and office space at a cost of $11.3 million. This agreement required an installment payment of $1.9 million that was made in April 2016, with additional installment payments of $4.3 million that were made in fiscal 2017, $3.7 million that were made in fiscal 2018, and a final installment payment of $1.4 million made in May 2018 (first quarter of fiscal 2019). Interest was charged on the required outstanding installment payments for services that were previously rendered at a rate of $2.25% plus the current 30-day LIBOR rate.

Also, we were required to issue a letter of a credit totaling $5.0 million with the contractor’s bank being the beneficiary. In addition to the interest charged on the outstanding installment payments noted above, there was a 0.1% unused fee calculated on the balance of the $5.0 million letter of credit less the amount outstanding per month (see Note 13 for further details).

This new building was placed into service in July 2017 (first quarter of fiscal 2018).

Critical Accounting Policies and Recent Accounting Developments

At October 28, 2018, there were no changes in the nature of our significant accounting policies or the application of those policies from those reported in our annual report on Form 10-K for the year ended April 29, 2018.

Refer to Notes 2 and 5 located in the notes to the consolidated financial statements for recently adopted and issued accounting pronouncements since the filing of our Form 10-K for the year ended April 29, 2018.

Contractual Obligations
As of October 28, 2018, there were no significant or new contractual obligations from those reported in our annual report on Form 10-K for the year ended April 29, 2018.

Inflation

Any significant increase in our raw material costs, utility/energy costs and general economic inflation could have a material adverse impact on the company, because competitive conditions have limited our ability to pass significant operating cost increases on to customers.
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ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to market risk from changes in interest rates on our revolving credit lines.

At October 28, 2018August 4, 2019, our U.S. revolving credit agreement and subordinated loan payable requires interest to be charged at a rate (applicable interest rate of 3.75%3.68% at October 28, 2018)August 4, 2019) as a variable spread over LIBOR based on our ratio of debt to EBITDA as defined in the agreement. Our revolving credit line associated with our China subsidiaries bears interest at a rate determined by the Chinese government. There were no borrowings outstanding under our revolving credit lines at August 4, 2019. At August 4, 2019, we had total borrowings totaling $925,000 associated at October 28, 2018.with our subordinated loan payable between eLuxury and its minority owner.
 
We are exposed to market risk from changes in the value of foreign currencies for our subsidiaries domiciled in Canada and China. We try to maintain a natural hedge by keeping a balance of our assets and liabilities denominated in the local currency of our subsidiaries domiciled in Canada and China, although there is no assurance that we will be able to continually maintain this natural hedge. Our foreign subsidiaries use the United States dollar as their functional currency. A substantial portion of the company’s imports purchased outside the United States are denominated in U.S. dollars. A 10% change in the above exchange rates at October 28, 2018,August 4, 2019, would not have had a significant impact on our results of operations or financial position.

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ITEM 4.  CONTROLS AND PROCEDURES

We have conducted an evaluation of the effectiveness of our disclosure controls and procedures as of October 28, 2018,August 4, 2019, the end of the period covered by this report. This evaluation was conducted under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer. Based upon that evaluation, we have concluded that these disclosure controls and procedures are effective to ensure that information required to be disclosed in the reports filed by us and submitted under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized, and reported as and when required. Further, we concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed in reports filed by us under the Exchange Act is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, in a manner to allow timely decisions regarding the required disclosures.

There has been no change in our internal control over financial reporting that occurred during the quarter ended October 28, 2018,August 4, 2019, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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Part II – Other Information

Item 1. Legal Proceedings

There have not been any material changes to our legal proceedings during the three months ended October 28, 2018.August 4, 2019. Our legal proceedings are disclosed in the company’s annual report on Form 10-K filed with the Securities and Exchange Commission on July 13, 201812, 2019 for the fiscal year ended April 29, 2018.28, 2019.

Item 1A.  Risk Factors

A detailed discussion ofThere have not been any material changes to our risk factors is includedduring the three months ended August 4, 2019. Our risk factors are disclosed in Item 1A “Risk Factors” of our Annual Reportthe company’s annual report on Form 10-K filed with the Securities and Exchange Commission on July 13, 201812, 2019 for the fiscal year ended April 29, 2018.  The information presented below updates and should be read in conjunction with the risk factors and information disclosed in that Form 10-K.28, 2019.

Our business may be adversely affected by increased tariffs or other changes in U.S. policy related to imported products.

Many of our products are manufactured or sourced outside of the United States. The U.S. government has recently compiled a list of products under consideration for potential tariffs on imports from many countries, including China, where a significant amount of our products is produced. Any tariffs that result in increased costs of imported products and materials could require us to increase prices to our domestic customers or, if we are unable to do so, result in lowering our gross margins on products sold. As a result, the tariffs could have a material adverse effect on our results of operations. In addition to recent announcements about tariffs, the U.S. government is considering other proposals for substantial changes to its trade and tax policies, which could include import restrictions, increased import tariffs, changes to or withdrawal from existing trade agreements, and border-adjustment taxes, among other possible measures. Material changes in these policies could increase our tax obligations or require us to increase prices to customers, which could adversely affect sales. Any significant change in U.S. policy related to imported products could have a material adverse effect on our business and financial results.

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Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

ISSUER PURCHASES OF EQUITY SECURITIES

Period 
(a)
Total Number of Shares Purchased
  
(b)
Average Price Paid per Share
  
(c)
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
  
(d)
Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs (1)
 
July 30, 2018 to
September 2, 2018
  2,603   24.03   2,603  $4,865,640 
September 3, 2018 to
September 30, 2018
  8,000   23.55   8,000  $4,677,221 
October 1, 2018 to
October 28, 2018
  23,287   22.45   23,287  $4,154,528 
Total  33,890   22.83   33,890  $4,154,528 
Period
(a)
Total
Number
of Shares
Purchased
(b)
Average
Price Paid
per Share
(c)
Total Number of
Shares Purchased
as Part of
Publicly
Announced Plans
or Programs
(d)
Approximate
Dollar Value of
Shares that May
Yet Be Purchased
Under the Plans or
Programs (1)
April 29, 2019 to
June 2, 2019
---$1,684,362
June 3, 2019 to
June 30, 2019
---$1,684,362
July1, 2019 to
August 4, 2019
---$1,684,362
Total---$1,684,362

(1)On August 4, 2019, the $1.7 million available for repurchases of common stock was associated with the $5.0 million repurchase program approved by our board of directors on June 15, 2016,2016. On September 5, 2019, we announced that our board of directors increased theapproved an authorization for us to acquire up to $5.0 million of our common stock.


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Item 6.  Exhibits
 
The following exhibits are submitted as part of this report.

31.1
The following exhibits are submitted as part of this report.
10.1
Form of Annual Incentive Award Agreement
10.2
Form of Restricted Stock Unit Agreement for restricted stock units granted to executive officers  pursuant to the 2015 Equity Incentive Plan
31.1
Certification of Chief Executive Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
31.2
Certification of Chief Financial Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
32.1
Certification of Chief Executive Officer Pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
32.2
Certification of Chief Financial Officer Pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
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SIGNATURES

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


 CULP, INC.
 (Registrant) (Registrant)
   
   
Date: December 7, 2018September 13, 2019
By:
/s/ Kenneth R. Bowling
  Kenneth R. Bowling
  SeniorExecutive Vice President and Chief Financial Officer
  (Authorized to sign on behalf of the registrant
  and also signing as principal financial officer)


   

By:
/s/ Thomas B. Gallagher, Jr.
  Thomas B. Gallagher, Jr.
  Corporate Controller
  (Authorized to sign on behalf of the registrant
  and also signing as principal accounting officer)

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EXHIBIT INDEX


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EXHIBIT INDEX

Exhibit NumberExhibit






101.INS
XBRL Instance Document

101.SCH
XBRL Taxonomy Extension Schema Document

101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document

101.LAB
XBRL Taxonomy Extension Label Linkbase Document

101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document

101.DEF
XBRL Taxonomy Extension Definition Linkbase Document




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