Flexible Solutions International Inc. — Q3 2012 Form 10-Q Summary
Business context and reporting period
The company develops, manufactures and markets specialty chemicals that reduce water evaporation and biodegradable thermal polyaspartate polymers used in petroleum, chemical, utility, mining, agriculture and consumer applications. The report covers the three and nine months ended September 30, 2012, with unaudited consolidated financial statements presented in U.S. dollars. The company reported 13,169,991 common shares outstanding as of November 1, 2012.
Financial results and key metrics
| Metric | Q3 2012 | Q3 2011 | 9M 2012 | 9M 2011 |
|---|---|---|---|---|
| Sales | $3.598 million | $3.861 million | $12.554 million | $12.149 million |
| Gross profit | $1.030 million | $1.153 million | $4.111 million | $4.620 million |
| Gross margin | 28.6% | 29.9% | 32.7% | 38.0% |
| Operating income (loss) | $(287,015) | $155,288 | $147,071 | $1.303 million |
| Net income (loss) | $(458,085) | $(92,293) | $(701,421) | $440,548 |
| Basic loss per share | $(0.03) | $(0.01) | $(0.05) | $0.03 |
For the nine months, operating expenses increased to $3.964 million from $3.317 million. Major increases included administrative salaries and benefits, consulting, professional fees, commissions and depreciation. Interest expense was $85,637 for the nine months, compared with $68,657 in the prior-year period.
Cash provided by operating activities was $303,836 for the nine months, compared with cash used of $2.077 million in 2011. Capital expenditures were $93,007, versus $740,816 in the prior-year period. Financing activities provided $128,536, including $225,000 of additional short-term line-of-credit borrowings and $96,464 of loan repayments. Ending cash was $849,144, compared with $506,903 at December 31, 2011 and $319,306 at September 30, 2011.
At September 30, 2012, total assets were $13.823 million and stockholders’ equity was $10.160 million. Current assets were $5.800 million and current liabilities were $2.038 million, producing reported working capital of approximately $3.563 million. Debt consisted of an $875,000 short-term line-of-credit balance, $320,752 of current long-term debt and $1.626 million of long-term debt, for total reported borrowings of approximately $2.822 million. The revolving facility was renewed in March 2012, with availability of up to the lesser of $5.0 million or a borrowing-base formula, plus an additional $1.4 million secured loan capacity; the filing states that no amounts were outstanding on the additional secured loan.
Material changes versus the prior comparable period
- Q3 sales declined 6.8%, while nine-month sales increased 3.3%.
- Nine-month EWCP revenue decreased to $616,050 from $855,060, while BCPA revenue increased to $11.938 million from $11.294 million. The company attributed the BCPA increase to broader sales success.
- Q3 BCPA sales declined because of pressure from the European economic situation; EWCP sales also declined following elevated orders in earlier periods.
- Gross margin deteriorated primarily because production began at the Taber plant, increasing depreciation, and higher oil prices increased aspartic acid costs.
- Nine-month net results shifted from income of $440,548 to a loss of $701,421. The nine-month loss included $861,468 of income tax expense despite pre-tax income of only $150,047; the filing text does not provide a clear reconciliation of this tax expense in the supplied excerpt.
- Property, equipment and leaseholds declined to $7.580 million from $8.206 million despite the Taber plant entering production, reflecting substantial depreciation. Nine-month depreciation increased to $921,919 from $248,084.
- Accounts receivable declined to $2.003 million from $2.332 million, inventory declined to $2.780 million from $2.891 million, and the short-term line of credit increased from $650,000 to $875,000.
Guidance, outlook, commentary, risks and unusual items
Management stated that it had sufficient cash resources to meet commitments and cash-flow requirements for the coming year and did not anticipate material capital requirements through December 31, 2012 other than disclosed debt repayments. The filing provides no formal revenue or earnings guidance.
The Taber, Alberta plant is intended to manufacture aspartic acid using sugar rather than oil-based raw materials sourced primarily from China, potentially reducing raw-material costs, oil-price exposure and shipping costs. The filing does not quantify expected savings or provide a production ramp forecast.
Professional fees increased because of legal costs related to intellectual-property protection, new patent filings and an arbitration proceeding. Three customers generated 57% of nine-month sales, and the three primary customers represented 66% of accounts receivable at September 30, 2012. Lease commitments totaled approximately $246,804 through July 2014.
Key disclosed risks include competition, customer or sales losses, economic weakness, higher interest or borrowing costs, regulatory changes, insufficient funds for capital expenditures, operational inefficiencies, foreign-exchange exposure and possible defaults under debt agreements. The company also relies on secured borrowings and has pledged specified assets, including Taber property, equipment, inventory and receivables, as collateral. Management concluded that disclosure controls were effective as of September 30, 2012 and that no material change occurred in internal control over financial reporting during the quarter.
Investor verification points
- Reconcile the $861,468 nine-month income tax expense and the reported deferred tax amounts to understand the effective tax rate and cash-tax implications.
- Assess whether the Taber plant can improve gross margins sufficiently to offset its depreciation and whether production reduces dependence on imported aspartic acid.
- Review the terms, borrowing-base availability, covenants and collateral requirements of the renewed revolving credit facility.
- Monitor customer concentration, particularly the three customers representing 57% of sales and 66% of receivables.
- Evaluate the sustainability of positive operating cash flow given the nine-month net loss, debt repayments, tax payments of $1.524 million and ongoing working-capital requirements.
- Review the status and potential cost of the disclosed intellectual-property filings and arbitration proceeding.