Business context and reporting period
Pro-Dex, Inc. designs, develops and manufactures surgical devices and dental products, as well as motion-control hardware and software. This Form 10-Q reports the three and nine months ended March 31, 2014, the company’s fiscal third quarter and first nine months of fiscal 2014. The request metadata labels the period “2013 Q3,” but the filing period is March 31, 2014. Financial statements are unaudited; amounts below are in millions unless otherwise stated.
Financial performance and liquidity
| Metric | Three months ended March 31 | Nine months ended March 31 |
|---|---|---|
| Net sales | 2014: $2.404; 2013: $3.060 | 2014: $7.599; 2013: $9.527 |
| Gross profit / gross margin | 2014: $0.540 / 22%; 2013: $0.883 / 29% | 2014: $2.035 / 27%; 2013: $3.151 / 33% |
| Operating loss | 2014: $(0.438); 2013: $(0.771) | 2014: $(0.798); 2013: $(1.203) |
| Net loss | 2014: $(0.385); 2013: $(0.747) | 2014: $(0.512); 2013: $(1.112) |
| Net loss per share | 2014: $(0.12); 2013: $(0.22) | 2014: $(0.15); 2013: $(0.34) |
| Cash used in operating activities | Not separately presented | 2014: $(0.343); 2013: $(1.281) |
- At March 31, 2014, cash and cash equivalents were $1.926 million, versus $1.680 million at June 30, 2013; working capital was $5.339 million. Total assets were $10.190 million and total liabilities $2.519 million.
- The company had no bank credit facility or bank term loan. Capital lease obligations totaled $16,000, including $7,000 current.
- Cash from investing activities was $587,000 for the nine months, including $900,000 net proceeds from the sale of former Astromec real estate. Financing activities provided $2,000.
Material changes versus the prior comparable period
- Nine-month sales fell about 20%, led by medical device sales, which decreased to $4.712 million from $6.338 million. The largest customer accounted for 47% of nine-month revenue, down from 51%; it represented 50% of third-quarter sales, versus 58% a year earlier.
- Management attributed the largest-customer sales decline to a 2013 order suspension and revised ordering terms in December 2013, which resulted in lower monthly shipments. Repair revenue from a former major medical-device customer also declined, and the company did not expect further repair orders from that customer.
- Gross margin declined 7 percentage points in the quarter and 6 points year to date. Management cited lower production volume and manufacturing-cost under-absorption, as well as estimated losses on certain development contracts: $47,000 for the quarter and approximately $278,000 for the nine months.
- Operating expenses declined 41% in the quarter and 35% year to date, including lower selling and general and administrative costs. The operating loss consequently narrowed despite lower sales and gross profit.
- Nine-month operating cash use improved from $1.281 million to $343,000. However, a $754,000 increase in unbilled receivables tied to development contracts used cash; inventory reductions and noncash depreciation partially offset this.
Outlook, commentary, risks and unusual items
- Management stated that cash and equity investments were expected to be sufficient to fund operations for the next 12 months. It cautioned that if anticipated operating cash flows are not achieved, new financing may be needed, with no assurance it would be available on acceptable terms.
- Backlog was $4.1 million at March 31, 2014. Management noted that bookings may vary with product launches and customer inventory plans; no specific earnings or revenue guidance was provided.
- After quarter-end, the rights offering was completed on April 25, 2014, raising approximately $1.65 million gross from 868,732 shares at $1.90 per share, before estimated expenses of $125,000. Net proceeds were intended for strategic opportunities or working capital and general corporate purposes. The company restricted the standby purchasers’ commitment to zero shares to preserve tax attributes. Shares outstanding were 4,211,019 on May 2, 2014, compared with 3,343,954 at March 31.
- At March 31, marketable equity investments were valued at $834,000, with aggregate cost of $632,000 and net unrealized gains. The company also reported a $27,000 realized investment gain for the nine months. Management’s investment policy allows surplus capital to be invested in publicly traded securities; positive returns are not assured.
- Astromec was reported as a discontinued operation following its 2012 product-line sale. The former facility was sold in July 2013 for $980,000, generating $900,000 net proceeds and a $167,000 gain. Nine-month discontinued-operations income was $167,000, including the real estate gain and earnout income.
- Risks include reliance on one customer, ongoing operating losses, development-project cost-estimation uncertainty, competition and rapid technological change. The filing also notes that a former company site was identified for further screening in a groundwater-contamination report; no subsequent evaluation had occurred, and any potential liability was unclear. Management reported no material changes to the risk factors in its prior Form 10-K.
- The company maintained a $3.4 million valuation allowance against deferred tax assets at June 30, 2013 and reported $360,000 in unrecognized tax benefits at March 31, 2014. No material change in those benefits was anticipated over the next 12 months.
Most important facts for investors to verify
- Whether customer orders and shipment levels recover under the revised ordering terms, given the largest customer’s substantial share of revenue.
- Whether the $4.1 million backlog converts to revenue and cash, particularly as development work contributes to elevated unbilled receivables.
- Whether gross margins improve and estimated contract losses or production under-absorption create further costs.
- How the rights-offering proceeds are deployed and whether the company’s stated 12-month liquidity expectation remains valid.
- Any further developments concerning the former Santa Ana site screening and the recoverability of deferred tax assets.