Flexible Solutions International, Inc. — Q3 2011 Form 10-Q Summary
Business context and reporting period
The company develops, manufactures and markets specialty chemicals that reduce water evaporation, including HEAT$AVR and WATER$AVR, and biodegradable thermal polyaspartate polymers used in industrial, agricultural and consumer applications. The unaudited report covers the three and nine months ended September 30, 2011, with comparisons to the corresponding 2010 periods. The company is a smaller reporting company and reported 13,169,991 common shares outstanding as of November 1, 2011.
Key financial metrics
| Metric | Q3 2011 | Q3 2010 | 9M 2011 | 9M 2010 |
|---|---|---|---|---|
| Sales | $3.861 million | $2.677 million | $12.149 million | $8.895 million |
| Gross profit | $1.153 million | $0.843 million | $4.620 million | $3.616 million |
| Gross margin | 29.9% | 31.5% | 38.0% | 40.7% |
| Operating income (loss) | $0.155 million | $(0.146) million | $1.303 million | $0.718 million |
| Net income (loss) | $(0.092) million | $(0.155) million | $0.441 million | $0.227 million |
| Net margin | (2.4%) | (5.8%) | 3.6% | 2.5% |
| Basic EPS | $(0.01) | $(0.01) | $0.03 | $0.02 |
For the nine months, sales increased 36.6% and net income increased 94.3% year over year. The company recognized a $0.883 million income tax provision for the nine-month period, partially offset by a $20,000 deferred tax recovery. Management attributes the effective tax rate primarily to losses in the Canadian subsidiary offsetting profits in the U.S. subsidiary on a consolidated basis.
Cash and cash equivalents were $319,306 at September 30, 2011, compared with $2.763 million at December 31, 2010. Accounts receivable increased to $2.693 million from $1.199 million, and inventory increased to $3.873 million from $2.539 million. Working capital was $3.892 million, compared with $5.119 million at year-end 2010.
Cash used in operating activities was $2.077 million for the nine months, versus $189,313 of cash provided in the prior-year period. The principal uses were increases in accounts receivable and inventory. Investing cash use was $740,816, primarily for the Taber, Alberta plant and equipment. Financing activities provided $375,487, including $1.5 million drawn on a revolving credit facility, partly offset by $1.030 million used to repurchase common shares and $94,164 of loan repayments.
Total debt at September 30, 2011 included a $1.5 million short-term revolving line of credit, $330,368 of current long-term debt and $1.792 million of long-term debt. The revolving facility bears interest at prime plus 0.75%, had a reported weighted-average rate of 4.0%, and matures February 28, 2012. Long-term debt consisted of an unsecured non-interest-bearing AAFC loan and a 5% AFSC loan secured by Canadian property, equipment, inventory and receivables.
Material changes versus the prior comparable period
- Q3 sales increased 44.2%, driven primarily by higher BCPA polymer sales across markets.
- Nine-month sales increased 36.6%; BCPA revenue rose to $11.294 million from $8.081 million, while energy and water conservation product revenue increased modestly to $855,060 from $814,613.
- Q3 operating results improved from a $146,275 loss to $155,288 of operating income, although the quarter still produced a net loss because of the income tax provision.
- Nine-month operating income increased to $1.303 million from $717,886, while total operating expenses rose to $3.317 million from $2.899 million.
- Professional fees increased because of intellectual-property filings and litigation-related costs. Investor-relations and transfer-agent fees also increased due to additional investor-awareness efforts.
- Capital expenditures increased to $740,816 from $428,598, principally reflecting continued construction of the Taber plant.
- The company repurchased and cancelled 792,576 shares in February 2011 for $1.030 million, reducing shares outstanding from 13,962,567 at year-end 2010.
- Stock-option activity included 543,000 grants and 1,177,000 cancellations or expirations; 1,202,700 options remained outstanding at September 30, 2011.
Guidance, outlook, risks and unusual items
No quantified revenue, earnings or margin guidance is provided. Management states that the company expects sufficient cash resources to meet commitments and cash-flow requirements for the coming year, with no substantial cash commitments other than long-term loan repayments. This assessment should be considered in light of the substantial operating cash outflow, low cash balance and revolving-credit maturity in February 2012.
The company announced commercial production at its Taber, Alberta plant subsequent to quarter-end. The plant is intended to manufacture aspartic acid using sugar-based feedstock, potentially reducing raw-material costs, oil-price exposure and shipping costs. The filing does not provide production volumes, achieved cost savings or a detailed ramp-up schedule.
Three customers represented $7.150 million, or 59%, of nine-month sales. The three primary customers represented 70% of accounts receivable at September 30, 2011, creating customer-concentration and collection risk. The company also faces competitive, economic, regulatory, interest-rate, foreign-exchange, customer-demand and capital-availability risks.
WaterSavr Singapore Pte. Ltd., a former distributor, initiated an American Arbitration Association proceeding on June 29, 2011, asserting multiple claims. The company denies the allegations and intends to defend itself; the amount and outcome were indeterminable as of the filing date.
Management reported that disclosure controls and procedures were effective as of September 30, 2011 and that no material change occurred in internal control over financial reporting during the quarter. No impairment charges were recorded during the periods presented.
Important facts for investors to verify
- Whether the Taber plant achieved sustained commercial production and delivered the expected raw-material and manufacturing-cost benefits.
- Liquidity after the $2.077 million nine-month operating cash outflow, including the company’s ability to refinance or repay the $1.5 million revolving line due February 28, 2012.
- Collection of the $2.693 million accounts-receivable balance and inventory conversion, particularly given customer concentration.
- The status, potential exposure and insurance coverage of the WaterSavr Singapore arbitration and other intellectual-property litigation.
- Whether BCPA sales growth is sustainable and whether gross margins recover from the year-over-year decline.
- The effects of the share repurchase and outstanding stock options on future share count and dilution.