Algorhythm Holdings, Inc. — 10-Q summary
Filing identity: The supplied filing is for The Singing Machine Company, Inc. and subsidiaries, not Algorhythm Holdings, Inc. It covers the quarter and nine months ended December 31, 2017, and was signed February 14, 2018. The financial statements are unaudited.
Business context and results
The company develops, markets, and sells karaoke systems, accessories, musical instruments, and recordings, primarily through retailers and distributors. Sales are seasonal, with the highest activity generally in the second and third fiscal quarters.
| Metric | Three months ended Dec. 31, 2017 | Three months ended Dec. 31, 2016 | Nine months ended Dec. 31, 2017 | Nine months ended Dec. 31, 2016 |
|---|---|---|---|---|
| Net sales | $21.46 million | $16.32 million | $58.20 million | $49.31 million |
| Gross profit / margin | $6.00 million / 27.9% | $5.04 million / 30.9% | $14.81 million / 25.5% | $12.68 million / 25.7% |
| Operating income | $2.38 million | $2.07 million | $2.90 million | $4.26 million |
| Net income | $1.15 million | $1.31 million | $1.41 million | $2.69 million |
| Diluted earnings per share | $0.03 | $0.03 | $0.04 | $0.07 |
Quarterly sales rose about $5.14 million; management attributed the increase to promotional shipments, a new brick-and-mortar customer, and expanded distribution at an existing customer. Nine-month sales increased 18%, including growth from promotions, international sales, and customers’ online fulfillment. North America represented $54.16 million of nine-month sales, Europe $3.94 million, and South Africa $0.10 million.
Financial position, cash flow, and debt
- At December 31, 2017, cash was $483,000, current assets $21.39 million, current liabilities $13.33 million, total assets $22.84 million, and shareholders’ equity $9.02 million. Management reported working capital of approximately $8.06 million.
- Nine-month operating cash flow was negative $4.63 million, versus negative $3.37 million in the prior-year period. The company cited seasonal increases in receivables and inventory as major cash uses. Investing cash outflow was $256,000; financing cash inflow was $3.07 million. Cash declined $1.82 million from the fiscal-year opening balance.
- Debt at period end included $3.47 million drawn on the revolving credit facility, a $750,000 bank term note, and approximately $815,000 of subordinated related-party debt. The revolving facility was renewed through July 2020, with a $15 million peak-season limit and a $7.5 million off-season limit. The company said it was in compliance with covenants at December 31, 2017.
- The company did not make a $123,000 subordinated-debt installment due December 31, 2017, citing the cash-flow impact of the Toys R Us bankruptcy. The agreement provides that payments blocked by specified liquidity conditions are not an event of default.
Material changes, risks, and outlook
- For the nine-month period, operating income and net income declined despite higher sales. Management attributed the deterioration principally to an approximately $2 million increase in bad-debt provision associated with Toys R Us. The five largest customers accounted for 74% of nine-month sales; Toys R Us alone represented approximately 17%.
- Toys R Us agreed to pay $2.5 million to settle approximately $4.4 million of pre-petition receivables, in exchange for continued business on substantially the same terms. The first $1.5 million installment was received January 3, 2018; the remaining installments were due March 31, 2018 and upon emergence from bankruptcy. Management cautioned collection was not guaranteed.
- Quarterly gross margin fell 3.0 percentage points, which management attributed mainly to inventory valuation reserves and product mix. Nine-month margin was nearly flat year over year. The doubtful-account allowance rose to approximately $2.30 million from $133,000 at March 31, 2017.
- The Tax Cuts and Jobs Act led to an additional approximately $328,000 tax provision in the quarter as management estimated the effect on deferred tax balances. The company said its analysis was incomplete and estimates could change.
- Management expected fiscal 2018 sales to reach its original projections and said it did not anticipate the Toys R Us bankruptcy would cause a covenant violation over the next 12 months. No numeric sales or earnings guidance was provided. The company cautioned that the bankruptcy’s longer-term effects remained uncertain.
- Other risks include seasonal sales, reliance on major customers, working-capital needs, potential covenant compliance, competitive pricing and margins, and customer credit risk. The filing reported no known legal proceedings, no current default on senior securities, and effective disclosure controls. It noted that forthcoming lease accounting rules were expected to significantly affect the balance sheet.
Important facts for investors to verify
- Confirm the mismatch between the requested issuer, Algorhythm Holdings, Inc., and the actual filing issuer, The Singing Machine Company, Inc.
- Verify collection of Toys R Us settlement installments beyond the $1.5 million received after quarter-end and assess any continuing customer exposure.
- Review receivable aging, allowance adequacy, customer concentration, and the effects of extended payment terms on operating cash flow.
- Monitor seasonal liquidity, borrowing-base availability, covenant compliance, and repayment of bank and related-party debt, including the deferred installment.
- Assess the final tax effects of the Tax Act and the expected financial-statement impact of adopting the new lease standard.