EX-13.1 2 h36357exv13w1.htm ANNUAL REPORT TO SHAREHOLDERS exv13w1
 

EXHIBIT 13.1
 
THE COMPANY’S ANNUAL
REPORT TO SHAREHOLDERS FOR
THE FISCAL YEAR ENDED MARCH 31, 2006


 

FRIEDMAN
INDUSTRIES
INCORPORATED
 
2006
ANNUAL REPORT
 


 

 
FRIEDMAN INDUSTRIES, INCORPORATED

 
 
FINANCIAL HIGHLIGHTS
 
                 
    2006     2005  
 
Net sales
    $181,900,351       $188,022,253  
Net earnings
    $6,453,888       $6,246,043  
Net earnings per share (Basic)
    $0.91       $0.84  
Cash dividends per share
    $0.32       $0.29  
Stockholders’ equity
    $37,097,335       $35,354,550  
Working capital
    $29,167,810       $28,539,243  
 
 
TO OUR SHAREHOLDERS:
 
As reflected in the financial highlights above, the Company experienced another successful year. In management’s opinion, a strong U.S. economy for durable goods supported strong market conditions for the Company’s products and services in fiscal 2006.
 
Management is pleased to announce expansion of operations on several fronts. The pipe mill which began operation in April 2004 has been upgraded substantially in the past year. This pipe mill is now capable of running pipe that is recognized by various industry standards ranging from 23/8” to 59/16” in outside diameter. In addition, the Company intends to phase out the Lone Star coil facility and redeploy certain of these assets to a new coil operation in Decatur, Alabama. This facility will be located near Nucor Steel Company and will initially operate a hot roll steel temper mill and a cut-to-length and leveling line. The Company expects the Decatur facility to become operational in fiscal 2008.
 
You are invited to attend the Annual Meeting of Shareholders scheduled to start at 11 a.m. CST, on Thursday, September 7, 2006, in the offices of Fulbright & Jaworski L.L.P., 1301 McKinney, Houston, Texas.
 
Sincerely,
 
-s- William E. Crow
 
William E. Crow
Chief Executive Officer, President and
Chief Operating Officer


1


 

 
FRIEDMAN INDUSTRIES, INCORPORATED

OFFICERS
 
William E. Crow
Chief Executive Officer,
President and Chief Operating Officer
 
Benny B. Harper
Senior Vice President — Finance
and Secretary/Treasurer
 
Thomas N. Thompson
Senior Vice President — Sales and Marketing
 
Ronald L. Burgerson
Vice President
 
Dale Ray
Vice President
 
Howard Henderson
Vice President of Operations — Texas Tubular Division
 
Robert Sparkman
Vice President of Sales — Coil Divisions
 
Charles W. Hall
Assistant Secretary
 
COMPANY OFFICES AND WEB SITE
  CORPORATE OFFICE
  4001 Homestead Road
  Houston, Texas 77028
  713-672-9433
 
  SALES OFFICE — COIL PRODUCTS
  1121 Judson Road
  Longview, Texas 75606
  903-758-3431
 
  SALES OFFICE — TUBULAR PRODUCTS
  P.O. Box 0388
  Lone Star, Texas 75668
  903-639-2511
 
  WEB SITE
  www.friedmanindustries.com
 
COUNSEL
Fulbright & Jaworski L.L.P.
Fulbright Tower
1301 McKinney, Suite 5100
Houston, Texas 77010
 
AUDITORS
Ernst & Young LLP
1401 McKinney, Suite 1200
Houston, Texas 77010
 
TRANSFER AGENT AND REGISTRAR
American Stock Transfer & Trust Company
59 Maiden Lane
New York, New York 10007
 
DIRECTORS
 
Jack Friedman
Chairman Emeritus; former
Chairman of the Board and
Chief Executive Officer
Longview, Texas
 
Harold Friedman
Chairman of the Board;
Former Vice Chairman of the Board
Houston, Texas
 
William E. Crow
Chief Executive Officer,
President and Chief Operating Officer
Longview, Texas
 
Charles W. Hall
Fulbright & Jaworski L.L.P. (law firm)
Houston, Texas
 
Alan M. Rauch
President, Ener-Tex
International, Inc.
(oilfield equipment sales)
Houston, Texas
 
Hershel M. Rich
Private investor and
business consultant
Houston, Texas
 
Kirk K. Weaver
President, SVR Technologies LLC
(technology support services); formerly,
President, FXI Corporation
(technology support services)
Houston, Texas
 
Joe L. Williams
Managing Director,
Acordia of Texas, Inc.
(insurance and risk management)
Houston, Texas
 
ANNUAL REPORT ON FORM 10-K
 
Shareholders may obtain without charge a copy of the Company’s Annual Report on Form 10-K for the year ended March 31, 2006 as filed with the Securities and Exchange Commission. Written requests should be addressed to: Benny B. Harper, Senior Vice President, Friedman Industries, Incorporated, P.O. Box 21147, Houston, Texas 77226.


2


 

 
FRIEDMAN INDUSTRIES, INCORPORATED

DESCRIPTION OF BUSINESS
 
Friedman Industries, Incorporated is engaged in pipe manufacturing and processing, steel processing and steel and pipe distribution.
 
At its facilities in Lone Star, Texas, and Hickman, Arkansas, the Company processes hot-rolled steel coils into flat, finished sheet and plate and sells these products on a wholesale, rapid-delivery basis in competition with steel mills, importers and steel service centers. The Company also processes customer-owned coils on a fee basis. In addition, through its XSCP Division located in Hickman, Arkansas, the Company purchases and markets non-standard hot-rolled coils received from Nucor Steel Company (“NSC”). The Company purchases a substantial amount of its annual coil tonnage from Lone Star Steel Company (“LSS”) and NSC. Loss of LSS or NSC as a source of coil supply could have a material adverse effect on the Company’s business.
 
The Company sells its coil products and processing services directly through the Company’s own sales force to approximately 260 customers located primarily in the midwestern, southwestern and southeastern sections of the United States. These products and services are sold principally to steel distributors and to customers fabricating steel products such as storage tanks, steel buildings, farm machinery and equipment, construction equipment, transportation equipment, conveyors and other similar products.
 
The Company, through its Texas Tubular Products Division located in Lone Star, Texas, manufactures, purchases, processes and markets tubular products (“pipe”). The Company sells pipe nationally to approximately 230 customers and sells a substantial amount of manufactured pipe to LSS. The Company purchases a substantial portion of its annual supply of pipe and coil material used in pipe production from LSS. Loss of LSS as a source of such pipe and coil material supply or as a customer of manufactured pipe could have a material adverse effect on the Company’s business.
 
Significant financial information relating to the Company’s two product groups, coil and tubular products, is contained in Note 7 of Notes to the Company’s Consolidated Financial Statements appearing herein.
 
 
RANGE OF HIGH AND LOW SALES PRICES OF COMMON STOCK
 
                                 
    Fiscal 2006   Fiscal 2005
    High   Low   High   Low
 
First Quarter
  $ 8 .10     5 .80   $ 4 .65   $ 3 .05
Second Quarter
    7 .94     6 .00     6 .55     4 .50
Third Quarter
    6 .80     5 .52     12 .00     5 .50
Fourth Quarter
    9 .94     5 .80     16 .56     6 .41
 
 
CASH DIVIDENDS DECLARED PER SHARE OF COMMON STOCK
 
                 
    Fiscal 2006   Fiscal 2005
 
First Quarter
    $ .08     $ .05
Second Quarter
    $ .08     $ .08
Third Quarter
    $ .08     $ .08
Fourth Quarter
    $ .08     $ .08
 
 
The Company’s Common Stock is traded principally on the American Stock Exchange (trading symbol FRD).
 
The approximate number of shareholders of record of the Company as of May 26, 2006 was 430.


3


 

 
FRIEDMAN INDUSTRIES, INCORPORATED

CONSOLIDATED BALANCE SHEETS
 
ASSETS
 
                 
    March 31  
    2006     2005  
CURRENT ASSETS:
               
Cash and cash equivalents
  $ 1,982,526     $ 205,375  
Accounts receivable, net of allowances for bad debts and cash discounts of $37,276 in 2006 and 2005
    17,494,313       16,403,036  
Inventories
    27,956,921       25,857,240  
Prepaid federal income taxes
          892,104  
Other
    117,243       141,004  
                 
TOTAL CURRENT ASSETS
    47,551,003       43,498,759  
PROPERTY, PLANT, AND EQUIPMENT:
               
Land
    486,653       478,618  
Buildings and yard improvements
    4,088,149       4,088,149  
Machinery and equipment
    20,852,126       18,896,907  
Less accumulated depreciation
    (17,653,265 )     (16,725,869 )
                 
      7,773,663       6,737,805  
OTHER ASSET:
               
Cash value of officers’ life insurance
    606,223       559,778  
                 
TOTAL ASSETS
  $ 55,930,889     $ 50,796,342  
                 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
                 
    March 31  
    2006     2005  
CURRENT LIABILITIES:
               
Accounts payable and accrued expenses
  $ 16,713,944     $ 13,474,128  
Current portion of long-term debt
          2,897  
Dividends payable
    533,330       571,180  
Income taxes payable
    143,196        
Contribution to profit sharing plan
    256,000       274,000  
Employee compensation and related expenses
    736,723       637,311  
                 
TOTAL CURRENT LIABILITIES
    18,383,193       14,959,516  
DEFERRED INCOME TAXES
    4,618       86,856  
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
    445,743       395,420  
STOCKHOLDERS’ EQUITY:
               
Common stock, par value $1:
               
Authorized shares — 10,000,000
               
Issued shares — 7,842,342 in 2006 and 7,764,215 in 2005
    7,842,342       7,764,215  
Additional paid-in capital
    28,663,814       28,492,619  
Treasury stock at cost (1,175,716 shares at March 31, 2006 and 624,468 shares at March 31, 2005)
    (5,475,964 )     (2,768,785 )
Retained earnings
    6,067,143       1,866,501  
                 
TOTAL STOCKHOLDERS’ EQUITY
    37,097,335       35,354,550  
                 
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
  $ 55,930,889     $ 50,796,342  
                 
 
See accompanying notes.


4


 

 
FRIEDMAN INDUSTRIES, INCORPORATED

CONSOLIDATED STATEMENTS OF EARNINGS
 
                         
    Year Ended March 31  
    2006     2005     2004  
 
Sales
  $ 181,900,351     $ 188,022,253     $ 116,158,567  
Costs and expenses:
                       
Cost of products sold
    166,785,924       172,260,349       107,316,507  
Selling, general, and administrative
    5,321,517       5,663,317       4,827,728  
Interest expense
          15,638       35,253  
                         
      172,107,441       177,939,304       112,179,488  
                         
      9,792,910       10,082,949       3,979,079  
Interest and other income
    284,416       146,354       56,595  
                         
EARNINGS BEFORE INCOME TAXES
    10,077,326       10,229,303       4,035,674  
Income taxes:
                       
Current
    3,705,676       3,693,710       1,985,835  
Deferred
    (82,238 )     289,550       (486,152 )
                         
      3,623,438       3,983,260       1,499,683  
                         
NET EARNINGS
  $ 6,453,888     $ 6,246,043     $ 2,535,991  
                         
Average number of common shares outstanding:
                       
Basic
    7,072,637       7,418,410       7,574,070  
Diluted
    7,163,912       7,552,131       7,640,546  
Net earnings per share:
                       
Basic
  $ .91     $ .84     $ .33  
Diluted
  $ .90     $ .83     $ .33  
 
CONSOLIDATED STATEMENTS OF
STOCKHOLDERS’ EQUITY
                                 
          Additional
          Retained
 
    Common
    Paid-In
    Treasury
    Earnings
 
    Stock     Capital     Stock     (Deficit)  
 
BALANCE AT MARCH 31, 2003
  $ 7,573,239     $ 27,710,369     $     $ (4,036,857 )
Net earnings
                      2,535,991  
Issuance of Directors’ shares
    2,000       4,300              
Cash dividends ($0.10 per share)
                      (757,438 )
                                 
BALANCE AT MARCH 31, 2004
    7,575,239       27,714,669             (2,258,304 )
Net earnings
                      6,246,043  
Issuance of Directors’ shares
    2,000       9,800              
Exercise of stock options
    186,976       286,527              
Tax benefit of stock options exercised
          481,623              
Cash dividends($0.29 per share)
                        (2,121,238 )
Treasury stock (624,468 shares)
                (2,768,785 )      
                                 
BALANCE AT MARCH 31, 2005
    7,764,215       28,492,619       (2,768,785 )     1,866,501  
                                 
Net earnings
                      6,453,888  
Issuance of Directors’ shares
    1,600       8,192              
Exercise of stock options
    76,527       163,003              
Cash dividends ($0.32 per share)
                      (2,253,246 )
Treasury stock (551,248 shares)
                (2,707,179 )      
                                 
BALANCE AT MARCH 31, 2006
  $ 7,842,342     $ 28,663,814     $ (5,475,964 )   $ 6,067,143  
                                 
 
See accompanying notes.


5


 

 
FRIEDMAN INDUSTRIES, INCORPORATED

CONSOLIDATED STATEMENTS OF CASH FLOWS
 
                         
    Year Ended March 31  
    2006     2005     2004  
OPERATING ACTIVITIES
                       
Net earnings
  $ 6,453,888     $ 6,246,043     $ 2,535,991  
Adjustments to reconcile net earnings to net cash provided by (used in) operating activities:
                       
Depreciation
    927,397       908,382       916,260  
Deferred taxes
    (82,238 )     289,550       (486,152 )
Change in post retirement benefits
    50,323       38,664       200,756  
Tax benefit of stock options exercised
          481,623        
Changes in operating assets and liabilities:
                       
Accounts receivable
    (1,091,277 )     (1,714,334 )     (4,722,641 )
Inventories
    (2,099,681 )     (4,813,248 )     2,988,276  
Prepaid federal income taxes
    892,104       (892,104 )      
Other assets
    23,762       (28,760 )     (14,200 )
Accounts payable and accrued expenses
    3,239,816       3,269,475       333,765  
Contribution to profit sharing plan
    (18,000 )     (6,000 )     20,000  
Employee compensation and related expenses
    99,412       (168,829 )     528,216  
Federal income taxes payable
    143,196       (1,134,433 )     727,813  
                         
Net cash provided by operating activities
    8,538,702       2,476,029       3,028,084  
INVESTING ACTIVITIES
                       
Purchase of property, plant, and equipment
    (1,963,255 )     (953,613 )     (821,209 )
Proceeds from sale of asset
          542        
(Increase) decrease in cash value of officers’ life insurance
    (46,445 )     742,835       (81,354 )
                         
Net cash used in investing activities
    (2,009,700 )     (210,236 )     (902,563 )
FINANCING ACTIVITIES
                       
Cash dividends paid
    (2,291,096 )     (1,702,610 )     (757,398 )
Proceeds from borrowings of long-term debt
          5,000,000       2,000,000  
Principal payments on long-term debt
    (2,897 )     (5,060,140 )     (2,062,787 )
Purchase of treasury stock
    (2,707,179 )     (2,767,734 )      
Stock awards and options exercised
    249,321       485,303       6,300  
                         
Net cash used in financing activities
    (4,751,851 )     (4,045,181 )     (813,885 )
                         
Increase (decrease) in cash and cash equivalents
    1,777,151       (1,779,388 )     1,311,636  
Cash and cash equivalents at beginning of year
    205,375       1,984,763       673,127  
                         
Cash and cash equivalents at end of year
  $ 1,982,526     $ 205,375     $ 1,984,763  
                         
 
See accompanying notes.


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FRIEDMAN INDUSTRIES, INCORPORATED

NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
 
March 31, 2006
 
1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
BASIS OF CONSOLIDATION:  The consolidated financial statements include the accounts of Friedman Industries, Incorporated, and its subsidiary (collectively, the “Company”). All material intercompany amounts and transactions have been eliminated.
 
REVENUE RECOGNITION:  Revenues are recognized upon shipment of products. The terms of shipments made by the Company are free on board shipping point.
 
TRADE RECEIVABLES:  The Company’s receivables are recorded when billed, advanced or accrued and represent claims against third parties that will be settled in cash. The carrying value of the Company’s receivables, net of the allowance for doubtful accounts and cash discounts allowed, represents their estimated net realizable value. The Company estimates its allowance for doubtful accounts based on historical collection trends, the age of outstanding receivables and existing economic conditions. Past-due receivable balances are written-off when the Company’s internal collection efforts have been unsuccessful in collecting the amount due.
 
CASH AND CASH EQUIVALENTS:  The Company considers all highly liquid debt instruments purchased with maturities of three months or less to be cash equivalents.
 
INVENTORIES:  Inventories consist of prime coil, non-standard coil and tubular materials. Prime coil inventory consists primarily of raw materials, non-standard coil inventory consists primarily of finished goods and tubular inventory consists of both raw materials and finished goods. Inventories are valued at the lower of cost or replacement market. Cost for prime coil inventory is determined under the last-in, first-out (“LIFO”) method. During the year ended March 31, 2004, earnings before income taxes include a benefit of approximately $950,000 from the liquidation of LIFO inventory quantities carried at lower costs prevailing in prior year as compared to respective current costs of purchases. At March 31, 2006, March 31, 2005 and March 31, 2004, replacement cost exceeded LIFO cost by approximately $6,400,000, $8,200,000 and $4,320,000, respectively. Cost for non-standard coil inventory is determined using the specific identification method. Cost for tubular inventory is determined using the weighted average method.
 
The following is a summary of inventory by product group:
 
                 
    March 31  
    2006     2005  
 
Prime coil inventory
  $ 10,525,848     $ 7,497,674  
Non-standard coil inventory
    788,266       530,084  
Tubular raw material
    3,889,206       4,341,204  
Tubular finished goods
    12,753,601       13,488,278  
                 
    $ 27,956,921     $ 25,857,240  
                 
 
PROPERTY, PLANT, AND EQUIPMENT:  On April 1, 2002, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 144, Accounting for Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”). That statement requires that assets held-for-sale be recorded at the lower of their carrying amount or their fair value less cost to sell. Held-for-sale assets are not depreciated. Assets are classified as held-for-sale only if (i) management commits to a plan to sell the asset, (ii) the asset is available for immediate sale, (iii) the asset is actively being marketed for sale at a price that is reasonable in relation to its current fair value and (iv) management believes the sale of the asset is probable and expects transfer within one year. No assets met the definition of held-for-sale at March 31, 2006 and 2005. Assets having a total book value of approximately $70,000 and located in Houston, Texas have been actively


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FRIEDMAN INDUSTRIES, INCORPORATED

1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
 
marketed for more than three years. The Company entered into an earnest money contract for the sale of these assets in April 2006. If this transaction subsequently closes, the Company will record a gain on the sale of assets in fiscal 2007. Property, plant, and equipment are stated at cost. Depreciation is calculated primarily by the straight-line method over the estimated useful lives of the various classes of assets as follows:
 
         
Buildings
    20 years  
Machinery and equipment
    10 years  
Improvements
    5 to 10 years  
Loaders and other rolling stock
    5 years  
 
Interest costs incurred during construction projects are capitalized as part of the cost of such assets. No interest was capitalized for the years presented. The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that its carrying amount may not be recoverable. No impairments were necessary at March 31, 2006 or 2005.
 
Maintenance and repairs are expensed as incurred.
 
SHIPPING COSTS:  Shipping costs are recorded as a part of cost of products sold.
 
SUPPLEMENTAL CASH FLOW INFORMATION:  The Company paid interest of approximately $0 in 2006, $15,700 in 2005 and $35,300 in 2004. The Company paid income taxes, net of refunds, of $2,570,442 in 2006, $4,891,061 in 2005 and $1,065,000 in 2004.
 
USE OF ESTIMATES:  The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.
 
FINANCIAL INSTRUMENTS:  Since the Company’s financial instruments are short term in nature, the carrying value approximates fair value.
 
STOCK-BASED COMPENSATION:  The Company follows Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”), for its employee stock options. Under APB 25, because the exercise price of the Company’s employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized.
 
The following schedule reflects the impact on net income and earnings per common share if the Company had applied the fair value recognition provisions of Statements of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation to stock-based employee compensation for the years ended March 31:
 
                         
    2006     2005     2004  
 
Reported net income
  $ 6,453,888     $ 6,246,043     $ 2,535,991  
Less: compensation expenses per SFAS No. 123, net of tax
    -0-       -0-       31,582  
                         
Pro forma net income
  $ 6,453,888     $ 6,246,043     $ 2,504,409  
                         
BASIC EARNINGS PER COMMON SHARE:
                       
Reported net income
    .91       .84       .33  
Less: compensation expense per SFAS No. 123, net of tax
    .00       .00       .00  
                         
Pro forma net income
    .91       .84       .33  
                         
DILUTED EARNINGS PER COMMON SHARE:
                       
Reported net income
    .90       .83       .33  
Less: compensation expense per SFAS No. 123, net of tax
    .00       .00       .00  
                         
Pro forma net income
    .90       .83       .33  
                         


8


 

FRIEDMAN INDUSTRIES, INCORPORATED

1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
 
 
There were no options granted in fiscal 2006, 2005 and 2004.
 
The Company granted stock awards to outside directors in each of fiscal 2006, 2005 and 2004. These grants were recorded as expense based on the closing price of the stock on the date of grant.
 
ECONOMIC RELATIONSHIP:  Lone Star Steel Company (“LSS”) and Nucor Steel Company supply a significant amount of steel products to the Company. Loss of either of these mills as a source of supply could have a material adverse effect on the Company. Additionally, the Company derives revenue by selling a substantial amount of its manufactured pipe to LSS. Total sales to LSS were approximately 15%, 16% and 15% of total company sales in 2006, 2005 and 2004, respectively. Loss of LSS as a customer could have a material adverse effect on the Company’s business. Other than LSS, no customer accounted for 10% of total sales in the three years ended March 31, 2006, except Trinity Industries, Inc., a coil product customer, which accounted for approximately 11% of total sales in fiscal 2006 and 2005.
 
The Company’s sales are concentrated primarily in the midwestern, southwestern, and southeastern sections of the United States, and are primarily to customers in the steel distributing and fabricating industries. The Company performs periodic credit evaluations of the financial conditions of its customers and generally does not require collateral. Generally, receivables are due within 30 days.
 
NEW ACCOUNTING PRONOUNCEMENTS:
 
In December 2004, the Financial Accounting Standards Board (FASB) issued Statement Financial Accounting Standard No. 123 (revised 2004), Share-Based Payment (SFAS 123(R)). Statement 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. The SEC has deferred the implementation date and the Company is now required to adopt SFAS 123(R) no later than April 1, 2006. SFAS 123(R) permits adoption using one of two methods, a modified prospective method (“Prospective Method”) or a modified retrospective method (“Retrospective Method”). With the Prospective Method, costs are recognized beginning with the effective date based on the requirements of SFAS 123(R) for (i) all share-based payments granted after the effective date of SFAS 123(R), and (ii) all awards granted to employees prior to the effective date of SFAS 123(R) that remain unvested on the effective date. The Retrospective Method applies the requirements of the Prospective Method but further permits entities to restate all prior periods presented based on the amounts previously recognized under SFAS 123 for purposes of pro forma disclosures. The Company intends to adopt the Prospective Method and does not expect that this adoption will have a material impact.
 
FASB issued Statement Financial Accounting Standard Number 151, Inventory Costs, an Amendment of ARB No. 43, Chapter 4, (“#151”) regarding current period expenses generated from abnormal inventory costs associated with idle facility expense, freight, handling costs and spoilage. Effective in fiscal 2007, #151 will be applicable to the Company. The Company does not expect that the adoption of #151 will have a material impact.
 
2.  STOCK OPTIONS AND CAPITAL STOCK
 
Under the Company’s 1989 and 1996 Stock Option Plans, options were granted to certain officers and key employees to purchase common stock of the Company. Pursuant to the terms of the plans, 27,293 additional options may be granted. All options have ten-year terms and become fully exercisable at the end


9


 

FRIEDMAN INDUSTRIES, INCORPORATED

2.  CAPITAL STOCK AND STOCK OPTIONS (Continued)
 
of six months of continued employment. The following is a summary of activity relative to options outstanding during the years ended March 31:
 
                                                 
    2006     2005     2004  
          Weighted
          Weighted
          Weighted
 
          Average
          Average
          Average
 
          Exercise
          Exercise
          Exercise
 
    Shares     Price     Shares     Price     Shares     Price  
Outstanding at beginning of year
    224,718     $ 2.62       411,694     $ 2.58       411,694     $ 2.58  
Granted
                                   
Exercised
    (76,527 )     3.13       (186,976)     $ 2.53              
Canceled
    (10,979 )     2.40                          
                                                 
Outstanding at end of year
    137,212       2.35       224,718     $ 2.62       411,694     $ 2.58  
                                                 
Exercisable at end of year
    137,212       2.35       224,718     $ 2.62       411,694     $ 2.58  
Weighted average fair value of options granted during the year
                                         
 
Outstanding and exercisable stock options at March 31, 2006, were as follows:
 
                                         
          Outstanding     Exercisable  
    Weighted
          Weight
          Weight
 
    Average
          Average
          Average
 
Range of
  Remaining
          Exercise
          Exercise
 
Exercise Price
  Years     Shares     Price     Shares     Price  
 
$2.33 
    6.5       134,318     $ 2.33       134,318     $ 2.33  
$3.13
    -0-       2,894     $ 3.13       2,894     $ 3.13  
                                         
      6.5       137,212               137,212          
 
The Company has 1,000,000 authorized shares of Cumulative Preferred Stock with a par value of $1 per share. The stock may be issued in one or more series, and the Board of Directors is authorized to fix the designations, preferences, rights, qualifications, limitations, and restrictions of each series, except that any series must provide for cumulative dividends and must be convertible into common stock.
 
3.  LONG-TERM DEBT AND COMMITMENTS AND CONTINGENCIES
 
The Company has a credit arrangement with a bank which provides for a revolving line of credit facility (the “revolving facility”). Pursuant to the revolving facility which expires April 1, 2008, the Company may borrow up to $6 million at the bank’s prime rate or at 1.5% over LIBOR. At March 31, 2006 and 2005, the Company did not have borrowings outstanding under the revolving facility. The Company entered into certain notes payable related to the purchase of certain pipe loading equipment. There are no annual principal payments required on these notes payable including the current portion thereon during the next five years.
 
At March 31, 2006, the Company was committed to purchase land for approximately $630,000 associated with a new coil facility to be located in Decatur, Alabama. Operations at the Decatur site are expected to commence in fiscal 2008.
 
The Company is obligated under an operating lease for its Longview, Texas office building that expires on April 30, 2008. The following is a schedule of future minimum annual rental payments required under this operating lease as of March 31, 2006:
 
         
2007
  $ 27,264  
2008
    27,264  
2009
    2,272  
2010
     
2011
     
Thereafter
     
         
Total
  $ 56,800  
         


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FRIEDMAN INDUSTRIES, INCORPORATED

3.  LONG-TERM DEBT AND COMMITMENTS AND CONTINGENCIES (Continued)
 
 
Rental expense for leased properties was $27,264 during fiscal 2006, 2005 and 2004, respectively.
 
4.  EARNINGS PER SHARE
 
Basic and dilutive net income per share is computed based on the following information:
 
                         
    Year Ended March 31  
    2006     2005     2004  
 
Basic
                       
Net income
  $ 6,453,888     $ 6,246,043     $ 2,535,991  
                         
Average common shares
    7,072,637       7,418,410       7,574,070  
                         
Dilutive
                       
Net income
  $ 6,453,888     $ 6,246,043     $ 2,535,991  
                         
Average common shares
    7,072,637       7,418,410       7,574,070  
Common share equivalents:
                       
Options
    91,275       133,721       66,476  
                         
Total common share equivalents
    91,275       133,721       66,476  
                         
Average common shares and common equivalents
    7,163,912       7,552,131       7,640,546  
                         
 
5.  INCOME TAXES
 
Components of tax expense follows:
 
                         
    Year Ended March 31  
    2006     2005     2004  
 
Federal
                       
Current
  $ 3,260,300     $ 2,934,088     $ 1,792,570  
Deferred
    (82,238 )     289,550       (486,152 )
                         
      3,178,062       3,223,638       1,306,418  
State
                       
Current
    445,376       759,622       193,265  
                         
      445,376       759,622       193,265  
                         
Total
  $ 3,623,438     $ 3,983,260     $ 1,499,683  
                         
 
The U.S. federal statutory income tax is reconciled to the effective rate as follows:
 
                         
    Year Ended March 31  
    2006     2005     2004  
 
Income Tax Expense at
U.S. federal statutory rate
    34.0 %     34.0 %     34.0 %
Benefit of tax deduction allowed to manufacturing companies
    (1.0 )            
State and local income tax rates net of federal income tax benefit
    3.0       4.9       3.2  
                         
Provision for income taxes
    36.0 %     38.9 %     37.2 %
                         


11


 

FRIEDMAN INDUSTRIES, INCORPORATED

5.  INCOME TAXES (Continued)
 
 
Deferred income taxes are provided for temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amount used for tax purposes. Significant components of the Company’s consolidated deferred tax assets (liabilities) are as follows:
 
                 
    March 31  
    2006     2005  
 
Deferred tax liabilities:
               
Depreciation
  $ (792,909 )   $ (814,504 )
                 
Total deferred tax liabilities
    (792,909 )     (814,504 )
Deferred tax assets:
               
Inventory capitalization
    67,970       71,423  
LIFO Inventory
    501,125       460,771  
Postretirement benefits other than pensions
    151,553       134,443  
Other
    67,643       61,011  
                 
Total deferred tax assets
    788,291       727,648  
                 
Net deferred tax asset (liability)
  $ (4,618 )   $ (86,856 )
                 
 
6.  PROFIT SHARING PLAN AND OTHER POSTRETIREMENT BENEFITS
 
The Company has a defined contribution plan (the “Plan”) covering substantially all employees, including officers. Company contributions, which are made at the discretion of the Board of Directors in an amount not to exceed 15% of the total compensation paid during the year to all eligible employees, were $256,000 for the year ended March 31, 2006, $274,000 for the year ended March 31, 2005, and $280,000 for the year ended March 31, 2004. The employees fully vest in the Plan upon completion of 7 years of service. Contributions, Plan earnings, and forfeitures of terminated participants’ nonvested accounts are allocated to the individual accounts of participating employees based on compensation received during the Plan year and years of active service with the Company.
 
Employees of the Company may participate in a 401(k) retirement plan (the “401(k) plan”). Employees are eligible to participate in the 401(k) plan when the employee has completed one year of service. Under the 401(k) plan, participating employees may defer a portion of their pretax earnings up to certain limits prescribed by the Internal Revenue Service. The Company provides matching contributions under the provisions of the 401(k) plan. Employees fully vest in the Company’s matching contributions upon the completion of 7 years of service. Contribution expense related to the 401(k) plan was approximately $38,000, $40,000 and $28,000 for the years ended March 31, 2006, 2005 and 2004, respectively.
 
7.  INDUSTRY SEGMENT DATA
 
The Company is engaged in the steel processing, pipe manufacturing and processing and steel and pipe distribution business. Within the Company, there are two product groups: coil and tubular. Coil product involves converting steel coils into flat sheet and plate steel cut to customer specifications and reselling steel coils. Through its tubular operation, the Company purchases, processes, manufactures and markets


12


 

FRIEDMAN INDUSTRIES, INCORPORATED

7.  INDUSTRY SEGMENT DATA (Continued)
 
tubular products. The following is a summary of significant financial information relating to the product groups:
 
                         
    Year Ended March 31  
    2006     2005     2004  
 
NET SALES:
                       
Coil
  $ 93,870,412     $ 104,312,715     $ 62,372,496  
Tubular
    88,029,939       83,709,538       53,786,071  
                         
TOTAL NET SALES
  $ 181,900,351     $ 188,022,253     $ 116,158,567  
                         
OPERATING PROFIT:
                       
Coil
  $ 3,949,444     $ 4,283,911     $ 3,026,372  
Tubular
    8,747,667       9,021,863       3,704,082  
                         
TOTAL OPERATING PROFIT
    12,697,111       13,305,774       6,730,454  
General corporate expenses
    (2,904,201 )     (3,207,187 )     (2,716,122 )
Interest expense
          (15,638 )     (35,253 )
Interest and other income
    284,416       146,354       56,595  
                         
TOTAL EARNINGS BEFORE TAXES
  $ 10,077,326     $ 10,229,303     $ 4,035,674  
                         
IDENTIFIABLE ASSETS:
                       
Coil
  $ 24,528,359     $ 20,724,554     $ 21,770,013  
Tubular
    28,683,780       28,300,933       20,623,515  
                         
      53,212,139       49,025,487       42,393,528  
General corporate assets
    2,718,750       1,770,855       3,634,595  
                         
TOTAL ASSETS
  $ 55,930,889     $ 50,796,342     $ 46,028,123  
                         
DEPRECIATION:
                       
Coil
  $ 610,202     $ 624,654     $ 744,759  
Tubular
    286,646       248,542       151,250  
Corporate and other
    30,549       35,186       20,251  
                         
    $ 927,397     $ 908,382     $ 916,260  
                         
CAPITAL EXPENDITURES:
                       
Coil
  $ 826,642     $ 113,243     $ 30,457  
Tubular
    1,119,633       815,145       715,426  
Corporate and other
    16,980       25,225       75,326  
                         
    $ 1,963,255     $ 953,613     $ 821,209  
                         
 
Operating profit is total revenue less operating expenses, excluding general corporate expenses, interest expense and interest and other income. General corporate expenses reflect general and administrative expenses not directly associated with segment operations and consist primarily of corporate and accounting salaries, professional fees and services, bad debts, accrued profit sharing expense, accrued quarterly incentive bonuses, corporate insurance expenses and office supplies. Corporate assets consist primarily of cash and cash equivalents, prepaid federal income taxes, deferred income taxes and the cash value of officers’ life insurance. Although inventory is transferred at cost between product groups, there are no sales between product groups.


13


 

FRIEDMAN INDUSTRIES, INCORPORATED

8.  SUMMARY OF QUARTERLY RESULTS OF OPERATIONS (Unaudited)
 
The following is a summary of unaudited quarterly results of operations for the years ended March 31, 2006 and 2005:
 
                                 
    Quarter Ended  
    June 30
    September 30
    December 31
    March 31
 
    2005     2005     2005     2006  
 
Net sales
  $ 46,057,585     $ 42,730,045     $ 44,527,263     $ 48,585,458  
Gross profit
    3,113,413       3,739,051       3,834,454       4,427,509  
Net earnings
    1,130,767       1,569,107       1,668,687       2,085,327  
Basic
    .16       .22       .23       .30  
Diluted(1)
    .16       .22       .23       .30  
 
                                 
    Quarter Ended  
    June 30
    September 30
    December 31
    March 31
 
    2004     2004     2004     2005  
 
Net sales
  $ 44,915,704     $ 49,020,241     $ 43,434,081     $ 50,652,227  
Gross profit
    4,200,547       5,025,949       3,156,238       3,379,170  
Net earnings
    1,618,829       2,261,133       1,220,609       1,145,472  
Basic(1)
    .21       .30       .16       .16  
Diluted(1)
    .21       .29       .16       .16  
 
 
 
(1)  The sum of the quarterly earnings per share does not equal the annual amount reported as per share amounts are computed independently for each quarter.


14


 

FRIEDMAN INDUSTRIES, INCORPORATED

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
Board of Directors and Shareholders
Friedman Industries, Incorporated
 
We have audited the accompanying consolidated balance sheets of Friedman Industries, Incorporated as of March 31, 2006 and 2005, and the related consolidated statements of earnings, stockholders’ equity, and cash flows for each of the three years in the period ended March 31, 2006. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Friedman Industries, Incorporated at March 31, 2006 and 2005, and the consolidated results of its operations and its cash flows for each of the three years in the period ended March 31, 2006, in conformity with U.S. generally accepted accounting principles.
 
/s/  Ernst & Young LLP
 
Houston, Texas
June 27, 2006
 
 
SELECTED FINANCIAL DATA
 
                                         
    Year Ended March 31  
    2006     2005     2004     2003     2002  
Net sales
  $ 181,900,351     $ 188,022,253     $ 116,158,567     $ 106,082,738     $ 97,817,956  
Net earnings
    6,453,888       6,246,043       2,535,991       1,432,017       940,039  
Total assets
    55,930,889       50,796,342       46,028,123       42,778,926       43,986,455  
Long-term debt
                      57,329       2,053,438  
Stockholders’ equity
    37,097,335       35,354,550       33,031,604       31,246,751       30,491,351  
Net earnings per share:
                                       
Basic
    0.91       0.84       0.33       0.19       0.12  
Diluted
    0.90       0.83       0.33       0.19       0.12  
Cash dividends declared per share
    0.32       0.29       0.10       0.09       0.11  
 
 
See also Note 1 of Notes to the Company’s Consolidated Financial Statements herein which describes the Company’s relationship with its primary suppliers of steel products.


15


 

FRIEDMAN INDUSTRIES, INCORPORATED

MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
RESULTS OF OPERATIONS
 
Year ended March 31, 2006 compared to year ended March 31, 2005
 
During the year ended March 31, 2006, sales, costs of goods sold and gross profit decreased $6,121,902, $5,474,425 and $647,477, respectively, from the comparable amounts recorded during the year ended March 31, 2005. The decrease in sales was related primarily to a decrease in the average per ton selling price which decreased from approximately $639 per ton in fiscal 2005 to $616 per ton in fiscal 2006. Tons shipped remained constant at approximately 295,000 tons during each fiscal year. Costs of goods sold decreased due primarily to a decrease in the average per ton costs of goods sold which decreased from approximately $585 per ton in fiscal 2005 to $565 per ton in fiscal 2006. Gross profit was adversely affected by decreased sales. Gross profit as a percentage of sales declined from approximately 8.4% in fiscal 2005 to approximately 8.3% in fiscal 2006.
 
Coil product segment sales decreased $10,442,303 during fiscal 2006. This decrease was related primarily to a decline in the average selling price which decreased from approximately $725 per ton in fiscal 2005 to approximately $630 per ton in fiscal 2006. This decrease in sales relative to a decline in average selling prices was partially offset by an increase in tons shipped which increased from approximately 144,000 tons in fiscal 2005 to 149,000 tons in fiscal 2006. Coil operating profit declined $334,467 due primarily to the reduction in sales. Coil operating profit as a percentage of coil segment sales increased from approximately 4.1% in fiscal 2005 to 4.2% in fiscal 2006.
 
In fiscal 2006, the Company’s Lone Star coil facility (“LSCF”) continued to experience a lack of supply of coil products from its primary coil supplier, Lone Star Steel Company (“LSS”). In fiscal 2006, the Company decided to phase out the LSCF in fiscal 2007 and redeploy certain LSCF assets to a new coil operation to be located in close proximity to the Nucor Steel Company steel mill in Decatur, Alabama. LSCF, which produced a marginal profit in fiscal 2006, accounted for approximately 5% of total sales in fiscal 2006.
 
During the year ended March 31, 2006, XSCP, which markets non-standard coils received from Nucor Steel Company (“NSC”), continued to receive limited shipments of non-standard coils from NSC and expects these limited shipments to continue. XSCP accounted for approximately 5% of total sales in fiscal 2006 and its operating assets, when not used by XSCP, can be used at the Company’s Hickman coil facility (“Hickman”).
 
The Company is dependent on NSC for its supply of coil inventory. NSC continues to supply Hickman and XSCP with steel coils in amounts that are adequate for the Company’s purposes. While current levels are adequate to sustain the Company’s operations at both Hickman and XSCP, a reduction in the supply of steel coils could have an adverse effect on the Company’s coil operations.
 
Tubular product segment sales increased $4,320,401 during fiscal 2006. This increase resulted from an increase in the average per ton selling price from approximately $557 per ton in fiscal 2005 to approximately $602 per ton in fiscal 2006. This increase was partially offset by a decline in tons shipped from approximately 150,000 tons in fiscal 2005 to 146,000 tons in fiscal 2006. Tubular product operating profit declined $274,196 and was primarily affected by a decrease in average margins. In fiscal 2006, the Company incurred an increase in pipe manufacturing costs but was unable to pass the total amount of these costs to customers. Tubular product segment operating profit as a percentage of segment sales declined from approximately 10.8% in fiscal 2005 to 9.9% in fiscal 2006. The Company experienced somewhat softer market conditions for its pipe products in fiscal 2006 as compared to conditions in fiscal 2005.


16


 

FRIEDMAN INDUSTRIES, INCORPORATED

During fiscal 2006, LSS, the Company’s primary supplier of tubular products and coil material used in pipe manufacturing, continued to supply such products in amounts that were adequate for the Company’s purposes. The Company does not currently anticipate any significant change in such supply from LSS.
 
During fiscal 2006, general, selling and administrative costs decreased $341,800 from the amount recorded during fiscal 2005. This decrease was related primarily to a decrease in bad debt expense and a reduction in remuneration associated with a retired executive.
 
Interest and other income increased $138,062 from the comparable amount recorded in fiscal 2005. This increase was associated primarily with an increase in the average invested cash positions and an increase in average interest rates paid on invested cash during fiscal 2006.
 
Income taxes decreased $359,822 from the comparable amount recorded during fiscal 2005. This decrease was primarily related to the decrease in earnings before taxes and to a tax deduction allowed to manufacturing companies in fiscal 2006. Effective tax rates were 36.0% and 38.9% in fiscal 2006 and 2005, respectively.
 
Year ended March 31, 2005 compared to year ended March 31, 2004
 
During the year ended March 31, 2005, sales, costs of goods sold and gross profit increased $71,863,686, $64,943,842 and $6,919,844, from the respective amounts recorded during the year ended March 31, 2004. The increases in sales and costs of goods were related primarily to increases in the average per ton selling price and average per ton cost of goods sold of approximately $278 and $252, respectively. Total tons shipped decreased from approximately 322,000 tons in fiscal 2004 to 295,000 tons in fiscal 2005. Gross profit benefited from improved margins. In fiscal 2005, gross profit and costs of goods as percentage of sales were approximately 8.4% compared to 7.6% in fiscal 2004. During fiscal 2005, the Company experienced a significant improvement in market conditions for its products as compared to market conditions during fiscal 2004.
 
Coil product segment sales increased approximately $41,940,000 during fiscal 2005. This increase was related primarily to an increase in the average per ton selling price. Tons shipped declined from approximately 173,000 tons in fiscal 2004 to 144,000 tons in fiscal 2005. Each of the Company’s coil operations reflected a decrease in tons sold. However, approximately 59% of this overall decrease in tons sold was related to a reduction in tons sold by the Company’s XSCP Division (“XSCP”). During fiscal 2005, XSCP, which markets non-standard coils received from Nucor Steel Company (“NSC”), agreed with NSC to suspend the purchase of non-standard coils. XSCP accounted for approximately 3% of the Company’s total sales during fiscal 2005. Total coil operating profit as a percentage of coil segment sales decreased from 4.9% in fiscal 2004 to 4.1% in fiscal 2005. In fiscal 2004, coil operations experienced a liquidation of LIFO inventory which generated a one-time benefit of approximately $950,000 in operating income.
 
In fiscal 2005, the Company’s Lone Star coil facility (“LSCF”) continued to experience a lack of supply of coil products from its primary coil supplier, Lone Star Steel Company (“LSS”). LSCF accounted for approximately 7% of the Company’s total sales in fiscal 2005 and produced a marginal profit from operations in fiscal 2005.
 
The Company is dependent on NSC for its supply of inventory. NSC continues to supply Hickman and XSCP with steel coils in amounts that are adequate for the Company’s purposes. While current levels are adequate to sustain the Company’s operations, a reduction in the supply of steel coils could have an adverse effect on the Company’s coil operations.
 
Tubular product segment sales increased approximately $29,923,000 during fiscal 2005. This increase resulted primarily from an increase of approximately $196 in the average per ton selling price. Tons shipped in each fiscal year remained constant at approximately 150,000 tons. Tubular product segment operating profits as a percentage of segment sales were approximately 10.8% and 6.9% in fiscal 2005 and 2004, respectively. This segment benefited from significantly improved market conditions for tubular products during fiscal 2005 as compared to market conditions in fiscal 2004.


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FRIEDMAN INDUSTRIES, INCORPORATED

During fiscal 2005, LSS, the Company’s primary supplier of tubular products and coil material used in pipe manufacturing, continued to supply such products in amounts that were adequate for the Company’s purposes. The Company does not currently anticipate any significant change in such supply from LSS.
 
During fiscal 2005, general, selling and administrative costs increased $835,589 from the amount recorded during fiscal 2004. This increase was related primarily to bonuses associated with increased earnings and an increase in legal and professional expenses.
 
Interest and other income increased $89,759 from the amount recorded during fiscal 2005. This increase was associated primarily with interest earned on improved invested cash positions during fiscal 2005.
 
Income taxes increased $2,483,577 from the comparable amount recorded during fiscal 2004. This increase was primarily related to the increase in earnings before taxes. The effective tax rates were 39% and 37% in fiscal 2005 and 2004, respectively. In fiscal 2005, the Company recorded taxes related to the surrender of life insurance policies and an increase in the net effect of state income taxes.
 
FINANCIAL CONDITION, LIQUIDITY AND SOURCES OF CAPITAL
 
The Company remained in a strong, liquid position at March 31, 2006. Current ratios were 2.59 and 2.91 at March 31, 2006 and March 31, 2005, respectively. Working capital was $29,167,810 at March 31, 2006 and $28,539,243 at March 31, 2005.
 
During the year ended March 31, 2006, the Company maintained assets and liabilities at levels it believed were commensurate with operations. Cash, accounts receivable, inventories and accounts payable increased. These increases were related primarily to the ordinary course of business of the Company. The Company expects to continue to monitor, evaluate and manage balance sheet components depending on changes in market conditions and the Company’s operations.
 
In December 2004, the Company purchased 624,207 shares of the common stock of the Company from Mr. Harold Friedman for approximately $4.434 per share or a total of $2,767,734. Effective as of December 31, 2004, Mr. H. Friedman resigned as Vice Chairman of the Board and retired as a full-time employee of the Company.
 
In February 2006, the Company purchased 551,248 shares of the common stock of the Company from Mr. Jack Friedman for approximately $4.911 per share or a total of $2,707,179. Effective as of February 8, 2006, Mr. J. Friedman retired as Chairman of the Board and Chief Executive Officer and as an employee of the Company.
 
During the year ended March 31, 2006, the Company purchased approximately $1,963,000 in fixed assets. These assets were related primarily to improvements to the small diameter pipe mill which began operation at Lone Star, Texas in April 2004 and land and equipment associated with the new coil operation to be located in Decatur, Alabama. In connection with this planned new operation, in fiscal 2007 the Company intends to phase out its coil processing operations at Lone Star, Texas. At the Decatur site, the Company intends to construct a coil processing facility using in part assets currently used at its Lone Star facility. The Company expects that the Decatur processing facility will initially operate a hot roll steel temper mill and a hot roll steel cut-to-length and leveling line. The Company expects that the Decatur facility will commence operations in fiscal 2008. In addition to the funds to be used to purchase the real property in Alabama, the Company’s Board of Directors has authorized up to an additional $16 million to be used for capital expenditures and working capital related to the acquisition improvement of the Decatur facility.
 
The Company has entered into an earnest money contract for the sale of the real property owned by the Company in Houston, Texas. The closing is subject to standard conditions, including inspections and feasibility studies. The Company anticipates closing on the sale in August 2006. Following the closing, the Company plans to lease the office building located on the Houston property and to maintain its corporate office at such location.
 
The Company has a credit arrangement with a bank which provides for a revolving line of credit facility (the “revolving facility”). Pursuant to the revolving facility, which expires April 1, 2008, the Company may


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FRIEDMAN INDUSTRIES, INCORPORATED

FINANCIAL CONDITION, LIQUIDITY AND SOURCES OF CAPITAL (continued)
 
borrow up to $6 million at an interest rate of the bank’s prime rate or 1.5% over LIBOR. The Company uses the revolving facility to support cash flow and borrows and repays funds as working capital is required. At March 31, 2006 and 2005, the Company had no borrowings outstanding under the revolving facility. The Company has in the past and may in the future borrow funds on a term basis to build or improve facilities. The Company currently has no plans to borrow funds on a term basis.
 
Notwithstanding the current market conditions, the Company believes that its cash flow from operations and borrowing capability under its revolving line of credit facility are adequate to fund its expected cash requirements for the next 24 months.
 
OFF-BALANCE SHEET ARRANGEMENTS
 
The Company has no off-balance sheet arrangements.
 
CONTRACTUAL OBLIGATIONS
 
                                         
    Payment Due by Period  
          Less Than
    1-3
    3-5
    More Than
 
Contractual Obligations
  Total     1 Year     Years     Years     5 Years  
 
Long-term debt obligations
  $     $                    
Capital lease obligations
                             
Operating lease obligations
    56,800       27,264     $ 27,264     $ 2,272        
                                         
Total
  $ 56,800     $ 27,264     $ 27,264     $ 2,272        
                                         
 
INFLATION
 
During fiscal 2006, the Company believes that the general level of inflation had little effect on its operations.
 
CRITICAL ACCOUNTING POLICIES
 
The preparation of consolidated financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. One such accounting policy which requires significant estimates and judgments is the valuation of LIFO inventories in the Company’s quarterly reporting. The Company’s quarterly valuation of inventory requires estimates of the year end quantities which is inherently difficult. Historically, these estimates have been materially correct. In addition, the Company maintains an allowance for doubtful accounts receivable by providing for specifically identified accounts where collectibility is doubtful. On an on-going basis, the Company evaluates estimates and judgments. The Company bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances.
 
FORWARD-LOOKING STATEMENTS
 
From time to time, the Company may make certain statements that contain “forward-looking” information (as defined in the Private Securities Litigation Reform Act of 1996) and that involve risk and uncertainty. These forward-looking statements may include, but are not limited to, future results of operations, future production capacity and product quality. Forward-looking statements may be made by management orally or in writing including, but not limited to, this Management’s Discussion and Analysis of Financial Condition and Results of Operations and other sections of the Company’s filings with the Securities and Exchange Commission under the Securities Act of 1933 and the Securities Exchange Act of 1934. Actual results and trends in the future may differ materially depending on a variety of factors including but not limited to changes in the demand and prices for the Company’s products, changes in the demand for steel and steel products in general, and the Company’s success in executing its internal operating plans.


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FRIEDMAN INDUSTRIES, INCORPORATED

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
In the normal course of business the Company is exposed to market risks primarily from changes in the cost of steel in inventory and in interest rates. The Company closely monitors exposure to market risks and develops appropriate strategies to manage risk. With respect to steel purchases, there is no recognized market to purchase derivative financial instruments to reduce the inventory exposure risk on changing commodity prices. The exposure to market risk associated with interest rates relates primarily to debt. Recent debt balances are minimal and, as a result, direct exposure to interest rates changes is not significant.


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FRIEDMAN INDUSTRIES, INCORPORATED
 
TEN YEAR FINANCIAL SUMMARY
 
                                                                                 
    Year Ended March 31  
    2006     2005     2004     2003     2002     2001     2000     1999     1998     1997  
 
Net sales
  $ 181,900,351     $ 188,022,253     $ 116,158,567     $ 106,082,738     $ 97,817,956     $ 120,395,583     $ 120,267,809     $ 124,719,640     $ 148,840,724     $ 119,920,966  
Earnings
  $ 6,453,888     $ 6,246,043     $ 2,535,991     $ 1,432,017     $ 940,039     $ 2,927,582     $ 2,506,801     $ 3,540,811     $ 4,809,992     $ 3,630,071  
Current assets
  $ 47,551,003     $ 43,498,759     $ 37,829,701     $ 34,769,500     $ 35,806,988     $ 40,231,329     $ 36,945,378     $ 32,534,040     $ 39,347,548     $ 33,357,160  
Current liabilities
  $ 18,383,193     $ 14,959,516     $ 12,639,763     $ 11,035,388     $ 10,797,106     $ 12,271,802     $ 8,377,279     $ 6,758,038     $ 13,437,178     $ 10,172,672  
Net working capital
  $ 29,167,810     $ 28,539,243     $ 25,189,938     $ 23,734,112     $ 25,009,882     $ 27,959,527     $ 28,568,099     $ 25,776,002     $ 25,910,370     $ 23,184,488  
Total assets
  $ 55,930,889     $ 50,796,342     $ 46,028,123     $ 42,778,926     $ 43,986,455     $ 48,010,512     $ 45,106,790     $ 41,023,377     $ 46,039,361     $ 38,117,191  
Stockholders’ equity
  $ 37,097,335     $ 35,354,550     $ 33,031,604     $ 31,246,751     $ 30,491,351     $ 30,378,150     $ 28,622,951     $ 27,422,779     $ 25,732,957     $ 22,781,959  
Earnings as a percent of
                                                                               
Net sales
    3.5       3.3       2.2       1.3       1.0       2.4       2.1       2.8       3.2       3.0  
Stockholders’ equity
    17.4       17.7       7.7       4.6       3.1       9.6       8.8       12.9       18.7       15.9  
Average number of common shares outstanding: Basic(1)
    7,072,637       7,418,410       7,574,070       7,572,239       7,571,239       7,568,839       7,547,624       7,528,702       7,512,901       7,489,943  
Per share
                                                                               
Net earnings per share:
                                                                               
Basic
  $ 0.91     $  0.84     $  0.33     $  0.19     $  0.12     $  0.39     $  0.33     $  0.47     $  0.64     $  0.48  
Stockholders’ equity(1)
  $ 5.25     $  4.77     $  4.36     $  4.13     $  4.03     $  4.01     $  3.79     $  3.64     $  3.43     $  3.04  
Cash dividends per common
share
  $ 0.32     $  0.29     $  0.10     $  0.09     $  0.11     $  0.16     $  0.18     $  0.25     $  0.25     $  0.18  
Stock dividend declared
                      —        —        —        5%       5%       5%       5%  
 
 
(1)  Adjusted for stock dividends.