Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Introduction
The following management’s discussion and analysis is intended to provide a better understanding of key factors, drivers and risks regarding the Company and the building wire industry.
Executive Overview
Encore Wire sells a commodity product in a highly competitive market. Management believes that the historical strength of the Company’s growth and earnings is in large part attributable to the following main factors:
• industry-leading order fill rates and responsive customer service;
• single-site, vertically integrated business model;
• deep supplier relationships for key raw materials;
• product innovations and product line expansions based on listening to and understanding customer needs and market trends;
• low cost manufacturing operations, resulting from a state-of-the-art manufacturing complex;
• low distribution and freight costs due in large part to the “one campus” business model;
• a focused management team leading a skilled work force; and
• a team of experienced independent manufacturers’ representatives with strong customer relationships across the United States.
These factors, and others, have allowed Encore Wire to grow from a startup in 1989 to what management believes is one of the largest electric building wire companies in the United States of America. Encore has built a loyal following of customers throughout the United States. These customers have developed a brand preference for Encore Wire in a commodity product line due to the reasons noted above, among others. The Company prides itself on striving to grow sales by expanding its product offerings where profit margins are acceptable. Senior management monitors gross margins daily, frequently extending down to the individual order level. Management strongly believes that this “hands-on” focused approach to the building wire business has been an important factor in the Company's success, and will lead to continued success.
Investment in residential, commercial, and industrial infrastructure drives demand for the Company’s wire and cable products. In 2023, pounds shipped increased 6.7% in copper wire versus 2022. In 2022, pounds shipped increased 7.9% in copper wire versus 2021. In 2021, pounds shipped increased 10.8% in copper wire versus 2020.
General
The Company’s operating results are driven by several key factors, including the volume of product produced and shipped, the cost of copper and other raw materials, the competitive pricing environment in the wire industry and the
resulting influence on gross margins, and the efficiency with which the Company’s plants operate during the period, among others. Price competition for electrical wire and cable is significant and the Company sells its products in accordance with prevailing market prices. Copper, a commodity product, is the principal raw material used by the Company in manufacturing its products. The price of copper fluctuates, depending on general economic conditions, in relation to supply and demand, and other factors, which causes monthly variations in the cost of copper purchased by the Company. Additionally, the SEC allows shares of physically backed copper exchange traded funds (“ETFs”) to be listed and publicly traded. Such funds and other copper ETFs like it hold copper cathode as collateral against their shares. The acquisition of copper cathode by Copper ETFs may materially decrease or interrupt the availability of copper for immediate delivery in the United States, which could materially increase the Company’s cost of copper. In addition to rising copper prices and potential supply shortages, we believe that ETFs and similar copper-backed derivative products could lead to increased price volatility for copper. The Company cannot predict copper prices in the future or the effect of fluctuations in the cost of copper on the Company’s future operating results. Wire prices can, and frequently do change on a daily basis. This competitive pricing market for wire does not always mirror changes in copper prices, making margins highly . Historically, the cost of aluminum has been much lower and less than copper. The tables below highlight the range of prices of copper on the COMEX exchange for the periods shown.
COMEX COPPER CLOSING PRICE 2023
October
November
December
Quarter Ended
Dec. 31, 2023
Year-to-Date
Dec. 31, 2023
High
Low
Average
COMEX COPPER CLOSING PRICE 2022
October
November
December
Quarter Ended
Dec. 31, 2022
Year-to-Date
Dec. 31, 2022
High
Low
Average
COMEX COPPER CLOSING PRICE 2021
October
November
December
Quarter Ended
Dec. 31, 2021
Year-to-Date
Dec. 31, 2021
High
Low
Average
COMEX COPPER CLOSING PRICE 2023 by Quarter
Quarter Ended
March 31, 2023
Quarter Ended
June 30, 2023
Quarter Ended
Sept. 30, 2023
Quarter Ended
Dec. 31, 2023
Year-to-Date
Dec. 31, 2023
High
Low
Average
COMEX COPPER CLOSING PRICE 2022 by Quarter
Quarter Ended
March 31, 2022
Quarter Ended
June 30, 2022
Quarter Ended
Sept. 30, 2022
Quarter Ended
Dec. 31, 2022
Year-to-Date
Dec. 31, 2022
High
Low
Average
Results of Operations
The following table presents certain items of income and expense as a percentage of net sales for the periods indicated.
Year Ended December 31,
Net sales
Cost of goods sold:
Copper
Other raw materials
Depreciation
Labor and overhead
LIFO adjustment
Total cost of goods sold
Gross profit
Selling, general and administrative expenses
Operating income
Net interest and other income
Income before income taxes
Provision for income taxes
Net income
The following discussions and analyses relate to factors that have affected the operating results of the Company for the years ended December 31, 2023, 2022 and 2021. Reference should also be made to the Financial Statements and the related notes included under “Item 8. Financial Statements and Supplementary Data” of this Annual Report. Additional information about results for year end 2021 and certain year-on-year comparisons between 2022 and 2021 can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022.
Net sales for the twelve months ended December 31, 2023 were $2.568 billion compared to $3.018 billion during the same period in 2022 and $2.593 billion during the same period in 2021. Copper unit volume, measured in pounds of copper contained in the wire sold, increased 6.7% in the year ended December 31, 2023 versus the year ended December 31, 2022. The 14.9% decrease in net sales dollars in 2023 versus 2022 was primarily the result of a 12.3% decrease in copper wire sales, driven by a 17.8% decrease in the average selling price of copper wire, partially offset by a 6.7% increase in copper wire pounds shipped. Additionally, aluminum net sales represented 12.9% of net sales for the year ended December 31, 2023 compared to 15.4% for the year ended December 31, 2022. The 16.4% increase in net sales dollars in 2022 versus 2021 was primarily the result of a 7.4% increase in copper wire sales, driven by a 7.9% increase in copper wire pounds shipped, partially offset by a 0.5% decrease in the average selling price of copper wire due to moderate decreases in copper commodity prices in the trailing six months of 2022.
Cost of goods sold was $1.912 billion, or 74.5% of net sales, in 2023 versus $1.905 billion, or 63.1% of net sales, in 2022 and $1.725 billion, or 66.5% of net sales in 2021. Gross profit decreased to $655.9 million, or 25.5% of net sales in 2023, compared to $1.112 billion, or 36.9% of net sales, in 2022 and $867.7 million, or 33.5% of net sales, in 2021.
Gross profit percentage for the twelve months ended December 31, 2023 was 25.5% compared to 36.9% during the same period in 2022 and 33.5% during the same period in 2021. The average selling price of wire per copper pound sold decreased 17.8% in the twelve months ended December 31, 2023 versus the twelve months ended December 31, 2022, while the average cost of copper per pound purchased decreased 3.7%. The overall increase in total volumes shipped, offset by an anticipated decrease in the average sales price during 2023, resulted in the decreased gross profit margin for the full year of 2023 when compared to 2022. The average selling price of wire per copper pound sold decreased 0.5% in the twelve months ended December 31, 2022 versus the twelve months ended December 31, 2021, while the average cost of copper per pound purchased decreased 2.7%.
Net income for the twelve months ended December 31, 2023 was $372.4 million versus $717.8 million in the same period in 2022 and $541.4 million in the same period in 2021. Fully diluted net earnings per common share were $21.62 in the twelve months ended December 31, 2023 versus $36.91 in the same period in 2022 and $26.22 in the same period in 2021.
Inventories consist of the following at December 31 (in thousands):
Raw materials
Work-in-process
Finished goods
Total
Adjust to LIFO cost
Inventory
The quantity of total copper inventory on hand in 2023 was consistent with our quantity of total copper inventory on hand in 2022. The other materials category, which includes a large number of raw materials, had quantity and price changes that included increases and decreases in various other materials. This resulted in a last-in, first-out (LIFO) method adjustment decreasing cost of sales by $1.8 million in 2023. We utilize the LIFO method because it results in a better matching of costs and revenues.
The quantity of total copper inventory on hand increased in 2022, compared to 2021. The other materials category, which includes a large number of raw materials, had quantity changes that included increases and decreases in various other materials. This resulted in a LIFO method adjustment decreasing cost of sales by $19.1 million in 2022.
Based on copper and other raw material prices, there were no lower of cost or market (LCM) adjustments necessary in the periods presented above.
Gross profit was $655.9 million, or 25.5% of net sales, in 2023 compared to $1.112 billion, or 36.9% of net sales, in 2022 and $867.7 million, or 33.5% of net sales, in 2021. The changes in gross profit were due to the factors discussed above.
Selling expenses, which are made up of freight and sales commissions, were $115.2 million in 2023, $133.7 million in 2022 and $109.5 million in 2021. Freight costs decreased in 2023 as a result of a decrease in overall freight rates compared to 2022. In 2022, freight costs increased as a result of increased sales volumes and an increase in overall freight rates, as compared to 2021. Commission costs decreased commensurate with the sales dollar decrease. As a percentage of net sales, selling expenses were 4.5% in 2023, 4.4% in 2022, and 4.2% in 2021. General and administrative expenses were $90.6 million in 2023, $63.7 million in 2022 and $57.6 million in 2021. As a percentage of net sales, general and administrative expenses were 3.5% in 2023 versus 2.1% in 2022 and 2.2% in 2021. Accounts receivable write-offs were $45 thousand in 2023 and zero in 2022 and 2021. The Company decreased the reserve for credit losses in 2023 by $1.3 million, did not record a reserve for credit losses in 2022, and increased the reserve by $1.5 million in 2021.
Net interest and other income was $33.3 million in 2023, $9.8 million in 2022 and $0.2 million in 2021. Both the increase in 2023 and 2022 reflect the economic impact of the pandemic and its effect on interest rates during the years and the resulting interest earned.
Our effective tax rate was 23.2% in 2023, 22.4% in 2022 and 22.6% in 2021. The differences between the provisions for income taxes and the income taxes computed using the federal income tax statutory rate are primarily due to state taxes and non-deductible expenses.
As a result of the foregoing factors, the Company’s net income was $372.4 million in 2023, $717.8 million in 2022 and $541.4 million in 2021.
Liquidity and Capital Resources
The following table summarizes the Company’s cash flow activities (in thousands):
Year Ended December 31,
Net cash provided by operating activities
Net cash used in investing activities
Net cash used in financing activities
Net increase in cash and cash equivalents
Annual dividends paid
The Company maintains a substantial inventory of finished products to satisfy customers’ prompt delivery requirements. As is customary in the industry, the Company provides payment terms to most of its customers that exceed terms that it receives from its suppliers. In general, the Company’s standard payment terms result in the collection of a significant majority of net sales within approximately 75 days of the date of the invoice. Therefore, the Company’s liquidity needs have generally consisted of working capital necessary to finance receivables and inventory. Capital expenditures have historically been necessary to expand and update the production capacity of the Company’s manufacturing operations. The Company has historically satisfied its liquidity and capital expenditure needs with cash generated from operations and borrowings under its various debt arrangements. We believe that the Company has sufficient liquidity, and will continue to have sufficient liquidity beyond the short-term outlook.
At December 31, 2023 and 2022, the Company had no debt outstanding.
On February 9, 2021, the Company terminated its previous credit agreement and entered into a new Credit Agreement (the “2021 Credit Agreement”) with two banks, Bank of America, N.A., as administrative agent and letter of credit issuer, and Wells Fargo Bank, National Association, as syndication agent. The 2021 Credit Agreement extends through February 9, 2026 and provides for maximum borrowings of $200.0 million. At our request and subject to certain conditions, the commitments under the 2021 Credit Agreement may be increased by a maximum of up to $100.0 million as long as existing or new lenders agree to provide such additional commitments.
The 2021 Credit Agreement contains provisions to replace LIBOR with a replacement rate as described in the 2021 Credit Agreement. On October 20, 2022, the Company entered into the First Amendment to the 2021 Credit Agreement (the “Amended 2021 Credit Agreement”) which replaced LIBOR with BSBY as permitted under the 2021 Credit Agreement. Borrowings under the line of credit bear interest, at the Company’s option, at either (1) BSBY plus a margin that varies from 1.000% to 1.875% depending upon the Leverage Ratio (as defined in the 2021 Credit Agreement), or (2) the base rate (which is the highest of the federal funds rate plus 0.5%, the prime rate, or BSBY plus 1.0%) plus 0% to 0.375% (depending upon the Leverage Ratio). A commitment fee ranging from 0.20% to 0.325% (depending upon the Leverage Ratio) is payable on the unused line of credit. At December 31, 2023, there were no borrowings outstanding under the Amended 2021 Credit Agreement, and letters of credit outstanding in the amount of $0.3 million left $199.7 million of credit available under the Amended 2021 Credit Agreement. Obligations under the Amended 2021 Credit Agreement are the only contractual borrowing obligations or commercial borrowing commitments of the Company.
Obligations under the Amended 2021 Credit Agreement are unsecured and contain customary covenants and events of default. The Company was in compliance with the covenants as of December 31, 2023.
The Company paid interest totaling $0.4 million in 2023, 2022 and 2021, respectively, none of which was capitalized.
On November 10, 2006, the Board of Directors approved a stock repurchase program authorizing the Company to repurchase up to an authorized number of shares of its common stock from time to time in the open market or private transactions at the Company's discretion. This authorization originally expired on December 31, 2007, and the Company’s Board of Directors has authorized several increases and annual extensions of this stock repurchase program, most recently in June 2023, authorizing the repurchase of up to 2,000,000 shares of our common stock. A s of December 31, 2023,
813,617 shares remained authorized for repurchase through March 31, 2024. Under this program, the Company repurchased 2,661,792 shares of its stock in 2023, 2,055,470 shares in 2022, and 475,557 shares in 2021.
Subsequently, in February 2024, the Board of Directors extended the repurchase authorization for up to 2,000,000 shares of our common stock through March 31, 2025.
Net cash provided by operations decreased $233.7 million to $455.2 million in 2023 compared to $688.9 million in 2022 and $418.4 million in 2021. The decrease in cash provided by operations of $233.7 million in 2023 versus 2022 was due to several factors. Net income decreased to $372.4 million in 2023 from $717.8 million in 2022. Accounts receivable decreased $22.1 million in 2023 compared to increasing $7.6 million in 2022, resulting in a positive impact to cash flow of $29.7 million. Inventory, net increased $10.5 million in 2023 compared to increasing $52.4 million in 2022, producing a positive impact to cash flow of $41.9 million. Trade accounts payable and accrued liabilities positively impacted cash by $1.1 million in 2023 versus negatively impacting cash by $12.0 million in 2022, a positive swing of $13.1 million. These changes in cash flow were the primary drivers of the $233.7 million decrease in net cash flow provided by operations in 2023 versus 2022.
Net cash provided by operations increased $270.5 million to $688.9 million in 2022 compared to $418.4 million in 2021. The increase in cash provided by operations of $270.5 million in 2022 versus 2021 was due to several factors. Net income increased to $717.8 million in 2022 from $541.4 million in 2021. Accounts receivable increased $7.6 million in 2022 compared to increasing $216.8 million in 2021, resulting in a positive impact to cash flow of $209.2 million. Inventory, net increased $52.4 million in 2022 compared to increasing $8.5 million in 2021, producing a negative impact to cash flow of $43.9 million. Trade accounts payable and accrued liabilities negatively impacted cash by $12.0 million in 2022 versus favorably impacting cash by $66.9 million in 2021, a negative swing of $78.9 million. These changes in cash flow were the primary drivers of the $270.5 million increase in net cash flow provided by operations in 2022 versus 2021.
Net cash used in investing activities was $164.5 million in 2023 versus $148.4 million in 2022 and $118.2 million in 2021. In 2023, capital expenditures were used primarily for the purchase and installation of machinery and equipment throughout the Company. The construction of our new, state of the art, cross-link polyethylene (XLPE) compounding facility, which deepens our vertical integration related to wire and cable insulation, was completed in 2023. In 2022 and 2021, capital expenditures were used primarily for repurposing of our vacated distribution center, the construction of our new service center, and the purchase and installation of machinery and equipment throughout the Company.
The net cash used by financing activities of $460.6 million in 2023 consisted primarily of $460.2 million used to purchase Company stock and dividend payments of $1.4 million, partially offset by $0.9 million proceeds from issuance of Company stock related to employees exercising stock options. The net cash used by financing activities of $249.0 million in 2022 consisted primarily of $247.6 million used to purchase Company stock and dividend payments of $1.5 million, partially offset by $0.2 million proceeds from issuance of Company stock related to employees exercising stock options. The net cash used by financing activities of $44.4 million in 2021 consisted primarily of $43.3 million used to purchase Company stock and dividend payments of $1.6 million, partially offset by $1.1 million proceeds from issuance of Company stock related to employees exercising stock options.
In 2022 we began construction on a new, state of the art, cross-link polyethylene (XLPE) compounding facility to deepen vertical integration related to wire and cable insulation. XLPE insulation is used in many applications including Data Centers, Oil and Gas, Transit, Waste-Water Treatment facilities, Utilities and Wind and Solar applications. The new facility is substantially completed, with start-up and optimization now in progress. Capital spending in 2024 through 2026 will further expand vertical integration in our manufacturing processes to reduce costs as well as modernize select wire manufacturing facilities to increase capacity and efficiency and improve our position as a sustainable and environmentally responsible company. Total capital expenditures were $148.4 million in 2022 and $164.5 million in 2023. Total capital expenditures are expected to range from $130 - $150 million in 2024, $130 - $150 million in 2025, and $100 - $120 million in 2026. These investments are expected to be funded with existing cash reserves and operating cash flows.
As of December 31, 2023, the Company had contractual obligations of $226.0 million, consisting of open purchase orders for major raw material purchases and $65.4 million of purchase orders for capital expenditures.
Critical Accounting Policies and Estimates
Management’s discussion and analysis of its financial condition and results of operations are based upon the Company’s financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S.
The preparation of these financial statements requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. See Note 1 to the Financial Statements included under “Item 8. Financial Statements and Supplementary Data” of this annual report. Management believes the following critical accounting policies affect its more significant estimates and assumptions used in the preparation of its financial statements.
Inventories are stated at the lower of cost, using the LIFO method, or market. The Company maintains two inventory pools for LIFO purposes. As permitted by U.S. generally accepted accounting principles, the Company maintains its inventory costs and cost of goods sold on a first-in, first-out (FIFO) basis and makes a monthly adjustment to adjust total inventory and cost of goods sold from FIFO to LIFO. The Company applies the LCM test by comparing the LIFO cost of its raw materials, work-in-process and finished goods inventories to estimated market values, which are based primarily upon the most recent quoted market price of copper and other raw materials and finished wire prices as of the end of each reporting period. The Company performs an LCM calculation quarterly. As of December 31, 2023, no LCM adjustment was required. However, decreases in copper and other material prices could necessitate establishing an LCM reserve in future periods. Additionally, future reductions in the quantity of inventory on hand could cause copper or other raw materials that are carried in inventory at costs different from the cost of copper and other raw materials in the period in which the reduction occurs to be included in costs of goods sold for that period at the different price.
Revenue from the sale of the Company’s products is recognized when goods are shipped to the customer, title and risk of loss are transferred, pricing is fixed or determinable, and collection is reasonably assured. A provision for payment discounts and customer rebates is estimated based upon historical experience and other relevant factors and is recorded within the same period that the revenue is recognized.
The Company has provided an allowance for credit losses on customer receivables based upon estimates of those customers’ inability to make required payments. Such allowance is established and adjusted based upon the makeup of the current receivable portfolio, past bad debt experience, and current market conditions. If the financial condition of our customers was to deteriorate and impair their ability to make payments to the Company, additional allowances for losses might be required in future periods.
Recent Accounting Pronouncements
The Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) is the sole source of authoritative U.S. GAAP, along with the Securities and Exchange Commission ("SEC") and Public Company Accounting Oversight Board (“PCAOB”) issued rules and regulations that apply only to SEC registrants. The FASB issues an Accounting Standard Update (“ASU”) to communicate changes to the codification. The Company considers the applicability and impact of all ASUs. No new standards were adopted in 2023.
Information Regarding Forward-Looking Statements
This report contains various forward-looking statements and information that are based on management’s belief as well as assumptions made by and information currently available to management. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Such statements are subject to certain risks, uncertainties and assumptions. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those expected.
Among the key factors that may have a direct bearing on the Company’s operating results and stock price are:
• fluctuations in the global and national economy;
• the impact of a global pandemic;
• fluctuations in the level of activity in the construction industry, including remodeling;
• demand for the Company’s products;
• the impact of price competition on the Company’s margins;
• fluctuations in the price of copper, aluminum and other key raw materials;
• the loss of key manufacturers’ representatives who sell the Company’s product line;
• fluctuations in utility costs, especially electricity and natural gas, and freight costs;
• fluctuations in insurance costs and the availability of coverage of various types;
• weather related disasters at the Company’s and/or key vendor’s operating facilities;
• stock price fluctuations due to “stock market expectations” and other external variables;
• unforeseen future legal issues and/or government regulatory changes;
• changes in tax laws;
• patent and intellectual property disputes; and
• fluctuations in the Company’s financial position or national banking issues that impede the Company’s ability to obtain reasonable and adequate financing.
This list highlights some of the major factors that could affect the Company’s operations or stock price, but cannot enumerate all the potential issues that management faces on a daily basis, many of which are totally out of management’s control. For further discussion of the factors described herein and their potential effects on the Company, see “Item 1. Business,” “Item 1A. Risk Factors,” “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Item 7A. Quantitative and Qualitative Disclosures About Market Risk.”
