DUOS TECHNOLOGIES GROUP, INC. quarterly report, Q3 FY2018

Duos Technologies Group, Inc. 10-Q Summary

Business Context and Reporting Period

Duos Technologies Group, Inc. designs and deploys artificial-intelligence-driven security, inspection, and operations systems through its wholly owned subsidiary, Duos Technologies, Inc. Its principal markets include rail transportation, commercial, petrochemical, government, banking, and data-center IT asset management. The filing covers the unaudited quarter and nine months ended September 30, 2018. The company reported approximately 50 employees and operates as one reportable segment.

Key Financial Metrics

Metric	Three Months Ended September 30	Nine Months Ended September 30
Revenue	$5.10 million, versus $1.05 million	$9.49 million, versus $3.24 million
Gross profit	$2.33 million, versus $0.39 million	$4.06 million, versus $1.37 million
Gross margin	45.6%, versus 37.0%	42.8%, versus 42.2%
Operating income (loss)	$0.64 million, versus $(0.79) million	$(0.73) million, versus $(2.42) million
Net income (loss)	$0.63 million, versus $(0.12) million	$(0.74) million, versus $(3.74) million
Net income (loss) per share	Basic $0.03; diluted $0.02	$(0.04)

• Project revenue was $4.73 million in the quarter and $8.52 million year-to-date; maintenance and technical support revenue was $0.37 million and $0.88 million, respectively. IT asset management revenue was zero in the quarter and $0.09 million year-to-date.
• Operating expenses increased 44% in the quarter to $1.69 million and 26% year-to-date to $4.80 million. Year-to-date expenses included $403,070 of non-cash stock-based compensation.
• Cash was $1.57 million at September 30, 2018, compared with $1.94 million at December 31, 2017. Working capital was $286,144 and accumulated deficit was $29.43 million.
• Operating cash flow was $(92,459) for the nine months, compared with $(1.05) million in the prior-year period. Investing cash flow was $(223,304), principally for fixed assets, software development, and patents. Financing cash flow was $(54,004).
• Total liabilities were $3.27 million, including $1.26 million of contract liabilities, $0.98 million of accounts payable, $0.20 million of payroll taxes payable, $69,038 of financing notes, and $31,516 on a closed line of credit. Related-party notes were fully repaid by September 30, 2018.

Material Changes Versus the Prior Comparable Period

• Quarterly revenue increased 388%, driven primarily by a 743% increase in project revenue. Nine-month revenue increased 193%, with project revenue up 463%.
• The company generated quarterly operating and net income, compared with losses in the third quarter of 2017. The nine-month operating and net losses narrowed substantially but remained negative.
• Prior-year results included substantial non-cash interest and debt-discount expense and a warrant derivative gain. These financing-related items largely did not recur in 2018, making year-over-year net income comparisons less representative of core operating performance.
• IT asset management revenue declined materially because a large project ended in 2017 and a replacement project was delayed. Management expects the updated dcVue platform to support future growth, particularly in 2019.
• Accounts receivable increased to $1.39 million from $298,304 at year-end 2017, while contract liabilities increased to $1.26 million from $200,410, reflecting significant project billings and work in progress.
• During the third quarter, the company issued 300,000 common shares for $195,000 upon warrant exercise. At September 30, 2018, 24.92 million warrants and 2.24 million employee options were outstanding.

Guidance, Outlook, Risks, and Unusual Items

• Management expects maintenance and technical support revenue to be generally flat for the remainder of 2018 and to grow as 2018 installations become operational. It expects overall gross margins to approach historical norms, excluding one-time lower-margin construction-related work.
• Management stated that operating expenses should grow more slowly than revenue and expects profitability from current backlog in the final quarter of 2018. No formal revenue or earnings guidance was provided.
• The financial statements contain a going-concern warning. Management and the filing state that substantial doubt exists regarding the company’s ability to continue as a going concern for twelve months from issuance, despite positive working capital and third-quarter profitability.
• Liquidity depends on completing projects, collecting customer receivables, and sustaining profitable operations. Management reported approximately $690,000 of cash on hand as of November 13, 2018 and approximately $135,000 of monthly lease and other mandatory payments, excluding payroll and ordinary expenses.
• Customer concentration is significant: two customers represented 47% and 36% of nine-month revenue, and four customers represented 30%, 22%, 12%, and 10% of accounts receivable. Approximately 49% of revenue was generated from three customers outside the United States.
• Payroll tax liabilities included $138,572 of accrued late fees within the $200,119 balance. The company began making $15,000 monthly payments in July 2018.
• The company recognized revenue over time under ASC 606 using cost-based input methods, requiring estimates of contract revenue and costs to complete. Contract assets were $347,565 and contract liabilities were $1.26 million at September 30, 2018.
• A vendor dispute valued at less than $50,000 remained pending; a court denied part of the vendor’s dismissal motion. Management does not expect a material adverse effect.
• Subsequent events included approval of 496,215 warrants and up to 92,033 shares in exchange for accrued salary owed to a former officer.

Important Facts for Investors to Verify

• Whether fourth-quarter backlog converts into recognized revenue and cash collections sufficient to resolve the going-concern uncertainty.
• The collectability and timing of the $1.39 million accounts receivable balance and the effect of customer concentration.
• Whether the $1.26 million contract-liability balance converts to revenue at expected margins and whether project cost estimates require revisions.
• Whether the company achieves sustained profitability after excluding one-time construction work and non-cash financing effects.
• The effect of 24.92 million warrants, 2.24 million employee options, Series B preferred stock convertible into 5.66 million common shares, and subsequent warrant issuances on future dilution.
• The company’s ability to fund operations after cash declined to $690,000 as of November 13, 2018 and in light of stated mandatory monthly payments.