Koss Corporation Form 10-Q Summary
Business Context and Reporting Period
Koss Corporation designs, manufactures, and sells stereo headphones, wireless headphones and speakers, computer and telecommunications headsets, and active noise-canceling headphones. The company operates as one business segment. This unaudited Form 10-Q covers the three months ended September 30, 2021, compared with the three months ended September 30, 2020.
Financial Results and Key Metrics
| Metric | Three Months Ended September 30, 2021 | Three Months Ended September 30, 2020 |
|---|---|---|
| Net sales | $4.365 million | $5.208 million |
| Gross profit | $1.582 million | $1.636 million |
| Gross margin | 36.2% | 31.4% |
| SG&A expense | $1.781 million | $1.506 million |
| Operating income (loss) | $(0.199) million | $0.130 million |
| Operating margin | (4.6)% | 2.5% |
| Income (loss) before taxes | $(0.098) million | $0.128 million |
| Net income (loss) | $(0.099) million | $0.127 million |
| Basic and diluted EPS | $(0.01) | $0.02 |
| Net cash used in operating activities | $(0.928) million | $(0.181) million |
Cash and cash equivalents were $7.233 million at September 30, 2021, compared with $6.950 million at June 30, 2021. The company had no borrowings under its $5.0 million secured revolving credit facility and was in compliance with its covenants. The facility expires October 31, 2022 and permits letters of credit up to a $1.0 million sublimit.
Total assets were $28.239 million and stockholders’ equity was $20.979 million at September 30, 2021. Inventory increased to $7.292 million from $5.902 million at June 30, 2021. The company reported $1.364 million of financing cash flow from the exercise of stock options, including the issuance of 529,089 shares.
Material Changes Versus the Prior Comparable Period
- Net sales declined 16.2%, or approximately $843,000, primarily because of lower U.S. sales, distributor order timing, distributor inventory levels, and shipment delays. U.S. sales fell to approximately $2.788 million from $3.939 million.
- Export sales increased to approximately $1.578 million from $1.269 million, primarily due to European distributor strength, new products, and demand for headphones used for remote work and study.
- Gross margin improved to 36.2% from 31.4%, reflecting a more favorable product and geographic mix and the absence of lower-margin mass-retailer business.
- SG&A increased 18.3% to approximately $1.781 million. Key factors included approximately $121,000 of employer taxes related to stock option exercises, approximately $100,000 of license-related expense, and higher deferred compensation expense.
- The company shifted from prior-year net income to a net loss, despite improved gross margin, because of lower sales and higher operating expenses.
- Operating cash use increased to $928,000, primarily because inventory investment rose by approximately $1.391 million to support product availability and mitigate supply-chain disruptions.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management expects cash from operations, cash reserves, and available borrowing capacity to provide adequate liquidity for the next twelve months and the foreseeable future.
- The company expects approximately $600,000 of fiscal 2022 expenditures for tooling, leasehold improvements, and other capital expenditures.
- Supplier, port, rail, container, and freight disruptions have delayed products and increased inbound shipping costs. Management expects higher shipping costs to negatively affect margins in the foreseeable future and is pursuing mitigation measures, including higher inventory, alternative sources, and air freight.
- COVID-19 continued to support demand for certain communication headphones but disrupted some retail markets, particularly in Europe. The ultimate impact of the pandemic remains uncertain.
- In July 2021, the company recorded $100,000 of one-time other income from a patent license agreement. A related $100,000 payment to a third party was recorded as legal expense.
- Stock option exercises generated approximately $7.8 million of tax-deductible compensation expense, expected to produce an approximately $39.9 million federal tax loss carryforward. The related deferred tax asset was approximately $12.1 million and was fully offset by a valuation allowance because realization remains uncertain.
- The company has patent-infringement actions pending against several headphone and audio companies. Potential recoveries may be shared with third parties, and the outcome is uncertain.
- The company has received allegations that certain wireless products may infringe One E-Way patents; no lawsuit had been filed and served as of September 30, 2021.
- The company leases its Milwaukee facility from an entity wholly owned by its former chairman. Annual rent is fixed at $380,000 through the lease term ending June 30, 2023, with a renewal option through June 30, 2028.
- Management concluded that disclosure controls and procedures were effective as of September 30, 2021, and reported no material changes in internal control over financial reporting.
Important Facts for Investors to Verify
- Whether U.S. sales and distributor orders recover after shipment delays and distributor inventory reductions.
- The duration and financial effect of supply-chain congestion, higher freight costs, and component availability issues.
- Whether improved gross margin can offset lower revenue and elevated SG&A expense.
- Inventory levels, obsolescence reserves, and operating cash flow as supply-chain investments continue.
- The realization of tax loss carryforwards and the continued need for the deferred tax valuation allowance.
- Developments and potential economics of the company’s patent-enforcement program and related litigation.
- Liquidity and covenant compliance, including continued availability of the unused $5.0 million credit facility.