Franklin Wireless Corp. Form 10-Q Summary
Reporting period: The filing covers the three and nine months ended March 31, 2016, with a fiscal year ending June 30, 2016. The request metadata identifies “2015 Q3,” but the filing itself clearly reports the 2016 period. Franklin Wireless provides mobile hotspots, routers, modems, and hardware and software supporting machine-to-machine and Internet of Things applications. The company owns 51.8% of Franklin Technology Inc. in South Korea.
Financial Highlights
| Metric | Three Months Ended March 31, 2016 | Three Months Ended March 31, 2015 | Nine Months Ended March 31, 2016 | Nine Months Ended March 31, 2015 |
|---|---|---|---|---|
| Net sales | $14.1 million | $10.2 million | $46.3 million | $36.3 million |
| Gross profit | $2.5 million | $1.9 million | $7.6 million | $6.7 million |
| Gross margin | 17.5% | 18.5% | 16.4% | 18.4% |
| Operating income | $446 thousand | $13 thousand | $1.6 million | $668 thousand |
| Net income | $314 thousand | $285 thousand | $1.3 million | $1.1 million |
| Net income attributable to parent | $391 thousand | $18 thousand | $1.0 million | $725 thousand |
| Diluted EPS | $0.04 | $0.00 | $0.10 | $0.07 |
Financial Position, Cash Flow and Liquidity
- Cash and cash equivalents were $10.2 million at March 31, 2016, compared with $11.8 million at June 30, 2015.
- Accounts receivable increased to $13.5 million from $5.5 million, while inventories increased to $2.7 million from $2.3 million.
- Total assets were $30.5 million and total liabilities were $13.1 million at March 31, 2016. Stockholders’ equity was $17.3 million.
- The company had no short-term borrowings at March 31, 2016, compared with $148 thousand at June 30, 2015; the loan was repaid during the quarter.
- Operating activities used $301 thousand during the first nine months of fiscal 2016, compared with $3.1 million provided in the prior-year period. The primary working-capital driver was an $8.1 million increase in accounts receivable, partially offset by a $5.1 million increase in accounts payable.
- Investing activities used $924 thousand, including $664 thousand of capitalized product development costs, $178 thousand of intangible asset purchases, and $82 thousand of property and equipment purchases.
- Financing activities used $364 thousand, including $234 thousand for the repurchase of 130,000 common shares and $148 thousand of debt repayment, partially offset by $18 thousand from stock-option exercises.
- Management stated that existing capital is expected to fund operations and obligations through at least March 31, 2017, although failure to achieve the business plan or obtain additional funding could require curtailment of operations.
Material Changes Versus Prior Comparable Period
- Quarterly sales increased 39.0%, primarily from a new product launch with a carrier customer and the addition of a new customer. Nine-month sales increased 27.5%.
- United States sales represented virtually all quarterly revenue and increased 102.1% year over year. Nine-month U.S. sales increased 48.2% to $39.6 million.
- Quarterly gross profit increased 31.4%, but gross margin declined to 17.5% from 18.5%. Nine-month gross margin declined to 16.4% from 18.4%, reflecting customer and product mix, competitive pricing, and product costs.
- Quarterly operating income improved substantially to $446 thousand from $13 thousand. Nine-month operating income more than doubled to $1.6 million.
- Quarterly parent-attributable income increased to $391 thousand from $18 thousand. The quarterly comparison benefited from a favorable change in non-controlling interest, which reflected a loss attributable to the subsidiary’s non-controlling owners in the prior-year period.
- Operating expenses increased 8.5% in the quarter, mainly because of higher shipping, handling, and travel costs. For the nine-month period, operating expenses declined 1.0%.
- Revenue mix shifted materially toward the United States. EMEA revenue was zero in the quarter compared with $3.2 million in the prior-year quarter, while nine-month EMEA revenue increased 43.6%.
Outlook, Risks and Unusual Items
- The filing provides no specific revenue, earnings, or margin guidance. Management expects results to depend on retaining existing customers, demand for wireless data products, acceptance of new products, new customer relationships, and its ability to meet customer demand.
- Customer concentration is significant. For the nine months ended March 31, 2016, three customers accounted for 68%, 14%, and 13% of consolidated sales. Those customers represented 45%, 46%, and 1% of accounts receivable, respectively.
- Supplier concentration is also significant. One Asian manufacturer accounted for 99% of product purchases during the nine-month period, with $11.8 million payable to that supplier at March 31, 2016. Delays, capacity constraints, quality issues, or cancellations could adversely affect revenue.
- Customer demand is described as unpredictable, creating potential inventory obsolescence and excess-inventory risk. The inventory reserve was $121 thousand.
- The company remains exposed to foreign currency fluctuations, and quarterly other income included favorable foreign-exchange effects.
- Capitalized product development costs increased to $135 thousand at March 31, 2016 from zero at June 30, 2015. Management reported no goodwill or long-lived asset impairment.
- Patent litigation involving Novatel and Nova Intellectual Solutions was settled and dismissed with prejudice in October 2015. An Adaptix patent proceeding remained pending, but management did not expect a material effect.
- The company is involved in continuing matters related to the C-Motech stock repurchase dispute and C-Motech’s Korean bankruptcy proceeding. The filing does not provide a clear quantified potential loss.
- Change-of-control agreements provide potential payments of $5 million to the president and $2 million to the chief operating officer if specified events occur. The agreement with the vice president of engineering expired and was not renewed.
- Management reported effective disclosure controls and no material change in internal control over financial reporting.
Investor Verification Items
- Verify the filing period, because the metadata says 2015 Q3 while the filing reports the quarter ended March 31, 2016.
- Assess collectability and timing of the $13.5 million accounts receivable balance and the related deterioration in operating cash flow.
- Evaluate sustainability of the revenue increase, given the concentration in a few customers and the substantial shift toward U.S. sales.
- Monitor gross-margin performance and the effect of product mix, pricing pressure, and supplier costs.
- Review dependence on the primary Asian manufacturer and the $11.8 million related accounts payable balance.
- Review the C-Motech dispute, Adaptix proceeding, lease commitments, and potential change-of-control payments for contingent cash exposure.
- Confirm whether management’s stated liquidity through March 31, 2017 remains supported if revenue, margins, or customer collections weaken.