Koss Corporation Form 10-Q Summary
Business context and reporting period
Koss Corporation markets headphones, wireless Bluetooth speakers, computer and telecommunications headsets, active noise-canceling and wireless headphones, and Koss Classics recordings. The company operates as one business segment. This filing covers the three and six months ended December 31, 2014, representing fiscal 2015 second-quarter and year-to-date results. The company had 7,382,706 common shares outstanding as of January 26, 2015.
Financial performance and liquidity
| Metric | Three months ended Dec. 31, 2014 | Three months ended Dec. 31, 2013 | Six months ended Dec. 31, 2014 | Six months ended Dec. 31, 2013 |
|---|---|---|---|---|
| Net sales | $7.04 million | $6.52 million | $12.51 million | $13.35 million |
| Gross profit (loss) | $2.41 million | $(2.44) million | $4.25 million | $(0.13) million |
| Gross margin | 34.2% | (37.4)% | 34.0% | (0.9)% |
| Operating income (loss) | $0.32 million | $(5.41) million | $0.17 million | $(5.28) million |
| Net income (loss) | $0.17 million | $(3.45) million | $0.07 million | $(3.37) million |
| Net income (loss) per diluted share | $0.02 | $(0.47) | $0.01 | $(0.46) |
- Quarterly sales increased 7.9%, primarily from stronger export markets and selected domestic distributors and retailers. Year-to-date sales decreased 6.3%.
- Selling, general and administrative expense declined to $2.07 million for the quarter and $4.01 million year to date, versus $2.86 million and $5.75 million, respectively, in the prior-year periods.
- Non-GAAP EBITDA from operations was $0.66 million for the quarter and $0.89 million year to date, compared with $(0.38) million and $(0.21) million in the prior-year periods.
- Cash used in operating activities was $0.69 million for the six months ended December 31, 2014, compared with $3.60 million of cash provided in the prior year. Investing cash use was $0.45 million, and there was no financing cash flow.
- Cash and cash equivalents declined to $0.75 million at December 31, 2014, from $1.90 million at June 30, 2014.
- Total assets were $21.88 million and total liabilities were $6.25 million at December 31, 2014. Stockholders’ equity was $15.63 million.
- Inventories declined to $6.26 million from $7.05 million at June 30, 2014. The balance included a $4.56 million allowance for obsolete inventory.
- The company had no outstanding borrowings under its secured revolving credit facility. The facility was amended in July 2014, reducing the revolving commitment to $5.0 million, subject to borrowing-base limitations, and expires July 31, 2015. The company reported compliance with all covenants.
Material changes versus the prior comparable period
- The prior-year quarter and six-month period included a $4.54 million impairment charge for capitalized software, inventory, product design costs, and tooling. No comparable impairment was recorded in 2014.
- Excluding the prior-year impairment, gross margin improved to 34.2% from 32.2% for the quarter and to 34.0% from 33.0% year to date, reflecting lower overhead, discontinued amortization of written-off software, and reduced Mexico and Milwaukee operating costs. Competitive pricing and closeout sales reduced contribution margins.
- STRIVA product-development spending declined by approximately $0.43 million for the quarter and $0.80 million year to date. The company has suspended further research and development on the related WiFi technology until the base business becomes more profitable.
- The company closed its Switzerland sales office, suspended Mexico operations, reduced legal and outside-service costs, lowered its 401(k) match, and incurred lower endorsement fees.
- Unauthorized-transaction-related costs were $25,000 for the quarter and $77,492 year to date, compared with $112,171 and net recoveries of $596,545, respectively, in the prior-year periods. Most forfeiture proceeds have been received, with remaining amounts expected to be insignificant.
- No dividend was declared for the quarter. Quarterly dividends have been suspended until operations, earnings, sales, and cash generation improve.
Guidance, outlook, risks, contingencies, and unusual items
- Management expects a fiscal 2015 effective income tax rate of approximately 40% to 45%.
- Expected fiscal-year 2015 spending for tooling, leasehold improvements, and other capital expenditures is approximately $0.4 million to $0.5 million. Management expects operating cash flow to fund these expenditures.
- Management believes cash reserves, operating cash flow, and available borrowing capacity will provide adequate liquidity for operating needs, debt service, and planned capital expenditures for the next twelve months and the foreseeable future.
- Export markets remain uneven. Scandinavia, Russia, and Malaysia improved, while Ukraine, the Czech Republic, and Japan remained weak. Management cited weak European economies, political unrest in Ukraine, customer inventory adjustments, competition, pricing pressure, foreign manufacturing and sourcing, consumer acceptance of new products, and third-party production as risks.
- Legal proceedings continue against parties related to the 2009 unauthorized transactions. The company also reported a confidential settlement in principle with Red Fusion Studios concerning termination of the Striva development agreement; final documentation was still being completed, and ultimate resolution of the other matters was not determinable.
- The company leases its Milwaukee facility from Koss Holdings, LLC, which is wholly owned by the chairman. The operating lease runs through June 30, 2018, at fixed annual rent of $380,000, plus related property costs.
- Management stated that disclosure controls were effective as of December 31, 2014, with no material changes in internal control over financial reporting.
Important facts for investors to verify
- Whether quarterly sales improvement continues, particularly in export markets and after prior-year customer load-in shipments are excluded.
- Operating cash generation and the company’s ability to maintain liquidity while cash balances decline and dividends remain suspended.
- Compliance with the $5.0 million secured credit facility’s borrowing-base, EBITDA, tangible-net-worth, and other covenants before its July 31, 2015 expiration.
- The timing and financial effect of final unauthorized-transaction recoveries and the resolution of pending litigation.
- Inventory turnover, closeout activity, and the adequacy of the $4.56 million obsolete-inventory allowance.
- Whether suspended STRIVA development and cost reductions affect future product growth and competitiveness.
- The assumptions supporting the projected 40% to 45% effective tax rate and planned $0.4 million to $0.5 million of capital expenditures.