Frequency Electronics, Inc. — Form 10-K Summary
Reporting period: Fiscal year ended April 30, 2012, compared with fiscal 2011. This differs from the “2011 Q4” period in the request metadata. Amounts below are U.S. dollars.
Business context
The company designs and manufactures precision time- and frequency-control products for satellite payloads, U.S. government and defense systems, GPS timing, and telecommunications networks. Its three reporting segments are FEI-NY, Gillam-FEI, and FEI-Zyfer. Satellite payloads became the largest business driver; they represented about half of fiscal 2012 revenue, versus about 30% in fiscal 2011.
Financial performance and liquidity
| Metric | FY2012 | FY2011 | Change or context |
|---|---|---|---|
| Revenue | $63.6 million | $53.2 million | Up 20% |
| Gross margin | $24.6 million; 38.7% | $20.0 million; 37.5% | Rate improved 1.2 percentage points |
| Operating profit | $6.7 million; 10.5% of revenue | $3.5 million; 6.6% | Up 92% |
| Income before taxes | $6.8 million | $3.6 million | |
| Net income | $7.4 million | $6.0 million | Includes significant deferred-tax valuation allowance reductions |
| Diluted EPS | $0.86 | $0.72 | |
| Cash from operations | $2.1 million | $1.9 million | Receivables and inventory growth absorbed cash |
| Cash and short-term investments | $22.4 million | $20.6 million | Cash alone was $4.8 million |
| Working capital / current ratio | $63.3 million / 4.9 | Not stated / 9.2 | Current ratio declined |
| Short-term credit obligations | $6.4 million | $0.3 million | Borrowing primarily funded the Elcom acquisition |
Gross margin benefited from higher volume and product mix, partly offset by approximately $1.1 million of warranty-reserve increases and inventory write-downs. Selling and administrative expense rose 23% to $14.1 million; R&D expense fell 24% to $3.9 million, principally as development work was funded by customers and recorded in cost of revenue. Investing activities used $8.0 million, including the Elcom acquisition, securities purchases, and capital expenditures.
Material changes and unusual items
- In February 2012, the company acquired the remaining 74.88% of Elcom, bringing ownership to 100%. The transaction was valued at approximately $7.9 million. Fiscal 2012 included $840,000 of Elcom revenue and a $700,000 operating loss after acquisition; management expected Elcom to contribute positively in fiscal 2013.
- Elcom-related items—including a $730,000 remeasurement gain, equity-method losses, an impairment charge, acquisition costs, and Elcom’s operating loss—reduced fiscal 2012 pretax income by approximately $1.2 million overall.
- The company reduced its deferred-tax valuation allowance by $3.1 million in fiscal 2012 and $3.6 million in fiscal 2011. These noncash releases contributed to reported tax benefits of $560,000 and $2.4 million, respectively. Excluding the releases, the company reported tax provisions of approximately $2.5 million and $1.2 million.
- Revenue increased in FEI-NY by 35% and FEI-Zyfer by 7%; Gillam-FEI revenue declined 3%. FEI-Zyfer reported a $511,000 operating loss, compared with $204,000 operating profit in fiscal 2011.
Outlook, risks, and contingencies
- Management expected fiscal 2013 revenue and operating profit to increase, citing backlog, anticipated new orders, and the Elcom acquisition. It expected gross margin near its 40% target, positive operating cash flow, and internal R&D spending below 10% of revenue.
- Backlog was approximately $57 million at April 30, 2012, down from approximately $71 million at the start of the year; about 65% was expected to be filled in fiscal 2013. Backlog can change and is not a guarantee of future revenue or profit. Some amounts were unfunded or not yet authorized to proceed.
- Customer and government-program concentration is material: U.S. government end-use sales were 46% of revenue, down from 54%. Three FEI-NY customers generated $29.3 million, or 66% of that segment’s sales, and each exceeded 10% of consolidated revenue. Loss or delay of major contracts could materially affect results.
- Risks include potential U.S. defense budget cuts and sequestration, fixed-price contract cost overruns, contract cancellations, acquisition integration, competition, foreign currency exposure, and estimates used for long-term contract revenue and inventory valuation. Management stated liquidity was adequate through at least April 30, 2013; it also noted possible conversion or repayment of some credit-line borrowing.
- Management and the CEO/CFO concluded disclosure controls and internal control over financial reporting were not effective at year-end because of a material weakness in accounting for the Elcom step acquisition. The prior weakness relating to documentation and testing at Gillam-FEI and FEI-Zyfer was reported as remediated. The independent auditor gave an unqualified opinion on the financial statements but was not engaged to audit internal controls.
- No material pending legal proceeding was reported, and the company disclosed no material off-balance-sheet arrangements other than operating leases.
Important facts for investors to verify
- Whether fiscal 2013 growth and the expected Elcom contribution materialized, and how current backlog converted into revenue and cash.
- The sustainability of earnings apart from the noncash deferred-tax valuation allowance releases and Elcom-related acquisition accounting.
- Remediation and testing of the material weakness in acquisition accounting and the effectiveness of financial-reporting controls.
- Customer concentration, government funding exposure, fixed-price contract estimates, and the funding and cancellation terms underlying backlog.
- Working-capital conversion—especially receivables and inventory—and repayment or refinancing of the $6.4 million short-term credit balance.