Franklin Wireless Corp. — Form 10-Q Summary
Business Context and Reporting Period
Franklin Wireless provides wireless connectivity products, including mobile hotspots, routers, trackers, embedded modules, modems and gateways supporting 5G/4G, M2M and IoT applications. The company sells primarily to wireless operators, strategic partners and distributors, with operations and customers spanning North America, Asia, and other regions. Franklin owns 66.3% of Franklin Technology Inc. (FTI), a South Korean research and development subsidiary; the remaining 33.7% is held by non-controlling interests.
This unaudited Form 10-Q covers the three and six months ended December 31, 2021, corresponding to the company’s fiscal second quarter and first six months of fiscal 2022. Comparative periods are the three and six months ended December 31, 2020.
Financial Performance and Key Metrics
| Metric | Three Months Ended Dec. 31, 2021 | Three Months Ended Dec. 31, 2020 | Six Months Ended Dec. 31, 2021 | Six Months Ended Dec. 31, 2020 |
|---|---|---|---|---|
| Net sales | $1.8 million | $66.2 million | $5.2 million | $128.8 million |
| Gross profit | $0.4 million | $11.3 million | $0.9 million | $23.0 million |
| Gross margin | 20.0% | 17.0% | 16.6% | 17.8% |
| Operating income (loss) | $(1.8) million | $8.7 million | $(3.4) million | $17.9 million |
| Net income (loss) | $(1.2) million | $7.0 million | $(2.2) million | $14.2 million |
| Net income (loss) attributable to parent | $(1.2) million | $6.9 million | $(2.3) million | $13.8 million |
| Diluted EPS | $(0.10) | $0.58 | $(0.20) | $1.22 |
Six-month operating expenses were $4.2 million, down from $5.1 million, primarily because of lower shipping and handling, payroll and bad-debt expenses. Research and development expense was essentially stable at $2.1 million. Other income was $0.3 million for the six months, compared with $0.4 million in the prior year; the prior-year amount included a $0.5 million gain from forgiveness of a Paycheck Protection Program loan.
At December 31, 2021, cash and cash equivalents were $36.7 million and certificates of deposit were $5.4 million, for total reported cash and short-term investments of approximately $42.1 million. Total current assets were $45.5 million versus current liabilities of $5.2 million. Total liabilities were $5.5 million, consisting primarily of accounts payable and lease liabilities; the filing reports no conventional debt. Total stockholders’ equity was $44.0 million.
Net cash used in operating activities was $8.4 million for the six months ended December 31, 2021, compared with $37.1 million provided in the prior-year period. Investing cash use was $0.5 million, including $0.5 million of capitalized product development costs. Financing provided $21,595 from stock-option exercises. Cash declined by $9.1 million during the six months to $36.7 million.
Material Changes Versus the Prior Comparable Period
- Six-month sales fell 96.0% to $5.2 million, primarily because demand from two major North American carrier customers declined from the unusually high levels experienced during the early COVID-19 period in the prior year.
- North American sales fell 96.5% to $4.5 million and represented 86.3% of six-month sales. Asia sales increased to $0.7 million from less than $0.1 million, primarily from FTI material sales and product-development services.
- Six-month gross margin declined to 16.6% from 17.8%, reflecting competitive pricing, higher production costs, lower-margin FTI sales and product mix. Second-quarter gross margin improved to 20.0% from 17.0%, partly due to newly launched products with higher selling prices.
- The company shifted from $14.2 million of six-month net income to a $2.2 million net loss, and from $37.1 million of operating cash generation to $8.4 million of operating cash consumption.
- Accounts payable declined by $6.2 million and inventory increased by $0.9 million, contributing significantly to the operating cash outflow. Accounts receivable declined by $1.3 million.
- Total assets declined to $49.4 million from $57.8 million at June 30, 2021, while total liabilities declined to $5.5 million from $11.6 million.
- Outstanding stock options increased to 863,001 from 484,000 at June 30, 2021, primarily because 388,000 options were granted during the period.
Guidance, Outlook, Risks and Unusual Items
Management did not provide quantitative revenue or earnings guidance. Management expects revenue to depend on retaining existing customers, demand for wireless data products, acceptance of new products, new customer relationships and the ability to meet customer demand. Management stated that available cash and short-term investments should fund existing operations and obligations for at least one year from the filing date, but warned that failure to achieve its business plan or obtain additional funding could require curtailment of operations.
- Customer concentration: Two customers accounted for 50% and 19% of six-month 2021 sales. A significant decline in demand or customer financial condition could materially affect results.
- Manufacturing concentration: Two Asian manufacturers supplied approximately 99% of product purchases, or $5.0 million, during the six months ended December 31, 2021. Delays, capacity constraints or quality problems could disrupt shipments and revenue.
- Verizon Jetpack recall: Verizon recalled approximately 2.5 million Ellipsis Jetpack devices because of alleged lithium-ion battery overheating risks. Franklin stated that it had not reproduced the failures and had not been served with recall-related litigation, but it could not estimate the future financial impact.
- Related shareholder and derivative litigation: Multiple actions allege inadequate disclosure concerning the recall. The company disputes the allegations and intends to defend them vigorously.
- Short-swing profits litigation: A separate action alleges that the chief executive officer violated Section 16(b) of the Exchange Act.
- Anydata and Quanta contingency: Franklin reported a reasonable possibility of loss relating to an unfulfilled Anydata purchase commitment and related vendor obligations, but stated that the amount was not estimable. Franklin commenced legal action against Anydata and its principals.
- COVID-19 and supply chain: Continuing pandemic effects could disrupt the company, third-party manufacturers and product supply. The financial impact was not reasonably estimable.
- Tariffs and indemnification: Products are currently believed to be exempt from certain import tariffs; a potential 10% to 25% tariff could materially affect results. Customer contracts may also create intellectual-property indemnification exposure.
- Lease commitments: Future minimum operating lease payments totaled $0.6 million, net of imputed interest, as of December 31, 2021.
Investor Verification Points
- Verify whether North American carrier demand is stabilizing after the prior-year COVID-related surge and whether new products can offset the decline.
- Assess the company’s ability to return to positive operating cash flow while inventory remains elevated and accounts payable normalize.
- Review customer concentration, manufacturing concentration and supplier continuity, particularly for the two primary Asian manufacturers.
- Monitor developments, reserves and potential costs related to the Verizon recall, shareholder litigation, derivative actions and the Anydata dispute.
- Evaluate whether the approximately $42.1 million of cash and short-term investments remains sufficient if losses and cash usage continue.
- Review the company’s latest Form 10-K risk factors and subsequent filings for changes in litigation status, tariffs, COVID-19 effects and product demand.