Motley Fool Stock Advisor
Even so, the first thing that jumps out at you when you look at those numbers is that earnings growth lagged sales growth. The reason: margins. Year-on-year, margins eroded pretty significantly across the board: Gross margins declined from 35.7% to 34.3%; operating margins were down from 13.7% to 13.4% (but up, sequentially); and profit margins fell from 8.8% to 8.5%. Thus, each dollar of revenue dropped fewer pennies of profit to the company's bottom line.
Strangely, this usually very matter-of-fact company glossed over the margin declines, not even mentioning them. Rather, Daktronics boasted that its gross margins "exceeded expectations." Daktronics also passed on an opportunity to point out that the quarter's depressed operating and profit margins were due entirely to the cascading effect of lower gross margins. Instead, the company did an end run around the subject, arguing that operating expenses were "reduced as a percentage of net sales." This is true. Although operating margins were down, operating expenses that amounted to 22% of gross sales in Q1 2004 fell to 20.8% in Q1 2005. I can't fault the company's math here, but I am a little concerned about its failure to address the margin declines head-on.
Fortunately, the company did a slightly better job explaining the precipitous decline in free cash flow this quarter. A year ago, the company raked in $4.8 million in free cash flow in its first quarter; this year, that number fell to $1.4 million. Daktronics really needed to address this point, and it did -- sort of -- giving two separate reasons: First, the company said that it needed to bulk up on inventory this quarter in preparation for meeting obligations on future work (backlog is up to $58 million now). That depressed its cash from operations, consequently hindering free cash flow. Second, Daktronics stated that receivables on a few big projects increased... and that's the extent of the explanation on that one.
In the end, I have to admit that I was a little disappointed in Daktronics' explanations this quarter. Not so much because I see the problems revealed in its earnings report as serious -- I don't -- but rather because the explanations of those flaws were as superficial as the flaws themselves.
Fool contributor Rich Smith no longer owns shares in Daktronics.
More from The Motley Fool
Margin Debt at Record Levels: Know the Risks
Trading on margin reduces your control over your investments and exposes you to much greater potential losses.
This Is Americans' No. 1 Financial Concern for 2018
Hint: It's not about savings.
Got a Raise? Make the Most of It With These 4 Tips
You could increase the value of your raise many times over.