Yunhong CTI Ltd. — Q1 2022 Form 10-Q
Reporting period: Three months ended March 31, 2022. Comparisons are to Q1 2021 unless stated otherwise. The company designs, manufactures and distributes foil balloons and related products, distributes purchased latex balloons, and produces films and flexible packaging products. Following the October 2021 sale of its Mexican latex-balloon subsidiary, manufacturing is in the United States. Amounts below are in U.S. dollars.
Financial performance and position
| Metric | Q1 2022 / March 31, 2022 | Q1 2021 / December 31, 2021 |
|---|---|---|
| Net sales | $5.797 million | $6.599 million |
| Gross profit; gross margin | $1.039 million; 17.9% | $1.286 million; 19.5% |
| Operating income (loss) | $(19,000); (0.3%) operating margin | $298,000; 4.5% operating margin |
| Net income (loss) | $(21,000) | $(381,000), including $473,000 loss from discontinued operations |
| Net loss attributable to common shareholders; basic and diluted loss per share | $(223,000); $(0.04) | $(2.131) million; $(0.36) |
| Cash from operating activities | $2,000 | $(1.421) million |
| Cash and cash equivalents | $208,000 | $66,000 |
| Total current assets / current liabilities | $12.908 million / $8.719 million | $12.474 million / $10.371 million |
| Total liabilities / shareholders’ equity | $14.200 million / $4.061 million | $13.231 million / $4.051 million |
The March 31 current ratio was approximately 1.48. Cash from investing activities was $(15,000) and financing activities provided $155,000. Cash increased by $142,000 during the quarter. The cash-flow statement reports a $(554,000) foreign-exchange effect; the filing does not clearly reconcile this line with the reported cash increase.
At March 31, debt included a $5.158 million revolving line of credit, approximately $0.6 million of term-loan balance (as presented in the debt note), and $1.211 million owed to an officer, subordinated to the senior lender. Lease liabilities totaled $4.277 million. The revolving facility has a $6 million maximum and matures September 30, 2023; its rate was prime plus 1.95% (5.45% using the stated March 31 prime rate). The company said it believed it was in compliance with its $4 million minimum tangible-net-worth covenant.
Changes and management commentary
- Sales fell $802,000, or 12%. Foil-balloon sales decreased 22% to $3.832 million; management attributed much of the decline to larger Mother’s Day and graduation shipments occurring in April 2022 rather than March 2021. Film-product sales increased 171% to $828,000, driven by higher demand from the largest customer.
- Management said price increases were implemented to address higher material and labor costs, and some low- or no-value sales were discontinued when price increases were unsuccessful. Cost of sales declined with lower volume, partly offset by higher input and labor costs.
- Gross profit and gross margin declined, while operating results moved from income to a small loss. Selling, advertising and marketing expenses increased to $221,000 from $139,000 as the company invested in marketing amid increased activity from smaller customers.
- Interest expense decreased to $96,000 from $200,000 following the September 2021 refinancing. Management noted the new lender’s asset-monitoring fees are included in general and administrative expense.
- Preferred-stock dividends and accretion/deemed dividends were $202,000 in Q1 2022, reducing the amount attributable to common shareholders. Preferred shares carry 8% dividends; the filing also reports 10.7 million shares reserved for preferred-stock conversion and warrants, compared with about 5.9 million common shares outstanding. A 250,000-share restricted-stock grant to the CEO includes performance-based vesting conditions.
Liquidity, outlook, risks and contingencies
- Going concern: The company reported approximately $23 million of cumulative losses and stated that operating cash resources may be insufficient for anticipated needs over the next 12 months. Management cited plans to focus on more profitable activities and seek additional equity, borrowing or other funding, but gave no assurance of success. The filing says substantial doubt exists about the company’s ability to continue as a going concern for one year from issuance.
- Business risks: Management said COVID-19 effects, supply-chain constraints and inflationary pressures have affected operations and may continue, including by limiting access to capital. Foil-balloon sales are seasonal. The top three customers accounted for 80% of Q1 sales and the top ten for 90%; two customers alone represented 66%.
- Legal matters: A pending Benchmark Investments lawsuit seeks damages exceeding $500,000. The company said it could not estimate the likelihood of loss and recorded no accrual. A separate utility-provider claim was settled for $75,000, of which $60,000 remained payable at quarter-end.
- Leases and financing: The company sold its Lake Barrington facility in 2021 and leases it back under a ten-year agreement; annual base rent began at $500,000 and escalates over the lease term. The operating lease was extended in March 2022 through December 31, 2025.
- Controls: Management concluded disclosure controls and internal control over financial reporting were ineffective at March 31, 2022. Disclosed material weaknesses include insufficient accounting expertise for significant or unusual transactions and heavy reliance on the Acting CFO, who is also the CEO, in a highly manual environment.
- Outlook: The filing provides no quantified revenue, earnings or cash-flow guidance. Management cautions that quarterly results are not necessarily indicative of full-year results.
Important facts for investors to verify
- Liquidity runway, available borrowing under the revolver, covenant compliance and progress toward securing additional financing, in light of the explicit going-concern uncertainty.
- Whether operating cash generation improves and whether inventory growth and low cash balances place pressure on working capital.
- Customer concentration, including the two customers responsible for 66% of quarterly sales, and the durability of demand from the largest film-products customer.
- Potential dilution and the terms, dividends and conversion effects of preferred stock, warrants and equity awards.
- Developments in the Benchmark lawsuit and remediation of the disclosed material weaknesses in financial reporting controls.