Envela Corp annual report, FY2017

Business Context and Reporting Period

This is DGSE Companies, Inc.’s Form 10-K for the fiscal year ended December 31, 2017, filed March 21, 2018. The request identifies Envela Corp.; however, the filing is for DGSE Companies, Inc. DGSE buys and sells jewelry, watches, diamonds, bullion, scrap precious metals, rare coins, currency and collectibles through retail, wholesale and online channels.

The filing describes five retail locations in its business section, while a financial-statement note refers to six stores; investors should verify the year-end store count.

Financial Results and Liquidity

Revenue increased 28.3%. Jewelry sales rose 72%, scrap sales 106%, rare-coin sales 23%, and bullion sales about 0.4%. Gross margin improved overall, although jewelry and bullion category margins declined. SG&A fell 13.2% to $8.983 million. Interest expense decreased 45% to $199,243. Earnings per share were $0.07 versus a loss of $0.30.

Cash from operations was positive but below net income and declined year over year. Investing activities used $376,837, principally for store improvements and a new point-of-sale system; financing activities used $11,312. Year-end current assets were $10.892 million and current liabilities $5.559 million. Borrowings were minimal: the company reported a $2,352 capital-lease balance and no amount drawn on its terminated NTR credit facility. However, accounts payable to a related party totaled $3.902 million, representing a significant supplier and related-party exposure.

Material Changes Versus Prior Year

• DGSE moved from a $4.006 million net loss to $1.839 million net income. The comparison also reflects a $1.156 million loss on the sale of a building in 2016 versus a $30,325 loss on property and equipment in 2017.
• The 2016 debt-and-payables exchange with related entities reduced obligations by about $5.939 million in return for shares and a warrant. As a result, basic weighted-average shares rose from 13.2 million in 2016 to 26.9 million in 2017; year-over-year per-share comparisons are affected by this dilution.
• Retail operations continued to consolidate: DGSE closed a Dallas-area location, moved its Arlington-area store to a lower-cost site, and focused on larger, full-service stores.
• Past-due receivables increased substantially: $583,344 was over 90 days past due at year-end, compared with $124,704 in 2016. The doubtful-account allowance rose to $226,520 from $90,800.

Outlook, Risks, Contingencies and Unusual Items

Management expected operating cash flow to fund the next 12 months and forecast approximately $50,000 in capital expenditures, mainly for equipment. It did not expect to open additional retail locations in the next 12 months. Management planned to invest in the company’s web presence and digital and social-media marketing. The filing provides no quantified revenue or earnings guidance.

• Precious-metal price volatility, consumer demand, inventory valuation, competition, seasonality and the availability of working capital could affect margins and cash generation. Management noted that scrap purchases rebounded in 2017 after several weak years.
• Related entities beneficially owned 71.4% of common stock. One related entity accounted for 17% of sales and 11% of purchases in 2017, and 80% of accounts payable at year-end. A third-party customer and vendor was added for excess bullion transactions, but the filing says the related entity would remain a customer for scrap gold and silver.
• A Texas sales-and-use-tax audit covering July 2013 through December 2016 remained in its final stages. DGSE recorded a $70,000 reserve. It paid $261,490 in March 2017 to settle an earlier assessment.
• The company reported compliance with NYSE MKT equity-listing standards as of August 2017, with year-end equity of approximately $7.8 million, but said renewed noncompliance within 12 months could lead to accelerated delisting procedures.
• The filing cites prior accounting irregularities and an SEC settlement requiring governance reforms. Management concluded disclosure controls and internal control over financial reporting were effective at year-end 2017; the auditor did not attest to internal-control effectiveness.
• The 2017 tax provision was $1,223. DGSE recorded a full valuation allowance against net deferred tax assets and was still evaluating aspects of the Tax Cuts and Jobs Act; management did not anticipate a material provision impact before pre-Act net operating losses are used or expire.

Important Facts for Investors to Verify

• Confirm the issuer and filing match the intended company: this report is for DGSE Companies, Inc., not Envela Corp.
• Reconcile the filing’s conflicting references to five versus six stores and confirm the operating footprint.
• Review the aging and collectability of receivables, especially the large increase in balances over 90 days past due and the new note receivable of $666,722.
• Assess the concentration and terms of related-party purchases, sales and payables, including the impact of the 2016 debt exchange and the outstanding warrant for 1,000,000 shares.
• Track cash conversion, working-capital needs, the pending Texas tax audit, and continued NYSE MKT listing compliance.