Business context and reporting period
This is Communications Systems, Inc. and subsidiaries’ unaudited Form 10-Q for the quarter and six months ended June 30, 2012. The request metadata identifies Sunation Energy, Inc.; that does not match the registrant named in the filing, an identity discrepancy investors should resolve. Communications Systems sells connectivity products and IT services through Suttle, Transition Networks, and JDL Technologies.
Financial performance and liquidity
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Revenue | $25.56 million | $45.43 million | $49.81 million | $76.45 million |
| Gross profit | $10.66 million | $18.46 million | $20.60 million | $31.78 million |
| Operating income | $1.36 million | $7.25 million | $1.49 million | $11.39 million |
| Net income | $0.97 million | $4.08 million | $1.03 million | $6.64 million |
| Diluted EPS | $0.11 | $0.48 | $0.12 | $0.78 |
Q2 gross margin was approximately 41.7% versus 40.6%; operating margin was 5.3% versus 16.0%. For the six-month periods, gross margin was approximately 41.4% versus 41.6%, and operating margin was 3.0% versus 14.9%.
At June 30, cash and cash equivalents were $14.47 million and investments totaled $22.82 million, or approximately $37.29 million combined. Current assets were $86.26 million and current liabilities $12.86 million (current ratio approximately 6.7). Mortgage debt totaled approximately $1.79 million; the company reported no borrowings on its $10 million credit line during the first half. Six-month operating cash flow was negative $4.83 million, investing cash flow negative $0.41 million, and financing cash flow negative $2.81 million. Cash declined $8.05 million to $14.47 million. Capital expenditures were $1.21 million; dividends paid were $2.64 million.
Material changes versus the prior comparable period
- Revenue fell 44% in Q2 and 35% in the first half; net income fell 76% and 85%, respectively. Management attributed much of the comparison to a $19.39 million one-time Transition Networks project in Q2 2011. Excluding that project, Transition Networks Q2 revenue increased 8% year over year, according to management.
- Suttle revenue increased 14% in Q2 and 6% in the first half, supported by structured cabling demand and multi-dwelling construction. Its first-half operating income was $0.82 million, compared with a prior-year operating loss that included a $1.27 million goodwill impairment.
- Transition Networks revenue decreased 57% in Q2 and 45% in the first half. The company cited the prior-year project and slower federal-government spending. Gross margin percentage improved, partly because the prior-year project had volume discounts.
- JDL revenue declined 70% in Q2 and 75% in the first half after completion of major Broward County and federal-contract work. JDL reported an operating loss of $0.17 million in Q2 and $0.52 million in the first half.
- Inventory increased from $25.99 million at year-end to $31.06 million at June 30. Management attributed the increase to production for higher orders and new-product initiatives. The first-half operating cash outflow also reflected inventory growth and compensation payments.
Outlook, commentary, risks and unusual items
No quantified revenue or earnings guidance is provided. Management said it remained optimistic about long-term prospects while acknowledging near-term uncertainty, particularly lower government spending. It highlighted opportunities in mobile backhaul, service-provider markets, new Suttle products, and JDL expansion into additional schools, universities, and small and medium-sized businesses. The company was implementing an enterprise resource planning system and said implementation was proceeding well.
Risks cited include customer and major-telephone-company sales fluctuations, telecom and economic conditions, government and education spending, competition, product delivery and launch delays, raw-material availability, acquisition integration, and expense control. The filing reports approximately $0.97 million of accrued acquisition consideration, including contingent consideration valued using significant unobservable assumptions. It also reports $0.36 million of net uncertain tax benefits; specified federal, state, and foreign tax years remain open to examination. Management said it knew of no pending legal matter expected to materially affect results and disclosed no material subsequent events.
Important facts to verify
- Confirm the registrant: the supplied metadata says Sunation Energy, Inc., while the filing is for Communications Systems, Inc.
- Assess how much future revenue and profitability depend on replacing the nonrecurring Transition Networks project and completed JDL contracts.
- Monitor inventory levels, order conversion, and operating cash flow after the first-half cash outflow.
- Review customer concentration, government-spending exposure, and the assumptions behind acquisition contingent consideration.
- Verify debt maturities, dividend sustainability, and the company’s liquidity outlook against subsequent filings.