Culp, Inc. - 10-K annual report 2019

Portions of the registrant’s Proxy Statement to be filed pursuant to Regulation 14A of the Securities and Exchange Commission in connection with its Annual Meeting of Shareholders to be held on September 26, 2019 are incorporated by reference into Part III of this Form 10-K.

Parts I and II of this report 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 project 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 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 the “Risk Factors” section of this report in Item 1A. A forward-looking statement is neither a prediction nor a guarantee of future events or circumstances, and those future events or circumstances may not occur.

Overview

General Information

Segments

Our three operating segments are mattress fabrics, upholstery fabrics, and home accessories. The following table sets forth certain information for each of our segments.

Additional financial information about our operating segments can be found in Note 21 to the Consolidated Financial Statements included in Item 8 of this report.

Overview of Industry and Markets

Overview of Bedding Industry

Overview of Residential and Commercial Furniture Industry

Products

With the acquisition of Read Window Products at the end of fiscal 2019, the upholstery fabrics business also markets a variety of window treatment products and installation services for customers in the hospitality and commercial industries.  These products include roller & solar shades, drapery, roman shades and top treatments, hardware products, and soft goods such as duvet covers, bed skirts, bolsters and pillows.

The home accessories segment markets a variety of bedding accessory and home good products, including mattress pads and protectors, sheet sets, pillows, comforters, duvet covers, towels, fabric by the yard, and dog beds.  Our mattress pad products include a variety of styles, including bamboo pads, cooling pads, pressure relief pads, pillowtop and memory foam pads, at a variety of price points.

Product Design and Styling

Distribution

Sources and Availability of Raw Materials

Seasonality

The mattress fabrics business and the bedding industry in general are slightly seasonal, with sales being the highest in early spring and late summer, with another peak in mid-winter.

Competition

Environmental and Other Regulations

Our operations involve a variety of materials and processes that are subject to environmental regulation. Under current law, environmental liability can arise from previously owned properties, leased properties and properties owned by third parties, as well as from properties currently owned and leased by the company. Environmental liabilities can also be asserted by adjacent landowners or other third parties in toxic tort litigation.

In addition, under the Comprehensive Environmental Response, Compensation, and Liability Act of 1980, as amended (“CERCLA”), and analogous state statutes, liability can be imposed for the disposal of waste at sites targeted for cleanup by federal and state regulatory authorities. Liability under CERCLA is strict as well as joint and several.

The U.S. Congress is considering legislation to address climate change that is intended to reduce overall greenhouse gas emissions, including carbon dioxide. In addition, the U.S. Environmental Protection Agency has made a determination that greenhouse gas emissions may be a threat to human health and the environment. International agreements may also result in new regulations on greenhouse gas emissions. It is uncertain if, when, and in what form, a mandatory carbon dioxide emissions reduction program may be enacted either through legislation or regulation. However, if enacted, this type of program could materially increase our operating costs, including costs of raw materials, transportation, and electricity. It is difficult to predict the extent to which any new rules or regulations would affect our business, but we would expect the effect on our operations to be similar to that for other manufacturers, particularly those in our industry.

We are periodically involved in environmental claims or litigation and requests for information from environmental regulators. Each of these matters is carefully evaluated, and the company provides for environmental matters based on information presently available. Based on this information, we do not currently believe that environmental matters will have a material adverse effect on either the company’s financial condition or results of operations. However, there can be no assurance that the costs associated with environmental matters will not increase in the future.

Employees

As of April 28, 2019, we had 1,440 employees, compared to 1,392 at April 29, 2018.  Overall, our total number of employees has increased steadily over the past five years primarily due to the growth in our mattress fabrics segment. The decrease in the number of employees in our upholstery fabrics segment can be attributed to the closure of our Anderson, SC facility during the second quarter of fiscal 2019.  The number of employees in our home accessories segment can be attributed to our June 2018 investment in eLuxury, LLC.

The hourly employees at our manufacturing facility in Canada (approximately 11% of the company’s workforce) are represented by a local, unaffiliated union.  The collective bargaining agreement for these employees expires on February 1, 2020.  We are not aware of any efforts to organize any more of our employees, and we believe our relations with our employees are good.

The following table illustrates the changes in the location of our workforce and number of employees, as of year-end, over the past five fiscal years.

Customers and Sales

Our major customers for upholstery fabrics are leading manufacturers of upholstered furniture, including Ashley, Flexsteel, Franklin Fusion, Jonathan Louis, and La-Z-Boy (La-Z-Boy Residential and England).  Major customers for the company’s fabrics for commercial furniture include HON Industries and Wyndham Destinations. Our largest customer in the upholstery fabrics segment is La-Z-Boy Incorporated, which accounted for approximately 11% of the company’s consolidated sales in fiscal 2019.

Our customers consist primarily of consumers purchasing through our online sales channels, as well as business retailers in the home goods market and customers in the hospitality industry, with no major customers. Our online sales channels include our own eLuxury-branded website, as well as leading online retail channels for specialty home goods, and the loss of one or more of these leading online retail channels could have a material adverse effect on the company.

The following table sets forth our net sales by geographic area by amount and percentage of total net sales for the three most recent fiscal years.

Net Sales by Geographic Area

(dollars in thousands)

⁽¹⁾  Of this amount, $22.5 million, $21.9 million, and $22.3 million are attributable to shipments to Mexico in fiscal 2019, 2018, and 2017, respectively.

⁽²⁾  Of this amount, $29.8 million, $32.6 million, and $26.6 million are attributable to shipments to China in fiscal 2019, 2018, and 2017, respectively.

Sales are attributed to individual countries based upon the location that the company ships its products to for delivery to customers.

For additional segment information, including the geographic location of long-lived assets, see Note 21 in the consolidated financial statements.

Backlog

The backlog for the mattress fabric and home accessories segments is not a reliable predictor of future shipments because the majority of sales for the mattress fabrics segment are on a just-in-time basis, and the majority of sales for the home accessories segment are shipments from inventory on a quick turnaround basis.

Although it is difficult to predict the amount of backlog that is “firm,” we have reported the portion of the upholstery fabric backlog from customers with confirmed shipping dates within five weeks of the end of the fiscal year.  On April 28, 2019, the portion of the upholstery fabric backlog with confirmed shipping dates prior to June 3, 2019 was $10.7 million, all of which are expected to be filled during the first quarter of fiscal 2020, compared with $9.4 million as of the end of fiscal 2018 (for confirmed shipping dates prior to June 4, 2018).

Intellectual Property

We currently hold, or have registration applications pending for, numerous trademarks and copyrights for various product and trade names, logos, and fabric designs in the United States and certain foreign countries. We view such intellectual property, along with any unregistered copyrights, trademarks, service marks, trade names, domain names, trade dress, trade secrets, and proprietary technologies, as an important part of our business, and we seek to diligently protect, monitor, and defend, through appropriate action, against their unauthorized use.

Our business is subject to risks and uncertainties.  In addition to the matters described above under “Cautionary Statement Concerning Forward-Looking Information,” set forth below are some of the risks and uncertainties that could cause a material adverse change in our results of operations or financial condition.  The risks described below are not the only risks we face.  Additional risks and uncertainties not presently known to us or not presently deemed material by us also may materially adversely affect our business, financial condition or results of operations in future periods.

Continued economic uncertainty could negatively affect our sales and earnings.

Overall demand for our products depends upon consumer demand for furniture, bedding, and bedding accessory products, which is subject to variations in the general economy.  Because purchases of furniture, bedding and bedding accessory products are discretionary purchases for most individuals and businesses, demand for these products is sometimes more easily influenced by economic trends than demand for other products.  Economic downturns and uncertainty can affect consumer spending habits and demand for home furnishings, which reduces the demand for our products and therefore can cause a decrease in our sales and earnings.  Economic uncertainty has caused a decrease in consumer spending and demand for home furnishings, including goods that incorporate our products.  If these conditions persist, our business will be negatively affected.

Greater reliance on offshore operations and foreign sources of products or raw materials increases the likelihood of disruptions to our supply chain or our ability to deliver products to our customers on a timely basis.

We rely significantly on operations in distant locations, especially China, and in addition we have been purchasing a significant share of our products and raw materials from offshore sources, particularly Asia and Turkey.  At the same time, with the closure of our Anderson, South Carolina plant during the first half of fiscal 2019, our domestic manufacturing capacity for the upholstery fabrics segment continues to decline.  These changes have caused us to rely on a much longer supply chain and on a larger number of suppliers that we do not control, both of which are inherently subject to greater risks of delay or disruption.  In addition, operations and sourcing in foreign areas are subject to the risk of changing local governmental rules, taxes, changes in import rules or customs, tariffs, shipping rates, potential political unrest and instability, or other threats that could disrupt or increase the costs of operating in foreign areas or sourcing products overseas.  Changes in the value of the U.S. dollar versus other currencies can 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 can have a negative impact on our sales of products produced in those countries.  Any of the risks associated with foreign operations and sources could cause unanticipated increases in operating costs or disruptions in business, which could negatively impact our ultimate financial results.

Our business faces several risks associated with doing business in China

We source a variety of fabrics from a limited number of strategic suppliers in China, and we operate three upholstery manufacturing facilities in Shanghai, China.  The Chinese economy is characterized by extensive state ownership, control, and regulation.  Therefore, our business is continually subject to the risk of changes in Chinese laws and regulations that could have an adverse effect on our suppliers and manufacturing operations.  Any changes in policies governing tariffs, imports and exports, taxation, inflation, environmental regulations, foreign currency exchange rates, the labor market, property, and financial regulations could have an adverse effect on our business.  Further, the Chinese legal system is continuing to develop and evolve, and the enforcement of rules and regulations is not always consistent or uniform.  Moreover, any potential civil unrest, natural disasters, or other threats could disrupt or increase the costs of operating in China.  The Chinese economy poses additional risks to our business, including fluctuating rates of inflation and currency exchange rates, a declining labor force participation rate, and rising employee wages.  In addition, changes in the political climate or trade policy of the United States, such as increased duties or tariffs on Chinese imports, may adversely affect our business.  Any of the risks associated with our Chinese operations and sources could cause unanticipated increases in operating costs or disruptions in business, which could negatively impact our ultimate financial results.

We may have difficulty managing the outsourcing arrangements being used for products and services.

We rely on outside sources for various products and services, including yarn and other raw materials, greige (unfinished) fabrics, finished fabrics, and services such as weaving and finishing.  Increased reliance on outsourcing lowers our capital investment and fixed costs, but it decreases the amount of control that we have over certain elements of our production capacity.  Interruptions in our ability to obtain raw materials or other required products or services from our outside suppliers on a timely and cost-effective basis, especially if alternative suppliers cannot be immediately obtained, could disrupt our production and damage our financial results.

Write-offs or write-downs of assets would result in a decrease in our earnings and shareholders’ equity.

The company has long-lived assets, primarily consisting of property, plant and equipment, goodwill, and other intangible assets.  ASC Topic 360 establishes an impairment accounting model for long-lived assets such as property, plant, and equipment and requires the company to assess for impairment whenever events or changes in circumstances indicate that the carrying value of the asset may not be recovered.  ASC Topic 350 requires that goodwill and other intangible assets be tested at least annually for impairment or whenever events or changes in circumstances indicate that the carrying value of the asset may not be recovered.

Although no material write-downs were experienced in the past several fiscal years, we closed our Anderson, South Carolina upholstery fabrics facility during the second quarter fiscal 2019. As a result of this plant closure, we recorded inventory markdowns totaling $1.6 million, which was mostly offset by a gain on the sale of property, plant, and equipment of $1.5 million.

Since April 1, 2019, our goodwill increased $15.7 million in connection with our acquisitions of Read Window Products, LLC and eLuxury, LLC.  As of April 28, 2019, our evaluation resulted in no impairment losses. Management will continue to carefully review this assessment and impairment indicators each quarter.

Identifying and assessing whether impairment indicators exist, or if events or changes in circumstances have occurred, including market conditions, operating results, competition and general economic conditions, requires significant judgment. Any of such future actions could result in charges that could have an adverse effect on our financial condition and results of operations, and there is no assurance that future write-downs of fixed assets, goodwill, or other intangible assets will not occur if business conditions were to deteriorate.

Changes in the price, availability, and quality of raw materials could increase our costs or cause production delays and sales interruptions, which would result in decreased earnings.

We depend upon outside suppliers for most of our raw material needs, and we rely upon outside suppliers for component materials such as yarn and unfinished fabrics, as well as for certain services such as finishing and weaving.  Fluctuations in the price, availability, and quality of these goods and services could have a negative effect on our production costs and ability to meet the demands of our customers, which would affect our ability to generate sales and earnings.  In many cases, we are not able to pass through increased costs of raw materials or increased production costs to our customers through price increases.  In particular, many of our basic raw materials are petrochemical products or are produced from such products.  For this reason, our material costs are especially sensitive to changes in prices for petrochemicals and the underlying price of oil.  Increases in prices for oil, petrochemical products or other raw materials and services provided by outside suppliers can significantly increase our costs and negatively affect earnings.  Beginning in the second quarter and continuing through the third quarter of fiscal 2019, we began to experience higher raw material prices and resulting impacts on our profits, after which these prices leveled off and returned to pre-escalation levels during the fourth quarter of fiscal 2019. Higher raw material prices would result in downward pressure on our profit margins and earnings.

Increases in energy costs would increase our operating costs and could adversely affect earnings.

Higher prices for electricity, natural gas, and fuel increase our production and shipping costs.  A significant shortage, increased prices, or interruptions in the availability of these energy sources would increase the costs of producing and delivering products to our customers and would be likely to adversely affect our earnings.  In many cases, we are not able to pass along the full extent of increases in our production costs to customers through price increases.  Energy costs have varied significantly during recent fiscal years and remain a volatile element of our costs.  Increases in energy costs could have a negative effect on our earnings.

Business difficulties or failures of large customers could result in a decrease in our sales and earnings.

We currently have several customers that account for a substantial portion of our sales.  In the mattress fabrics segment, several large bedding manufacturers have large market shares and comprise a significant portion of our mattress fabric sales, with Serta Simmons Holdings, LLC accounting for approximately 18% of consolidated net sales in fiscal 2019. The 18% of the company’s overall sales include sales to customers who are also subcontractors for Serta Simmons Holding, LLC.  In the upholstery fabrics segment, La-Z-Boy Incorporated accounted for approximately 11% of consolidated net sales during fiscal 2019, and several other large furniture manufacturers comprised a significant portion of sales.  A business failure or other significant financial difficulty by one or more of our major customers, or the loss of one or more of these customers, could cause a significant loss in sales, an adverse effect on our earnings, and difficulty in collection of our trade accounts receivable.

Loss of market share due to competition would result in declines in sales and could result in losses or decreases in earnings.

Our business is highly competitive and fragmented, and we face significant competition from a large number of competitors, both foreign and domestic.  We compete with many other manufacturers of fabric, as well as converters who source fabrics from various producers and market them to manufacturers of furniture and bedding.  In many cases, these fabrics are sourced from foreign suppliers who have a lower cost structure than the company.  Additionally, our e-commerce business competes with many other online retailers.  The highly competitive nature of our business in each of our segments means we are constantly subject to the risk of losing market share.  As a result of increased competition, there have been deflationary pressures on the prices for many of our products, which make it more difficult to pass along increased operating costs such as raw materials, energy or labor in the form of price increases and puts downward pressure on our profit margins.  Also, the wide range of product offerings in our business can make it more difficult to differentiate our products through design, styling, finish, and other techniques.

If we fail to anticipate and respond to changes in consumer tastes and fashion trends, our sales and earnings may decline.

Demand for various types of upholstery fabrics and mattress coverings changes over time due to fashion trends and changing consumer tastes for furniture and bedding.  Our success in marketing our fabrics depends upon our ability to anticipate and respond in a timely manner to fashion trends in home furnishings.  If we fail to identify and respond to these changes, our sales of these products may decline.  In addition, incorrect projections about the demand for certain products could cause the accumulation of excess raw material or finished goods inventory, which could lead to inventory mark-downs and decreases in earnings.

Increasing dependence on information technology systems comes with specific risks, including cybersecurity breaches and data leaks, which could have an adverse effect on our business.

We increasingly rely on technology systems and infrastructure.  Additionally, we rely on third-party service providers in connection with the maintenance thereof and the execution of certain business processes.  In fiscal 2018, we launched a new platform for direct sales to retailers of bedding accessory products, and in fiscal 2019 we acquired a majority interest in an e-commerce retailer of bedding accessories and other home goods.  Greater dependence on technology systems and e-commerce heightens the risk of potential vulnerabilities from system failure and malfunction, breakdowns due to natural disasters, human error, unauthorized access, power loss, and other unforeseen events.  Data privacy breaches by employees and others with or without authorized access to our systems poses risks that sensitive data may be permanently lost or leaked to the public or other unauthorized persons.  With the growing use and rapid evolution of technology, including internet selling, cloud-based computing and mobile devices, there are additional risks of unintentional data leaks.  There is also the risk of our exposure to theft of confidential information, intentional vandalism, industrial espionage, and a variety of cyber-attacks that could compromise our internal technology system, infrastructure, or result in data leakage in-house or at our third-party providers and business partners.  Failures of technology or related systems, or an improper release of confidential information, could damage our business or subject us to unexpected liabilities.  Additionally, the devotion of additional resources to the security of our information technology systems in the future could significantly increase our costs of doing business or otherwise adversely impact our financial results.

Our home accessories segment could be adversely affected by increased fees from online sales channels or by the loss of one or more leading online sales channels.

Products for our home accessories segment are sold through our own eLuxury-branded website, as well as through a number of leading online retailers for specialty home goods. These third-party platforms charge seller’s fees through a variety of commission, referral, or other fee structures.  Increases in these fees could require us to increase product prices, which could result in reduced sales if customers are unwilling to pay these increased prices or could result in lowering our gross margins on products sold if we are unable to fully pass on these increased fees.  As a result, increased fees charged by our third-party online sales channels could have a material adverse effect on the results of operations for our home accessories segment. Additionally, the loss of one or more of these leading online retail sales channels would limit our available sales opportunities and, if we are unable to replace such sales opportunities, could cause a significant loss in sales and an adverse effect on our earnings.

Our intellectual property rights may not prevent others from using our copyrights or trademarks in connection with the sale of competitive products. We may be subject to claims that our products or trademarks infringe intellectual property rights of others.

We currently hold, or have registration applications pending for, numerous trademarks and copyrights for various product and trade names, logos, and fabric designs in the United States and certain foreign countries.  We view such intellectual property, along with any unregistered copyrights, trademarks, service marks, trade names, domain names, trade dress, trade secrets, and proprietary technologies, as an important part of our business. These intellectual property rights may not provide adequate protection against infringement or piracy, may not prevent competitors from developing and marketing products that are similar to or competitive with our fabric designs, mattress pads, or other products, and may be costly and time-consuming to protect and enforce. In addition, the laws of some foreign countries may not protect our intellectual property rights and confidential information to the same extent as the laws of the United States. If we are unable to protect and enforce our intellectual property, we may be unable to prevent other companies from using our fabric designs or trademarks in connection with competitive products, which could adversely affect our sales, profitability, cash flows and financial condition.

We may be subject to claims that our products, advertising, or trademarks infringe the intellectual property rights of others. The defense of these claims, even if we are ultimately successful, may result in costly litigation, and if we are not successful in our defense, we could be subject to injunctions and liability for damages or royalty obligations, and our sales, profitability, cash flows and financial condition could be adversely affected.

We are subject to litigation and environmental regulations that could adversely impact our sales and earnings.

We have been, and in the future may be, a party to legal proceedings and claims, including environmental matters, product liability, and employment disputes, some of which claim significant damages.  We face the continual business risk of exposure to claims that our operations have caused personal injury or property damage, including the related risk of damage to our brand and reputation in conjunction with such claims.  We maintain insurance against product liability claims and in some cases have indemnification agreements with regard to environmental claims, but there can be no assurance that these arrangements will continue to be available on acceptable terms or that such arrangements will be adequate for liabilities actually incurred.  Given the inherent uncertainty of litigation, there can be no assurance that claims against the company will not have a material adverse impact on our earnings or financial condition.  We are also subject to various laws and regulations in our business, including those relating to environmental protection and the discharge of materials into the environment.  We could incur substantial costs as a result of noncompliance with or liability for cleanup or other costs or damages under environmental laws or other regulations.

We must comply with a number of governmental regulations applicable to our business, and changes in those regulations could adversely affect our business.

Our products and raw materials are and will continue to be subject to regulation in the United States by various federal, state, and local regulatory authorities.  In addition, other governments and agencies in other jurisdictions regulate the manufacture, sale, and distribution of our products and raw materials.  Also, rules and restrictions regarding the importation of fabrics and other materials, including custom duties, tariffs, quotas and other regulations, are continually changing.  Environmental laws, labor laws, tax regulations, and other regulations continually affect our business.  All of these rules and regulations can and do change from time to time, which can increase our costs or require us to make changes in our manufacturing processes, product mix, sources of products and raw materials, or distribution.  Changes in the rules and regulations applicable to our business may negatively impact our sales and earnings.

None.

Our corporate headquarters are located in High Point, North Carolina.  As of the end of fiscal 2019 (April 28, 2019), we leased our corporate headquarters and owned or leased sixteen facilities associated with our mattress and upholstery fabrics and home accessories operations. The following is a list of our principal administrative and production facilities. Our facilities listed below are organized by business segment.

We believe that our facilities are in good condition, well-maintained, suitable, and adequate for present utilization.  In the upholstery fabrics segment, we have the ability to source upholstery fabric from outside suppliers to meet current and expected demand trends and further increase our output of finished goods. This ability to source upholstery fabric is part of our long-term strategy to have a low-cost platform that is scalable, but not capital intensive.  In the mattress fabrics segment, management has estimated that it is currently performing at near capacity. Also, we have the ability to source additional mattress fabric from outside suppliers to further increase our ultimate output of finished goods.  In the home accessories segment, management has estimated that it has the ability to meet current and expected demand trends, as well as further increased demand, for mattress pad products, and it also has the ability to source additional mattress pads to further increase our ultimate output.  The home accessories segment sources its other finished good products from outside suppliers and we believe its sourcing availability provides the capacity to meet current and expected demand trends.

There are no legal proceedings to which the company, or its subsidiaries, is a party to or of which any of their property is the subject that are required to be disclosed under this item.

Not applicable.

Registrar and Transfer Agent

Computershare Trust Company, N.A.

Correspondence should be mailed to:

Computershare

P.O. Box 505000

Louisville, KY 40233

Overnight correspondence should be sent to:

Computershare

462 South 4^th Street, Suite 1600

Louisville, KY 40202

(800) 254-5196

(781) 575-2879 (Foreign shareholders)

www.computershare.com/investor

Stock Listing

Prior to July 13, 2017, Culp Inc. common stock was traded on the New York Stock Exchange (NYSE) under the symbol CFI. Effective July 13, 2017, Culp, Inc. common stock commenced trading on the NYSE under the symbol CULP.  As of April 28, 2019, Culp, Inc. had approximately 4,036 shareholders based on the number of holders of record and an estimate of individual participants represented by security position listings.

Analyst Coverage

These analysts cover Culp, Inc.:

Raymond, James & Associates – Bobby Griffin, CFA

Value Line – Simon R. Shoucair

Stifel Financial Corp - John A. Baugh, CFA

Stonegate Capital Partners, Inc. – Marco Rodriguez, CFA

Dividends and Share Repurchases; Sales of Unregistered Securities

On June 12, 2019, we announced that our board of directors approved a regular quarterly cash dividend payment of $0.10 per share. These dividend payments are payable on July 16, 2019, to shareholders of record as of July 5, 2019.

During fiscal 2019, dividend payments totaled $4.7 million, all of which represented our regular quarterly cash dividend payments ranging from $0.09 to $0.10 per share.

During fiscal 2018, dividend payments totaled $6.8 million, of which $2.6 million represented a special cash dividend payment of $0.21 per share, and $4.2 million represented our regular quarterly cash dividend payments ranging from $0.08 to $0.09 per share.

During fiscal 2017, dividend payments totaled $6.3 million, of which $2.6 million represented a special cash dividend payment in the first quarter of $0.21 per share, and $3.7 million represented our regular quarterly cash dividend payments ranging from $0.07 to $0.08 per share.

There were no sales of unregistered securities during fiscal 2019, 2018, or 2017.

Performance Comparison

The following graph shows changes over the five fiscal years ending April 28, 2019 in the value of $100 invested in (1) the common stock of the company, (2) the Hemscott Textile Manufacturing Group Index reported by Standard and Poor’s, consisting of three companies in the textile industry, and (3) the Standard & Poor’s 500 Index.

The graph assumes an initial investment of $100 at the end of fiscal 2014 and the reinvestment of all dividends during the periods identified.

Market Information

See Item 6, Selected Financial Data, and Selected Quarterly Data in Item 8, for market information regarding the company’s common stock.

ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following analysis of the financial condition and results of operations should be read in conjunction with the consolidated 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.  Fiscal 2019, 2018, and 2017 each included 52 weeks. 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, sources, manufactures, and sells fabrics primarily to residential and commercial furniture manufacturers.  With the recent acquisition of Read Window Products, the upholstery fabrics segment also provides window treatments and sourcing of upholstery fabrics and other products, as well as measuring and installation services for Read’s own products to customers in the hospitality and commercial industries.  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.

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 all our segments include costs to manufacture, develop, or source our products, including costs such as raw material and finished good 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.

Executive Summary

Net Sales

Overall, our net sales decreased 8.4% in fiscal 2019 compared with a year ago, with mattress fabric net sales declining 24.7% and upholstery fabric net sales increasing 3.5%. Net sales from our new home accessories segment were $16.0 million since the June 2018 investment in eLuxury, with no comparable prior-year sales.

The decrease in mattress fabrics net sales reflects the significant challenges faced by the domestic bedding industry during fiscal 2019, primarily related to the high volume of low-priced imported mattresses from China. On May 29, 2019, the U.S. Department of Commerce imposed punitive anti-dumping measures against Chinese made mattresses, which we believe will ultimately provide some relief for the domestic mattress industry, but the anticipation of these duties led to an influx of these products at the end of calendar 2018 and continuing through February 2019, and a weaker mattress retail environment towards the end of fiscal 2019 delayed the sale of this excess inventory. This led to continued disruption in the market and reduced demand for our mattress fabrics and sewn covers through the end of fiscal 2019.

The increase in upholstery fabrics 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, South Carolina.

The financial results for our new home accessories business segment, which includes our June 2018 majority investment in eLuxury, reflect typical product roll-out, sampling, and marketing challenges in connection with the start-up and integration of a newly combined platform. These challenges, along with a weak retail and e-commerce sales environment, unfavorably affected our financial results for fiscal 2019.

Income Before Income Taxes

Income before income taxes decreased 55.4% compared to the same period a year ago. This decrease was primarily due to the decrease in sales of mattress fabrics noted above.  Additionally, income before income taxes was affected by restructuring and related charges and credits and other non-recurring items of approximately $2.7 million during fiscal 2019, of which $1.6 million related to the closure of our upholstery fabrics operation located in Anderson, South Carolina, and non-recurring charges totaling $1.1 million which include $500,000 for a charitable contribution, payable over a period of three years, in honor of our co-founder and former chairman, Robert G. Culp, III, as well as other non-recurring charges associated with the mattress fabrics segment.

Income Taxes

We recorded income tax expense of $6.4 million, or 53.6% of income before income tax expense, in fiscal 2019 compared with income tax expense of $5.7 million, or 21.4% of income before income tax expense, in fiscal 2018. Our income tax expense of $6.4 million and the increase in our income tax rate compared with fiscal 2018, reflects the mix of our taxable income favoring our foreign tax jurisdictions located in Canada and China that have higher income tax rates in relation to the U.S., and a significant decline in U.S. taxable income, which declined more than anticipated during our fourth quarter. This resulted in a significant increase in our Global Intangible Low Taxed Income (GILTI) Tax, which was mostly incurred during our fourth quarter. Our income tax expense of $5.7 million in fiscal 2018 included an income tax benefit totaling $2.1 million associated with the 2017 Tax Cuts and Jobs Act (the “Tax Act”), which represented an income tax benefit of $4.3 million pertaining to the one-time mandatory repatriation tax, partially offset by a $2.2 million income tax charge for the re-measurement of our U.S. deferred income taxes resulting from the reduction in the U.S. federal corporate income tax rate, compared with a final provisional income tax benefit of $550,000 that was recorded in the third quarter of fiscal 2019.

See the Segment Analysis section located in the Results of Operations for further details.

Liquidity

At April 28, 2019, our cash and cash equivalents, short-term investments (available for sale), and short-term and long-term investments (held-to-maturity) totaled $45.0 million compared with $54.5 million at April 29, 2018. The decrease from the end of fiscal 2018 was primarily due to cash payments of $12.1 million for acquisitions that were mostly associated with the purchase of our 80% ownership in eLuxury, $8.1 million to our shareholders in the form of regular quarterly dividend payments and common stock repurchases, $4.7 million in capital expenditures (of which $1.4 million was vendor financed) that were mostly associated with our mattress fabric segment, 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 $13.9 million and proceeds from the sale of property, plant, and equipment totaling $1.9 million that were associated with the closure of our upholstery fabrics facility located in Anderson, South Carolina.

Our net cash provided by operating activities of $13.9 million in fiscal 2019 decreased $13.6 million compared with $27.5 million in fiscal 2018. The decrease is primarily due to the decreased income from operations noted above.

At April 28, 2019, all of our outstanding borrowings totaling $675,000 pertained to our subordinated credit agreement between eLuxury and its minority owner.

Dividend Program

On June 12, 2019, we announced that our board of directors approved a regular quarterly cash dividend payment of $0.10 per share. This payment will be made on or about July 16, 2019, to shareholders of record as of July 5, 2019.

During fiscal 2019, dividend payments totaled $4.7 million, all of which represented our regular quarterly cash dividend payments ranging from $0.09 to $0.10 per share. During fiscal 2018, dividend payments totaled $6.8 million, of which $2.6 million represented a special cash dividend payment of $0.21 per share, and $4.2 million represented our regular quarterly cash dividend payments ranging from $0.08 to $0.09 per share. During fiscal 2017, dividend payments totaled $6.3 million, of which $2.6 million represented a special cash dividend payment in the first quarter of $0.21 per share, and $3.7 million represented our regular quarterly cash dividend payments ranging from $0.07 to $0.08 per share.

Common Stock Repurchases

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 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 fiscal 2019, we purchased 160,823 shares of our common stock at a cost of $3.3 million, most of which was purchased during our second and third quarters. During fiscal 2018 and 2017, there were no repurchases of our common stock.

At April 28, 2019, we had $1.7 million available for additional repurchases of our common stock

Results of Operations

The following table sets forth certain items in our consolidated statements of net income as a percentage of net sales.

* Calculated as a percentage of income before income taxes.

Segment Analysis

Net Sales

Mattress fabrics sales decreased 24.7% in fiscal 2019 compared to the prior year. These results reflected the more challenging market conditions faced by the domestic bedding industry during fiscal 2019, primarily related to the high volume of low-priced imported mattresses from China.

During March and April of 2019, import activity began to slow in anticipation of the expected ruling from the U.S. Department of Commerce.  This ruling came in May 2019, with the Department of Commerce imposing punitive anti-dumping measures from 69 percent to as high as 1,731 percent against Chinese made mattresses. We believe these duties will ultimately provide relief for the domestic mattress industry, but the anticipation of this ruling led to an influx of these products at the end of calendar 2018 and continuing through February 2019, and a weaker mattress retail environment towards the end of fiscal 2019 delayed the sale of this excess inventory. This led to continued disruption in the market and reduced demand for our mattress fabrics and sewn covers through the end of fiscal 2019.

Our design strengths and efficient manufacturing platform allow us to provide a diverse product mix that meets the changing demands of our customers across most price points. Our net sales for fiscal 2019 reflected continued growth in our CLASS mattress cover business. The growth in CLASS has allowed us to develop new products with existing customers and reach new customers and additional market segments, particularly the boxed bedding space.

Currently, we expect the excess supply of low-priced imported mattresses will continue during our first quarter of fiscal 2020, and in turn, will continue to affect short-term demand trends and operating performance. Despite these continuing challenges, we are beginning to see some recent positive developments and improvements in retail demand trends, as well as many customers altering their supply chains away from China, and we believe our design strengths and efficient manufacturing platform are providing market share gain and improved operating results. Nevertheless, it remains uncertain as to when demand trends will return to normal levels.

Gross Profit and Operating Income

The decrease in mattress fabrics profitability was primarily due to the decrease in mattress fabrics sales noted above, as well as certain non-recurring charges totaling $249,000 for employee termination benefits and operational reorganization costs associated with our mattress fabrics segment.

Segment Assets

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

Accounts Receivable

As of April 28, 2019, accounts receivable decreased 20.4% compared with April 29, 2018. This decrease reflects the decrease in net sales noted above.

Inventory

As of April 28, 2019, inventory decreased 14.2% compared with April 29, 2018. The decrease reflects the decreased in net sales noted above.

Property, Plant & Equipment

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. 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.

As of April 28, 2019, property, plant, and equipment decreased compared with April 29, 2018. This trend represents a decrease in capital expenditure requirements and a progression toward a more maintenance level of spending on machinery and equipment. During fiscal 2019, our mattress fabrics segment reporting capital expenditures of $2.5 million and depreciation expense of $7.0 million.

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).

Net Sales

Although overall upholstery fabrics sales increased in fiscal 2019 compared to the prior year, our sales decreased 8.3% during the fourth quarter of fiscal 2019 compared to the fourth quarter of fiscal 2018.  Our upholstery fabrics net sales reflected more challenging market conditions with generally weaker consumer demand for furniture during the fourth quarter, as well as the ongoing trade dispute between the U.S. and China and continued uncertainties surrounding tariffs. The anticipation of additional tariffs resulted in more advance customer purchases in previous quarters and inflated inventories heading into the fourth quarter. This factor, combined with the generally weaker demand for furniture, affected our sales for the fourth quarter.

The increase in upholstery fabric net sales for the year includes the contribution from Read, acquired on April 1, 2018 (see below for further details regarding the acquisition of Read), partially offset by the decline in sales associated with the closure of our Anderson, South Carolina facility during the second quarter of fiscal 2019.  Additionally, these results reflect our product-driven strategy with a sustained focus on innovation and creative designs. 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. Our results reflect the continued success of this strategy, highlighted by expanded sales of LiveSmart®, our popular “performance” line of highly durable stain-resistant fabric.

Currently, we expect the soft retail demand trends for furniture, as well as the impact of the continued uncertainties surrounding tariffs and the associated geopolitical risks, to continue at least through the early part of fiscal 2020.

Gross Profit and Operating Income

Despite the increase in net sales noted above, our profitability in upholstery fabrics decreased slightly in fiscal 2019 compared with the same period a year ago. The decrease in profitability was primarily due to restructuring related charges totaling $2.3 million related to the closure of our upholstery fabrics operation located in Anderson, South Carolina (see below for further details regarding closure of our Anderson plant facility).

Exit and Disposal Activity

Of this total net charge, a charge of $2.3 million, a charge of $40,000 and a credit of $825,000 was recorded in cost of sales, selling, general, and administrative expenses, and restructuring credit, at least through the early part of fiscal 2020, respectively, in the fiscal 2019 Consolidated Statement of Net Income.

Business Combination - Read Window Products, LLC

Effective April 1, 2018, we entered into an Asset Purchase Agreement (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 offers sourcing of upholstery fabrics and other products, as well as measuring and installation services for Read's 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 allows us to be a more complete source of fabrics for the hospitality market, in which we believe there are significant growth opportunities.

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 was paid in July 2019.

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

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

Segment Assets

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

Accounts Receivable

As of April 28, 2019, accounts receivable was comparable with April 29, 2018. This trend reflects a decrease in net sales of 8.3% for the fourth quarter of fiscal 2019 compared with the fourth quarter of fiscal 2018 noted above, offset by higher days sales outstanding of 34 days for the fourth quarter of fiscal 2019 compared with 31 days for the fourth quarter of fiscal 2018.

Inventory

As of April 28, 2019, inventory decreased compared with April 29, 2018. The trend primarily represents the decrease in net sales noted above during the fourth quarter of fiscal 2019 compared with the fourth quarter of fiscal 2018.

Property, Plant & Equipment

The $1.8 million at April 28, 2019, represents property, plant, and equipment located in the U.S. of $1.2 million and located in China of $591,000. The $2.4 million at April 29, 2018, represents property, plant, and equipment located in the U.S. of $1.8 million and located in China of $661,000.

Net Sales, Gross Profit, and Operating 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 business through global e-commerce and business-to-business sales channels.

Net sales for our home accessories segment were $16.0 million since the June 2018 investment date in eLuxury, with no comparable prior year sales.  Our home accessories segment financial results for fiscal 2019 reflect typical product roll-out, sampling, and marketing challenges in connection with the start-up and integration of a newly combined platform. These challenges, along with reduced demand for legacy products, primarily mattress pads, unfavorably affected our financial results for the year.

Our strategic focus for the segment is to develop innovative bedding accessory products and other home good items through our global manufacturing platform and in coordination with Culp’s other business segments.  During the second half of fiscal 2019, we developed and launched new products featuring Culp mattress fabrics and upholstery fabrics, including mattress pads and mattress protectors made with Culp mattress fabrics and dog beds made with LiveSmart® performance fabric. Additionally, we are focused on expanding our sales channels beyond eLuxury’s e-commerce platform to reach business retailers, both in brick and mortar stores and through their online platforms, as well as customers in the hospitality industry.

Business Combination - eLuxury, LLC

Effective June 22, 2018, we entered an Equity Purchase Agreement (Equity Agreement”) pursuant to which we acquired an 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.

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

The estimated consideration given for the 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 estimated 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.

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

As a 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 noncontrolling interest in eLuxury is excluded from total consolidated net income (loss) to arrive at net income (loss) attributable to Culp Inc. common shareholders.

Acquisitions costs totaling $270,000 were included in selling, general, and administrative expenses in our fiscal 2019 Consolidated Statement of Net Income.

Segment Assets

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

Property, Plant & Equipment

The $1.9 million at April 28, 2019, represents property, plant, and equipment located in the U.S.

Refer to Note 21 located in the notes to the consolidated financial statements for disclosures regarding determination of our segment assets.

Selling, General and Administrative Expenses

SG&A expenses during fiscal 2019 increased compared with fiscal 2018. This trend is primarily due to increased selling expenses associated with our home accessories segment, partially offset by lower incentive compensation expense reflecting weaker financial results for the company in relation to pre-established targets, as well as lower professional fees.

Interest Expense

Interest costs incurred were $42,000 during fiscal 2019 compared with $194,000 during fiscal 2018.

No interest costs for the construction of qualifying fixed assets were capitalized during fiscal 2019. Interest costs of $100,000 were capitalized for the construction of qualifying fixed assets during fiscal 2018. Interest costs that have been capitalized will be amortized over the related assets’ useful lives.

Interest Income

During fiscal 2019 and 2018, our interest income was primarily associated with our investment grade U.S. corporate bonds located in the Cayman Islands. The increase in our interest income during fiscal 2019 compared with fiscal 2018 stemmed from repatriated earnings and profits from our foreign subsidiaries that were invested in U.S. money market funds at higher interest rates. Additionally, the increase is due to higher interest rates and participant account balances held in our Rabbi Trust that are associated with our deferred compensation plan, during fiscal 2019 compared with fiscal 2018.

Other Expense

Other expenses during fiscal 2019 increased compared with fiscal 2018. This increase is primarily due to a $500,000 contribution for an endowed scholarship to the University of North Carolina at Chapel Hill in honor of our Co-Founder and former Chairman of the Board. This charitable contribution will be paid over a period of three years.

We recorded income tax expense of $6.4 million, or 53.6% of income before income tax expense, in fiscal 2019 compared with income tax expense of $5.7 million, or 21.4% of income before income tax expense, in fiscal 2018. The following schedule summarizes the principal differences between income tax expense at the federal income tax rate and the effective income tax rate reflected in the consolidated financial statements:

2017 Tax Cuts and Jobs Act

On December 22, 2017 (the “Enactment Date”), the Tax Act was signed into law. The Tax Act contains significant changes to corporate taxation, including (i) the reduction of the corporate income tax rate to 21%, (ii) the acceleration of expensing certain business assets, (iii) a one-time mandatory repatriation tax (the “Transition Tax”) related to the transition of U.S. international tax from a worldwide tax system to a territorial tax system, (iv) limitations on the use of foreign tax credits to reduce the U.S. income tax liability, (v) the repeal of the domestic production activities deduction, (vi) additional limitations on the deductibility of interest expense and executive compensation, and (vii) the creation of the GILTI tax.

The corporate income tax rate reduction was effective as of January 1, 2018. Since we have a fiscal year rather than a calendar year, we were subject to IRS rules relating to transitional income tax rates for fiscal 2018. As a result, our fiscal 2018 U.S. federal income tax rate was a blended income tax rate of 30.4% compared with a fully reduced U.S. federal income tax rate of 21.0% during fiscal 2019.

The re-measurement of our U.S. deferred income tax balances to the new U.S. federal corporate income tax rate and the determination of the income tax effects of the Transition Tax on our accumulated earnings and profits associated with our foreign subsidiaries were components of the Tax Act that significantly affected our financial statements during fiscal 2019 and 2018. As of April 29, 2018, we had not yet completed our assessment of the effects of the Tax Act, however, we were able to determine reasonable estimates for the effects of the components specified above, and thus we reported provisional amounts for these items under guidance provided by SEC Staff Accounting Bulletin No. 118 (“SAB 118”). As a result, our estimates changed and revisions to these estimates were recorded during the measurement period allowed by SAB 118, which was not to extend beyond one year from the Enactment Date.

The provisional estimates related to our U.S. deferred income tax balances and Transition Tax changed due to a variety of factors that included, (i) actual versus estimates of accumulated earnings and profits associated with our foreign subsidiaries, (ii) utilization of our foreign income tax credits, (iii) the election of whether or not to apply our existing U.S. federal net operating loss carryforwards against the Transition Tax, (iv) actual versus estimates regarding the reversal of U.S. deferred income taxes occurring in fiscal 2018 based on our blended U.S. federal income tax rate of 30.4% compared with our fully reduced U.S. federal income tax rate of 21.0% during fiscal 2019.

In order to determine the effects of the new U.S. federal corporate income tax rate on our U.S. deferred income tax balances during fiscal 2019 and 2018, ASC Topic 740 “Income Taxes” (ASC Topic 740), requires the re-measurement of our U.S. deferred income tax balances as of the Enactment Date of the Tax Act, based on income tax rates at which our U.S. deferred income tax balances are expected to reverse in the future. As a result, we recorded a provisional income tax charge of $2.2 million for the re-measurement of our U.S. net deferred income taxes during fiscal 2018. During the third quarter of fiscal 2019, we completed our assessment of the remeasurement of our U.S. deferred income tax balances in accordance with SAB 118 and recorded a final provisional income tax benefit of $268,000.

The Transition Tax was based on our total post-1986 foreign earnings and profits (“E&P”) that were previously deferred from U.S. income tax and applicable income tax rates associated with E&P held in cash and other specified assets (the “aggregate foreign cash position”).  Also, E&P was not permanently reinvested prior to the Tax Act. As a result, we recorded a provisional income tax benefit of $4.3 million for the income tax effects of the Transition Tax during fiscal 2018. This $4.3 million income tax benefit related to an income tax benefit of $18.0 million for the release of deferred income tax liabilities related to E&P and an income tax benefit of $11.7 million related to the reduction in our U.S. Federal income tax rate pursuant to the Tax Act on the effective settlement of an IRS exam related to E&P, partially offset by an income tax charge for the write-off and the establishment of a valuation allowance against our unused foreign tax credits totaling $25.4 million. During the third quarter of fiscal 2019, we completed our assessment of the income tax effects of the Transition Tax and recorded a final provisional income tax benefit of $282,000. Additionally, we elected to pay the Transition Tax over a period of eight years in accordance with the Tax Act.

GILTI

In addition to the above components of the Tax Act, GILTI was effective during fiscal 2019. Our policy to account for GILTI is to expense this tax in the period incurred. As a result, we recorded an income tax charge of $2.1 million during fiscal 2019.

On June 14, 2019, the U.S. Treasury released proposed regulations regarding the GILTI provisions of the U.S. income tax code. The proposed regulations contain a provision for an exclusion from treatment as GILTI if taxable income amounts are subject to a high rate of foreign income tax, as defined in the proposed regulations. If an entity were to qualify for the high-income tax exception, the high-taxed income earned that would be subject to GILTI and U.S. income tax may be excluded from U.S. income tax. However, since these regulations are in proposed form, an entity is not allowed to record an income tax benefit under these provisions until these regulations have been finalized.

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.

Refer to Note 14 located in the notes to the consolidated financial statements for disclosures regarding our assessments of our recorded valuation allowance as of April 28, 2019 and April 29, 2018 respectively.

Deferred Income Taxes – Undistributed Earnings from Foreign Subsidiaries

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. At April 28, 2019, we assessed the financial reporting requirements of our U.S. parent company and determined that our undistributed earnings from our foreign subsidiaries would not be reinvested indefinitely and would be 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 14 located in the notes to the consolidated financial statements for disclosures regarding our assessments of our recorded deferred income tax liability balances associated with our undistributed earnings from our foreign subsidiaries as of April 28, 2019 and April 29, 2018, respectively.

Uncertainty in Income Taxes

At April 29, 2018, we had a $903,000 total gross unrecognized income tax benefit that relates to double taxation under applicable income tax treaties with foreign tax jurisdictions, in which currently, significant change is not expected within the next fiscal year.

United States federal income tax returns filed by us remain subject to examination for income tax years 2017 and subsequent. Canadian federal income tax returns filed by us remain subject to examination for income tax years 2015 and subsequent. Canadian provincial (Quebec) income tax returns filed by us remain subject to examination for income tax years 2016 and subsequent. Income tax returns associated with our operations located in China are subject to examination for income tax year 2014 and subsequent.

During the third quarter of fiscal 2017, Revenue Quebec commenced an examination of our Canadian provincial (Quebec) income tax returns for fiscal years 2013 through 2015. This examination was completed during the fourth quarter of fiscal 2018 with final adjustments totaling $4,000.

During the fourth quarter of fiscal 2016, the Internal Revenue Service commenced and examination of our U.S. Federal income tax returns for fiscal years 2014 through 2016. This examination was effectively settled during the fourth quarter of fiscal 2018 with no adjustment.

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 benefit will be recorded at that time.

Refer to Note 14 located in the notes to the consolidated financial statements for disclosures and additional information regarding our uncertain income tax positions.

Income Taxes Paid

Our income tax payments totaled $6.7 million during fiscal 2019 compared with $4.0 million during fiscal 2018. Our income tax payments were mostly associated with our subsidiaries located in Canada and China. These payments increased during fiscal 2019 as compared with the same period a year ago, primarily due to withholding tax payments of $879,000 associated with an earnings and profit distribution from our subsidiary located in Canada, installment payments totaling $600,000 pertaining to our Transition Tax in connection with the Tax Act,  and higher installment payments associated with our subsidiary located in Canada  as a result of increased taxable income.

As a result of the Tax Act, we started making installment payments associated with the Transition Tax in fiscal 2019. Additionally, we elected to pay the Transition Tax over a period of eight years in accordance with the Tax Act. Lastly, at April 28, 2019, we have U.S. federal net operating loss carryforwards totaling $6.9 million. 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 2020.

Segment Analysis

Net Sales

Although overall mattress fabrics sales increased slightly in fiscal 2018 compared to the prior year, our sales decreased 4.7% during the fourth quarter of fiscal 2018 compared to the fourth quarter of fiscal 2017. Our mattress fabrics net sales reflected more challenging market conditions with soft demand trends across the bedding industry and the impact of lower priced imported mattresses that occurred during the fourth quarter.

Gross Profit and Operating Income

The decrease in mattress fabrics profitability primarily reflected higher operating costs that were incurred in the first half of fiscal 2018 and were associated with production disruptions during a transition period of substantial capital investment and supply chain enhancements designed to improve our operations and product delivery performance.

Below is a summary of our significant capital projects and improvements that were ongoing in fiscal 2017 and were completed as of the second quarter of fiscal 2018:

Joint Venture

Effective January 1, 2017, 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 on the northeastern border of Haiti, which borders the Dominican Republic. CLIH commenced production in 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 (see note 9 located in the notes to the consolidated financial statements for further details).

Segment Assets

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

Accounts Receivable

As of April 29, 2018, accounts receivable were comparable with April 30, 2017. This trend reflects a decrease in net sales of 4.7% for the fourth quarter of fiscal 2018 compared with the fourth quarter of fiscal 2017 noted above.

Inventory

As of April 29, 2018, inventory decreased compared with April 30, 2017. The trend primarily represents the decrease in net sales noted above during the fourth quarter of fiscal 2018 compared with the fourth quarter of fiscal 2017.

Property, Plant & Equipment

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. The $48.9 million at April 30, 2017, represents property, plant, and equipment of $34.0 million and $14.9 million located in the U.S. and Canada, respectively.

As of April 29, 2018, property, plant, and equipment was comparable with April 30, 2017. The mattress fabric segment incurred depreciation expense of $6.8 million and had capital spending of $6.7 million in fiscal 2018.

Investment in Unconsolidated Joint Venture

Our investment in unconsolidated joint venture represents our fifty percent ownership of CLIH noted above.

Net Sales

The increase in upholstery fabric net sales reflected our focus on innovation and creative designs, supported by our manufacturing platform located in China. Our ability to provide a diverse product offering allowed us to reach new market segments. Our results reflected the success of this strategy, highlighted by expanded sales of LiveSmart®, our popular “performance” line of highly durable stain-resistant fabric. In response, we launched a new website specifically to promote this innovative product line, along with a more aggressive marketing campaign.

Also, we achieved continued sales growth in fabrics designed for the hospitality market. In order to take advantage of the growth opportunities in the hospitality market, we completed the acquisition of Read during the fourth quarter of fiscal 2018 (see note 2 to the consolidated financial statements for further details).

Gross Profit and Operating Income

Despite the increase in net sales noted above, our profitability in upholstery fabrics decreased in fiscal 2018 compared with fiscal 2017. The decrease in profitability was primarily due to higher operating costs associated with our operations located in China resulting from unfavorable foreign exchange rates experienced in the second half of fiscal 2018, and a decline in profitability associated with our U.S. upholstery fabric operation located in Anderson, South Carolina, resulting from changing consumer style preferences and reduced customer demand for products made in this facility.

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

Accounts Receivable

As of April 29, 2018, accounts receivable increased by 22.6% compared with April 30, 2017. This increase was primarily due to an increase in net sales of 11% during the fourth quarter of fiscal 2018 compared with the fourth quarter of fiscal 2018 and accounts receivable acquired from Read.

Inventory

As of April 29, 2018, inventory increased by 23.8% compared with April 30, 2017. This increase was primarily due to the increase in net sales and inventory acquired from Read.

Property, Plant & Equipment

The $2.4 million at April 29, 2018, represents property, plant, and equipment located in the U.S. of $1.8 million and located in China of $661,000. The $1.9 million at April 30, 2017, represents property, plant, and equipment located in the U.S. of $1.2 million and located in China of $655,000.

Selling, General and Administrative Expenses

SG&A expenses for fiscal 2018 compared with fiscal 2017 included lower incentive compensation expense reflecting weaker financial results in relation to pre-established financial targets, partially offset by the following items that increased SG&A expenses:

Interest Expense

Interest costs incurred were $194,000 during fiscal 2018 compared with $158,000 for the same period a year ago. Our interest costs during fiscal 2018 and 2017 pertained to borrowings associated with our U.S. revolving line of credit and with the construction of a new building associated with our mattress fabrics segment (Refer to Notes 13 and 15 located in the notes to the consolidated financial statements for further details).

The interest costs incurred during fiscal 2018 were partially offset by interest costs totaling $100,000 for the construction of qualifying fixed assets that were capitalized through the second quarter. Interest costs incurred during fiscal 2017 were fully offset by interest costs for the construction of qualifying fixed assets that were capitalized. Interest costs that have been capitalized will be amortized over the related assets’ useful lives.

Interest Income

Interest income increased during fiscal 2018 compared with fiscal 2017. The increase in interest income was due to management's decision at the end of the second quarter of fiscal 2017 to invest approximately $31.0 million in investment grade U.S. Corporate bonds with maturities that primarily ranged from 2 to 2.5 years. The purpose of this investment was to earn a higher rate of return on our excess cash located in the Cayman Islands.

Other Expense

Other expense increased during fiscal 2018 compared with the same period a year ago. This increase was mostly due to unfavorable foreign currency exchange rates associated with our operations located in China.