Optical Cable Corporation — Q3 2016 Form 10-Q
Reporting period: Quarter and nine months ended July 31, 2016. The company manufactures fiber-optic and copper cabling and connectivity products for enterprise, specialty, harsh-environment, and wireless-carrier markets. Financial statements are unaudited.
Financial results
| Metric | Three months ended July 31, 2016 | Nine months ended July 31, 2016 |
|---|---|---|
| Net sales | $16.9 million; down 18.6% year over year | $47.3 million; down 16.7% |
| Gross profit / margin | $5.5 million / 32.3%, versus $5.7 million / 27.5% | $13.5 million / 28.6%, versus $16.8 million / 29.5% |
| SG&A expense | $5.1 million; down 16.6% | $15.5 million; down 15.1% |
| Income (loss) attributable to OCC | $188,000, or $0.03 per share, versus a $573,000 loss | $(2.54) million, or $(0.40) per share, versus a $(1.29) million loss |
| Operating cash flow | Not separately presented for the quarter | $2.0 million, compared with $1.0 million |
Third-quarter sales rose 3.5% sequentially from Q2. The quarter’s improved gross margin reflected product mix and lower employee-related costs; management said margins returned to more typical levels later in the year after weaker first-quarter performance.
Financial position and liquidity
- At July 31, cash was $1.8 million; current assets were $26.3 million and current liabilities $4.9 million. Working capital was $21.4 million, down from $23.5 million at October 31, 2015. The current ratio was 5.4:1.
- Total assets were $41.1 million, down from $45.0 million. Inventory declined $2.9 million to $14.9 million, mainly from sales of inventory not replenished to prior levels and the timing of raw-material purchases.
- Total liabilities were $17.2 million, versus $19.1 million. Debt included $5.9 million drawn on the revolver and $7.0 million in real-estate loans. The revolver had $1.1 million available under its $7.0 million limit.
- The April 2016 BNC refinancing replaced the SunTrust working-capital facility. The revolver bears adjusted LIBOR plus 3.65% (4.09% at July 31), is secured by company assets and cross-collateralized with real property, and matures February 28, 2018 unless extended. Its borrowing limit steps down in 2017 and 2018. Real-estate loans bear fixed interest at 4.25% and have final payments due April 30, 2018.
- Nine-month investing cash outflow was $636,000, primarily capital spending; financing cash outflow was $662,000, including debt principal payments, dividends previously declared, and refinancing costs. Cash increased $690,000 to $1.8 million.
Changes, outlook, and risks
- Demand declined in both enterprise and specialty markets; management also cited wireless-carrier pricing pressure and the strong U.S. dollar’s effect on international sales. Nine-month U.S. and non-U.S. sales fell 16.4% and 17.9%, respectively.
- Cost reductions lowered SG&A, including personnel, marketing, shipping, and travel costs. Personnel reductions implemented around fiscal 2016 were expected to save about $1.0 million annually. Centric Solutions’ lease expired in November 2015; the business moved into OCC’s Texas facility, and certain positions were eliminated.
- Effective February 1, 2016, OCC acquired the remaining noncontrolling interests in Centric Solutions for nominal consideration; it became wholly owned. OCC recorded no noncontrolling interest beginning in Q2.
- Management believed operating cash flow, cash on hand, and existing credit facilities would fund operations for at least the next 12 months. The filing gives no specific sales or earnings forecast. Management noted typical seasonality toward stronger second-half sales but cautioned that project timing and economic conditions can alter the pattern.
- The company had a $2.4 million valuation allowance against all net deferred tax assets established in fiscal 2015; realization of any tax benefit depends on future taxable income. Management expects royalty expense to largely or completely offset royalty income as income declines following patent expirations.
- Risks include continued weak demand, customer/project concentration, pricing and product-mix effects, supplier and raw-material exposure, currency movements, competition, and debt-covenant compliance and access to financing. One customer represented 16.3% of Q3 sales and 14.2% of nine-month sales. Ordinary-course claims and reviews were not expected by management to materially affect the company. Disclosure controls were deemed effective at quarter-end.
Important facts for investors to verify
- Whether sales and demand stabilize in enterprise and specialty markets, and whether wireless-carrier pricing pressure persists.
- Whether cost reductions and product mix can sustain improved quarterly gross margins despite lower sales.
- Revolver availability, step-down provisions, maturity, and covenant compliance as debt is refinanced and repaid.
- How much operating cash flow depends on inventory reductions and whether working capital can support operations.
- Any change in the deferred-tax valuation allowance, customer concentration, or the expected impact of new accounting standards.