Vuzix Corporation — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016. Vuzix designs, manufactures and sells wearable display, smart-glasses, augmented-reality and virtual-reality products, as well as related engineering services.
Financial performance and liquidity
| Metric | Q2 2016 | Six months 2016 | Comparable 2015 period |
|---|---|---|---|
| Revenue | $560,877 | $924,717 | $427,812 Q2; $1,236,967 six months |
| Gross profit (loss) | $(126,054), or (22)% margin | $(365,191), or (39)% margin | $35,264, or 8%; $213,597, or 17% |
| Operating loss | $(3,829,757) | $(7,525,611) | $(2,144,281); $(5,832,746) |
| Net loss | $(4,103,490) | $(7,879,229) | $(2,402,327); $(7,493,179) |
| Loss per share, basic and diluted | $(0.28) | $(0.54) | $(0.17); $(0.56) |
Q2 product revenue was $421,377; engineering-services revenue was $139,500. Six-month product revenue fell 30% year over year, while total revenue fell 25%. Operating expenses for the first half were $7.16 million, including $2.94 million of research and development and $1.78 million of selling and marketing.
Cash and cash equivalents were $4.59 million at June 30, down $7.29 million from year-end 2015. Six-month operating cash use was $6.39 million; investing cash use was $893,375, mainly for facility improvements, equipment and tooling; financing cash use was $10,210. Working capital was positive at $5.70 million, versus $14.73 million at December 31, 2015.
Debt included $1.896 million principal on senior secured convertible notes, due June 3, 2017, bearing 5% interest and convertible at $2.25 per share, subject to adjustments. The notes are secured by a first-priority interest in company assets. Their net carrying value, after unamortized discounts and costs, was $1.468 million, classified as current. The company also reported a $238,799 warrant derivative liability.
Changes, outlook and risks
- Q2 total revenue increased 31% year over year, largely reflecting $139,500 in engineering-services revenue; product revenue declined 2%. For the first half, lower M100 smart-glasses sales and discontinued Wrap products contributed to the revenue decline. Customers deferred purchases while awaiting the M300.
- Gross margin deteriorated to negative in both periods. Management cited lower volumes against fixed manufacturing costs, higher freight, and first-quarter iWear component scrapping. Q2 freight costs were also elevated; the company planned to shift more shipments from air to sea.
- R&D and selling and marketing expense increased substantially as the company developed the M300 and expanded staffing, marketing, trade-show activity and sales channels. First-half G&A declined, primarily because the 2015 period included larger stock awards and investor-relations costs.
- Manufacturing yield and optical-performance problems constrained iWear Video Headphones availability through the first half. Management said component and process revisions were being transitioned back to its China-based manufacturer and expected improved availability for the fall selling season.
- Management expected growing iWear revenue, continued M100 sales and M300 volume production starting in October 2016. It also expected its waveguide engineering program to continue through year-end and described M3000 as released to production engineering for tooling. These are forward-looking expectations, not reported results.
- On July 11, 2016, after quarter-end, Vuzix sold 1.15 million common shares at $5.75 each, generating approximately $6.0 million net proceeds. This bolstered liquidity but diluted existing holders.
- The company reported recurring losses, a $65.47 million accumulated deficit and a need to grow substantially or raise additional capital. Management said existing cash and the offering, if the operating plan succeeds, were expected to meet needs for the foreseeable future, while acknowledging continued losses were expected for the next two quarters and that future financing was uncertain. Failure to achieve product adoption could require further fundraising or material spending cuts.
- One customer accounted for approximately 22% of first-half sales and 64% of June 30 accounts receivable. Preferred stock carried a 6% annual cumulative dividend; accrued and unpaid dividends totaled $2.31 million.
- Disclosure controls were deemed ineffective at June 30, 2016 because previously identified material weaknesses in internal control over financial reporting had not been remediated. The company said additional procedures were performed for this filing and management believed the statements fairly presented its financial position and results.
- The company reported no current or pending litigation and no material changes to the risk factors in its 2015 Form 10-K.
Most important facts for investors to verify
- Whether the July offering proceeds and remaining cash provide adequate runway relative to the reported $6.39 million first-half operating cash use.
- Whether M300 production began as planned, and whether customer orders converted from preorders and deferred revenue into shipped, recognized sales.
- Whether iWear manufacturing yields, product availability and freight costs improved, and whether product gross margins recovered.
- Whether customer concentration, accounts-receivable collection and inventory reserves changed materially.
- How the 2017 convertible-note maturity will be repaid, converted or refinanced, and the potential dilution from preferred shares, options, warrants and other securities.
- Whether management remediated the disclosed material weaknesses and improved disclosure controls.