Espey Mfg. & Electronics Corp. — Q2 FY2014 Form 10-Q
Reporting period: Quarter and six months ended December 31, 2013. Espey designs and manufactures power electronics and related equipment, primarily for military and severe-environment applications, including U.S. government programs.
Financial performance and position
| Metric | Three months ended Dec. 31, 2013 | Six months ended Dec. 31, 2013 |
|---|---|---|
| Net sales | $6.57 million | $13.49 million |
| Gross profit / margin | $0.90 million / 13.7% | $3.09 million / 22.9% |
| Operating income | $0.11 million | $1.54 million |
| Net income | $0.11 million | $1.16 million |
| Diluted EPS | $0.05 | $0.51 |
- Compared with the prior-year periods, sales fell 18% for the quarter and 15% for the six months. Gross margin fell from 26.6% to 13.7% for the quarter and from 29.0% to 22.9% for the six months.
- Cash from operations was $2.84 million for the six months, versus $0.10 million a year earlier. Investing used $1.39 million, including $0.62 million of capital expenditures; financing used $3.12 million, mainly reflecting $3.36 million of dividends.
- Cash and cash equivalents were $8.22 million at December 31, 2013, and investment securities were $4.68 million. Working capital was approximately $27.3 million. The balance sheet reports no borrowings; management said the company had not borrowed in the prior two fiscal years.
- Total assets were $32.38 million and total liabilities were $2.44 million at December 31, 2013. Management expects fiscal 2014 capital expenditures of approximately $0.8 million.
Changes, outlook, and risks
- Management attributed lower sales primarily to reduced power-supply and transformer shipments as backlog declined. Quarterly gross profit was also hurt by losses on engineering-design contracts for two potential long-term government programs; production funding and follow-on orders are not assured and could be years away.
- New orders received in the first six months were approximately $9.3 million, down from $14 million. Backlog was approximately $37.8 million at December 31, 2013, versus $48.5 million a year earlier. Management expects FY2014 sales to be below FY2013 and anticipates shipping at least $14 million of the December backlog during FY2014.
- Outstanding quotations and potential business totaled approximately $47 million, but there is no assurance these opportunities will become orders. Management cited sequestration, defense-budget uncertainty, procurement delays, and intensified price competition as pressures on orders and margins.
- Customer concentration is significant: two customers accounted for 47.3% of quarterly sales; three customers accounted for 59.2% of six-month sales. Management identifies reliance on a major customer as a risk and is pursuing diversification.
- A pending U.S. government audit relates to government contracts. The company accrued management’s best estimate of a possible outcome and stated that none of the outcomes it considered would materially adversely affect financial position or results.
- Management said operating cash flow and existing cash and investments should be adequate for foreseeable needs. Regular quarterly dividends are anticipated, but future regular or special dividends are not assured. A $1.00-per-share special dividend had been paid in each of FY2014 and FY2013.
- Disclosure controls were assessed as effective; no material change in internal control over financial reporting was reported. No legal proceedings were listed.
Important facts to verify
- Reconcile reported six-month net income: the income statement shows $1,160,059, while the MD&A describes $1,159,709 as net income; $1,159,709 is also reported as total comprehensive income.
- Track backlog conversion, new order intake, and the expected FY2014 shipments, especially given declining backlog and government procurement uncertainty.
- Assess the two engineering-design programs’ contract losses, funding prospects, and potential production follow-on work.
- Monitor customer concentration, competitive pricing, gross margins, and the outcome of the pending government audit.
- Review dividend sustainability, planned capital spending, and cash generation against the company’s operating and investment needs.