Nortech Systems Incorporated — Form 10-Q Summary
Business Context and Reporting Period
Quarterly report for the period ended September 30, 2013, filed November 14, 2013. Nortech is an Electronics Manufacturing Services contract manufacturer producing wire and cable assemblies, printed circuit board assemblies, higher-level assemblies and box builds, with customers primarily in Aerospace and Defense, Medical, and Industrial Equipment markets. The filing covers Nortech and its wholly owned Mexican subsidiary. Financial statements are unaudited interim statements.
Financial Performance and Key Metrics
| Metric | Three Months Ended September 30, 2013 | Three Months Ended September 30, 2012 | Nine Months Ended September 30, 2013 | Nine Months Ended September 30, 2012 |
|---|---|---|---|---|
| Net sales | $27.4 million | $25.5 million | $81.8 million | $81.9 million |
| Gross profit | $3.0 million | $2.8 million | $9.6 million | $8.9 million |
| Gross margin | 11.0% | 10.9% | 11.8% | 10.8% |
| Operating income | $376,181 | $328,671 | $972,909 | $975,688 |
| Net income | $217,917 | $105,165 | $546,226 | $353,896 |
| Basic and diluted EPS | $0.08 | $0.04 | $0.20 | $0.13 |
- Operating margin was approximately 1.4% in the quarter and 1.2% for the nine-month period.
- Cash used in operating activities was $21,229 for the first nine months of 2013, compared with $1.7 million of cash provided in the comparable 2012 period. Third-quarter operating cash flow was approximately $1.4 million.
- Investing activities used $950,064, primarily for $1.0 million of property and equipment purchases.
- Financing activities provided $1.5 million, including $1.9 million of long-term debt proceeds, partially offset by $489,729 of principal payments.
- Cash was $482,631 at September 30, 2013, compared with no reported cash balance at December 31, 2012.
- Accounts receivable were $15.1 million and inventories were $18.6 million at September 30, 2013. Working capital was approximately $15.0 million, compared with $12.6 million at December 31, 2012.
- Total debt, including the line of credit and current and long-term debt, was approximately $12.7 million at September 30, 2013, compared with approximately $11.2 million at year-end 2012.
Material Changes Versus the Prior Comparable Period
- Third-quarter sales increased 7%, driven by higher Aerospace and Defense shipments from new programs and assemblies and increased Medical sales. Industrial sales were essentially flat.
- For the first nine months, sales were approximately flat overall: Aerospace and Defense increased 22%, Medical increased 4%, and Industrial declined 8%.
- Gross margin improved, particularly for the nine-month period, which management attributed to automation investment and lean initiatives. Third-quarter margin improvement was limited by launch costs for new assemblies.
- Net income increased 107% in the quarter and 54% for the nine-month period. Lower effective tax rates and lower net other expense contributed to the improvement.
- Selling expense increased to 4.4% of sales from 3.9%, reflecting continued investment in business development and marketing. Nine-month general and administrative expense increased to 6.1% of sales from 5.7%.
- Operating cash flow deteriorated because of increased inventory and receivables, lower accounts payable, customer order move-outs, and timing of collections.
- The company recorded a $74,003 impairment charge during the first nine months related to an asset held for sale; no comparable charge was recorded in 2012.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- No formal revenue or earnings guidance was provided. Management stated that financing arrangements and expected operating cash flows should be sufficient for future working-capital needs.
- 90-day backlog was $18.8 million at September 30, 2013, down from $19.3 million at June 30, 2013 but up from $16.8 million at September 30, 2012. Aerospace and Defense and Industrial orders were described as strong entering the fourth quarter, while Medical orders softened because of project delays.
- The largest customer’s two divisions represented 28% of third-quarter sales and 26% of nine-month sales. The related accounts receivable represented 21% of total receivables at September 30, 2013, creating customer-concentration risk.
- Export sales represented 13% of 2013 third-quarter and nine-month sales, compared with 6% and 7%, respectively, in the comparable 2012 periods.
- The company had $8.0 million outstanding on a $13.5 million revolving credit facility and approximately $4.3 million of unused availability, subject to borrowing-base requirements and lender discretion. The facility is secured by substantially all company assets and contains financial, reporting, capital-expenditure, and dividend covenants.
- Debt bears variable interest rates tied to LIBOR. The line of credit expires, if not renewed, on May 31, 2015; certain real-estate term notes also have May 31, 2015 maturity or renewal dates.
- Reported risks include market volatility, competition, facility or third-party operating issues, labor availability, raw-material and copper costs, energy costs, economic conditions, and component availability.
- At September 30, 2013, the company reported $182,000 of net uncertain tax benefit positions that could reduce the effective tax rate if recognized. The expected 2013 effective tax rate was approximately 28%, versus 32% for 2012, principally because of research and development tax credits.
- The company stated that disclosure controls were effective and that no material change occurred in internal control over financial reporting. It is subject to ordinary-course legal proceedings and claims.
Important Facts for Investors to Verify
- Whether the negative year-to-date operating cash flow reverses as backlog converts to shipments and receivables and inventory normalize.
- Availability and covenant compliance under the secured revolving credit facility, including the effect of borrowing-base changes and variable LIBOR rates.
- The sustainability of improved gross margins after new-product launch costs and continued automation investment.
- Customer concentration and the effect of Medical project delays or changes in Aerospace and Defense and Industrial orders.
- Exposure to raw-material, energy, labor, supply-chain, and component-availability pressures.
- The resolution and potential tax impact of the $182,000 in uncertain tax benefit positions and the future adoption impact of ASU 2013-11.