CVD Equipment Corporation — Q2 2019 Form 10-Q
Business context and period. Unaudited results cover the three and six months ended June 30, 2019, compared with the same 2018 periods. CVD designs and manufactures chemical vapor deposition equipment and reports three segments: CVD, Stainless Design Concepts (SDC), and CVD Materials.
Financial performance
| Metric | Q2 2019 | Q2 2018 | First half 2019 | First half 2018 |
|---|---|---|---|---|
| Revenue | $4.92 million | $6.44 million | $8.40 million | $15.59 million |
| Gross profit (margin) | $0.49 million (10.0%) | $1.12 million (17.3%) | $0.11 million (1.3%) | $4.88 million (31.3%) |
| Operating loss | $1.54 million | $1.38 million | $4.11 million | $0.47 million |
| Net loss | $1.39 million | $1.33 million | $3.57 million | $0.77 million |
| Loss per diluted share | $0.21 | $0.21 | $0.55 | $0.12 |
- First-half operating cash flow was negative $1.12 million, versus positive $2.96 million in 2018. Capital expenditures were $1.43 million; debt payments were $0.33 million. Cash declined $2.86 million to $8.58 million.
- At June 30, cash was $8.58 million, working capital $10.3 million, and total debt approximately $12.58 million, including $0.87 million current maturities. Total liabilities were $16.12 million.
- Revenue fell 23.6% in Q2 and 46.1% in the first half. Management attributed the decline chiefly to completion of orders from a former major aerospace customer. The customer accounted for approximately 13.8% of Q2 revenue and 16.2% of first-half revenue in 2019, versus 42.2% and 45.4% in 2018.
- First-half CVD segment revenue declined to $5.2 million from $12.3 million; SDC revenue was $2.3 million versus $2.5 million, while Materials revenue rose to $0.9 million from $0.7 million. SDC was profitable before tax in the first half; CVD and Materials reported losses.
Outlook, risks, and notable items
- Management expected the CVD Materials facility to become operational in Q3 2019. It reported $1.4 million of first-half capital investment in building improvements and machinery. Management stated cash and expected operating cash flow should cover working capital and capital needs for the next 12 months; this is forward-looking and not a guarantee.
- Two subleases commenced in June 2019. Rental income was $36,000 in Q2; from July 2019, management expected approximately $67,000 monthly, or $800,000 annually.
- The revolving credit facility expired in September 2018 and was not renewed; the company said renewal terms were unacceptable and that it had not used the line in the prior 10 years. This leaves no disclosed revolving credit line available.
- The company had breached its mortgage fixed-charge coverage covenant at December 31, 2018, received a waiver through April 1, 2020, and reported compliance at June 30, 2019. A subsequent August 5, 2019 amendment replaced that covenant with minimum liquid-asset requirements, beginning at $3.0 million for the remainder of 2019 and rising to $4.0 million from September 2021; the agreements also provide cross-default between the two HSBC notes.
- Management identified material weaknesses/significant deficiencies in disclosure controls: oversight and consolidation of the foreign subsidiary, incomplete integration of project accounting software and reliance on manual spreadsheet reconciliations, and estimating costs on contracts in progress. Controls were still not effective as of June 30, 2019, although remediation was underway.
- Contract revenue depends on cost-to-complete estimates. First-half net changes in transaction prices and input-cost estimates reduced revenue by $231,000. The company also recorded a $50,000 inventory-obsolescence provision; the obsolescence reserve was $410,000 at June 30.
- Customer concentration and collection exposure remain relevant: two customers represented 24% of receivables at June 30. The company had $6.824 million of cash at risk in excess of FDIC limits. Management also cited competition, financing availability, and uncertainty about future profitability as risks.
Important facts for investors to verify
- Whether new orders and margins recover after the prior major customer’s orders ended, and whether customer concentration changes.
- Whether CVD Materials began operations as expected, meets cost and revenue plans, and generates the projected sublease income.
- Liquidity and covenant compliance under the amended HSBC minimum-liquid-assets tests, particularly given negative first-half operating cash flow and the absence of a revolving credit facility.
- Progress in remediating control deficiencies and improving contract cost estimates, project accounting integration, and foreign-subsidiary consolidation.
- Whether deferred tax assets are realizable; management said it continues to reassess their potential utilization.