Pro-Dex, Inc. — Form 10-Q Summary
Reporting period: Three months ended September 30, 2019, the company’s first quarter of fiscal 2020. The filing was signed November 7, 2019. Amounts below are in U.S. dollars; financial statement amounts are in millions unless otherwise noted.
Business context and results
Pro-Dex designs and manufactures powered surgical instruments, primarily for orthopedic, spine, and craniofacial markets, and also sells industrial air motors. Medical devices remain its main business. The interim financial statements are unaudited.
| Metric | Quarter ended Sep. 30, 2019 | Quarter ended Sep. 30, 2018 |
|---|---|---|
| Net sales | $7.240 million | $6.916 million |
| Gross profit / margin | $2.780 million / 38% | $2.727 million / 39% |
| Operating income / margin | $1.491 million / 21% | $1.728 million / 25% |
| Net income | $1.104 million | $1.349 million |
| Basic / diluted EPS | $0.28 / $0.27 | $0.31 / $0.31 |
| Operating cash flow | $0.908 million | $0.636 million |
Financial position and liquidity
- At September 30, cash and cash equivalents were $6.502 million; marketable equity investments totaled $4.433 million. Working capital was $16.809 million, versus $18.689 million at June 30, 2019.
- Cash declined $1.240 million during the quarter: operating activities provided $0.908 million, investing used $1.323 million, and financing used $0.825 million. Investing outflows primarily reflected $1.258 million of investment purchases; financing outflows included $0.681 million of share repurchases and $0.159 million of loan and lease principal payments.
- Notes and capital lease obligations totaled $4.399 million ($0.624 million current and $3.775 million non-current). The company also reported a $3.304 million operating lease liability. Its $5 million term loan bears fixed interest of 5.53%; a $2 million revolving facility, extended to November 2020, had not been drawn.
- Management said cash, receivables, and expected operating cash flows should meet requirements for at least 12 months. It noted that additional debt or equity capital could be needed to support working capital or equipment needs.
Material changes and management commentary
- Sales increased 5%, but operating income fell 14% and net income fell 18%. Gross margin declined about one percentage point, primarily due to contractual price concessions; operating expenses rose 29% to $1.289 million.
- Medical-device revenue declined 15% to $5.370 million, largely due to lower sales to the two largest customers, including contractual price reductions and order timing. Repair revenue rose to $1.483 million from $0.110 million, principally from increased repairs of a handpiece sold to the largest customer. Management expected repair revenue in the remaining fiscal 2020 quarters to be comparable to this quarter.
- One customer represented 75% of quarterly sales and 70% of gross receivables at September 30. The two largest customers together represented 81% of sales. This concentration creates exposure to customer demand, order timing, and pricing.
- Backlog was approximately $20 million, all scheduled for delivery during fiscal 2020. Management cautioned that order bookings may vary, including with product launches and customer inventory builds.
- Management reported technical delays involving a customer attachment for the thoracic driver, which it said was substantially complete. The company prioritized completing it and expected launch in fiscal 2020’s third quarter. Management also said R&D, selling, and administrative spending had grown faster than revenue and would likely continue increasing in the near term; product launches and future revenue growth are not assured.
- The filing lists estimated annual revenue associated with development programs, including $4.0 million for the thoracic driver and $2.5 million for a customer CMF driver. These are estimates, not company-wide revenue guidance.
Other notable items, risks, and contingencies
- Adoption of the new lease standard on July 1, 2019 added approximately $3.3 million of right-of-use assets and lease liabilities. The company recorded a $43,000 cumulative-effect adjustment to retained earnings.
- The company repurchased 49,788 shares for $681,000 during the quarter. Since the 2013 program began, it had repurchased 637,839 shares for $5.8 million; 112,161 shares remained authorized for repurchase at September 30.
- Investments included $1.341 million in Air T, Inc. securities. The filing discloses overlapping Air T board roles and related-party review procedures for purchases, as well as investment committee members’ outside investment interests. Marketable equity securities recorded a $57,000 net unrealized loss during the quarter.
- Accrued unrecognized tax benefits were $512,000; management did not anticipate a significant change in the next 12 months. The company is subject to federal and state tax audits.
- Pro-Dex may be party to ordinary-course legal proceedings and said their ultimate outcome and potential liability could not be assured. It reported no material changes to risk factors from its fiscal 2019 Form 10-K.
- Management stated disclosure controls were effective as of September 30, 2019 and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the thoracic and customer CMF driver launches occur on schedule and generate the estimated revenue.
- Whether the unusually high repair revenue is sustainable, and how customer pricing and order timing affect medical-device sales and margins.
- The largest-customer concentration in sales and receivables, and any changes in customer demand or payment patterns.
- The liquidity impact of inventory and working-capital needs, investment purchases, share repurchases, and scheduled debt and lease payments.
- The valuation, liquidity, and governance disclosures for marketable equity investments, including Air T holdings.