Frequency Electronics, Inc. — FY2016 Form 10-K
Business context and reporting period: Frequency Electronics designs and manufactures precision time- and frequency-generation products for satellite, U.S. government and defense, telecommunications, and industrial applications. This filing covers the fiscal year ended April 30, 2016, compared with FY2015; it does not provide standalone 2015 Q4 results.
Financial performance
- Revenue: $60.4 million, down 21% from $76.6 million. Satellite revenue fell about 30% ($13.8 million), mainly because programs were postponed or rescheduled. FEI-NY revenue declined 29% to $44.2 million; Gillam-FEI declined 26% to $5.9 million; FEI-Zyfer increased 33% to $12.3 million.
- Margins and earnings: Gross profit was $20.4 million versus $23.5 million; gross margin improved to 33.8% from 30.8%, reflecting manufacturing efficiencies, cost reductions, and product mix. Operating profit fell 65% to $1.3 million. Net income was $1.0 million, compared with $2.8 million; diluted EPS was $0.11 versus $0.32.
- Expenses and taxes: SG&A was $13.2 million, or 21.8% of revenue, and R&D was $5.9 million, or 9.8% of revenue. The effective tax rate rose to 51.6% from 37.7%, partly because foreign subsidiary losses generated no tax benefit.
- Cash flow: Operating cash flow was $2.9 million, up from $1.9 million. Investing activities used $3.5 million, including $3.4 million in capital expenditures. Cash and cash equivalents ended at $6.1 million. Cash flow from operations less capital expenditures was approximately negative $0.5 million, calculated from reported figures.
- Liquidity and debt: Working capital was $75.6 million; the current ratio was 9.6, versus 10.0 a year earlier. Cash, cash equivalents, and short-term investments totaled $17.2 million. Long-term debt was $6.0 million under a $25 million credit facility, maturing June 2018. The company reported compliance with applicable borrowing covenants and said liquidity was adequate through at least July 29, 2017.
- Backlog: Approximately $32 million at year-end, down from $37 million; about 75% was expected to be filled in FY2017. Backlog excludes unauthorized awards and unfunded fixed-price amounts and may change or be canceled.
Changes, outlook, and risks
- U.S. government end-use sales rose to approximately 60% of revenue from 47%. Foreign sales fell to 19% from 31%. FEI-Zyfer’s growth and higher gross margin rate partly offset weaker satellite and network/industrial sales.
- Management expected FY2017 internal R&D spending to be no higher than FY2016 and below 10% of revenue, SG&A to meet or approach 20% of revenue, and positive operating cash flow. The filing gives no specific revenue or earnings forecast.
- Key risks include dependence on major customers and government programs, timing changes or spending constraints affecting satellite and defense contracts, fixed-price contract cost overruns, and estimates used in percentage-of-completion revenue recognition and inventory valuation. Four FEI-NY customers represented 69% of that segment’s sales; the filing says losing a major customer could materially harm the business.
- FY2016 other income included approximately $380,000 from life-insurance proceeds related to a former officer. Anticipated contract losses were approximately $450,000 at year-end. Currency translation reduced other comprehensive income by $753,000.
- The company reported no material pending litigation and no material off-balance-sheet arrangements other than operating leases. Its independent auditor issued an unqualified opinion on the financial statements; the auditor did not attest to internal control effectiveness.
Important facts for investors to verify
- Whether delayed satellite and FEI-Elcom orders materialize and the $32 million backlog converts as expected.
- Whether the improved gross margin rate is sustainable despite lower revenue and production mix changes.
- Inventory growth to $41.3 million from $38.2 million and the assumptions supporting inventory values and contract cost estimates.
- Customer concentration, government contract exposure, and the $6.0 million credit-facility balance and covenants.
- The effect of the elevated effective tax rate and foreign subsidiary losses on future earnings and cash taxes.