Forward Industries, Inc. — Q2 FY2012 Form 10-Q
Reporting period: Three and six months ended March 31, 2012, compared with the corresponding 2011 periods. The company designs, markets, and distributes protective cases and accessories; it does not manufacture its products. Its OEM business serves primarily medical-device and consumer-electronics customers, while its newer Retail business sells branded and non-branded consumer-electronics accessories.
Financial results
| Metric | Q2 FY2012 | Q2 FY2011 | Six months FY2012 | Six months FY2011 |
|---|---|---|---|---|
| Net sales | $7.16 million | $5.00 million | $14.05 million | $10.96 million |
| Gross profit | $1.34 million | $1.16 million | $2.74 million | $2.54 million |
| Gross margin | 18.8% | 23.2% | 19.5% | 23.1% |
| Operating loss | $(1.57) million | $(0.61) million | $(3.09) million | $(0.58) million |
| Net loss | $(1.54) million | $(0.55) million | $(3.06) million | $(0.54) million |
| Basic and diluted loss per share | $(0.19) | $(0.07) | $(0.38) | $(0.07) |
Q2 sales rose 43%; six-month sales rose 28%. Retail contributed $0.94 million in Q2 and $1.66 million in the six-month period, versus no Retail sales in the comparable 2011 periods. OEM sales also increased. Despite higher sales and gross profit dollars, margins contracted amid higher supplier material and labor costs, lower prices or concessions on some OEM programs, product mix, and restructuring-related costs. Operating expenses grew substantially, including sales and marketing expense of $2.64 million for the six months, up from $1.07 million.
Cash flow and liquidity: Operating activities used $5.53 million in the first six months, compared with $1.10 million used in 2011. The 2012 outflow reflected the net loss and working-capital investment, including higher receivables, inventory, and prepaid assets. Investing activities provided $0.34 million, mainly from $0.40 million of collections on the Flash Ventures note, partly offset by $0.06 million of equipment purchases. There were no financing activities. Cash fell to $9.72 million from $14.91 million at September 30, 2011.
At March 31, 2012, current assets were $19.79 million, current liabilities were $4.23 million, and working capital was $15.6 million. The company reported current and quick ratios of 4.7 and 4.3, respectively, and no short- or long-term debt. Approximately $7.3 million of cash at financial institutions exceeded FDIC-insured limits.
Material changes and management commentary
- Management began a global restructuring in March 2012 to reduce costs while retaining capacity to pursue Retail growth. It includes changes to Asia sourcing and quality-assurance operations and global headcount reductions; management expected more of the impact in the second half of FY2012.
- Management said several large programs awarded by two major diabetic customers were expected to contribute meaningfully to revenue in the second half of FY2012, but anticipated lower margins on some new or prospective programs. The filing provides no quantified earnings or revenue guidance.
- Management stated that liquidity and financial resources should be adequate for the next 12 months, while warning that Retail channel development and strategic partnerships may require significant cash and that there is no assurance when those channels will cover their costs.
- Customer concentration remains material: the three largest customers accounted for approximately 57% of six-month sales. One major customer had advised that it might source some requirements elsewhere. The company also described sales as vulnerable to short lead times and variable customer orders.
- On April 2, 2012, after quarter-end, Robert Garrett Jr. and Brett Johnson were appointed co-CEOs. Their employment agreements provide annual salaries of $250,000 each, with bonus and equity provisions; Garrett also received a signing bonus and a first-year minimum bonus.
Unusual items, risks, and contingencies
- The $1.0 million unsecured Flash Ventures note was amended to add collateral and extend maturity; Flash paid $250,000 in December 2011 and $150,000 on March 30, 2012. The remaining $600,000 was classified as current and, under the latest amendment, was due June 1, 2012.
- The company had $1.92 million in prepaid expenses and other current assets, including $0.90 million of supplier advances and $0.55 million of advance royalties. The $0.50 million paid to G-Form for advance royalties remained prepaid; no sales of the licensed Forward-branded product had occurred by March 31.
- A March 2012 buying-agency and supply agreement made Seaton Global Corporation the exclusive Asia-Pacific buying agent and supplier. A company director is a principal of Seaton; the company recorded $70,000 in fees during the quarter and six-month period, included in cost of goods sold.
- The company is defending a Targus-related lawsuit involving former employees and allegations including breach of contract and unfair competition. Damages were unspecified; the company recorded no loss provision and said it intended to defend the case. A hearing on a demurrer was scheduled for May 22, 2012.
- The company maintained a full valuation allowance against $2.28 million of deferred tax assets, citing its assessment that use of the assets was not more likely than not. It reported a small tax provision attributable primarily to its UK subsidiary.
- Management reported disclosure controls and procedures were effective at quarter-end and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the remaining $600,000 Flash Ventures note was repaid by its June 1, 2012 maturity date and whether interest was collected.
- Whether the planned cost reductions materially reduced operating expenses and cash burn in the second half of FY2012.
- Whether the anticipated diabetic-customer programs began contributing as expected, and their actual revenue and margins.
- Whether customer concentration, including the customer considering alternate sourcing, affected orders after March 31.
- Progress and sales performance of the Retail strategy, including the use and recoverability of supplier advances and advance royalties.
- Developments in the Targus litigation and any resulting financial exposure.