Precision Optics Corporation, Inc. — Q2 FY2017 Form 10-Q
Reporting period: Three and six months ended December 31, 2016. The company designs and manufactures optical instruments, primarily medical devices and imaging systems, with a smaller military and industrial business.
Financial performance and position
| Metric | Three months ended Dec. 31 | Six months ended Dec. 31 |
|---|---|---|
| Revenue, 2016 | $601,590 | $1,451,138 |
| Revenue, 2015 | $954,772 | $1,813,199 |
| Gross profit / margin, 2016 | $148,407 / 24.7% | $315,458 / 21.7% |
| Gross profit / margin, 2015 | $217,022 / 22.7% | $349,360 / 19.3% |
| Net loss, 2016 | $(312,095) | $(605,503) |
| Net loss, 2015 | $(281,310) | $(663,200) |
| Loss per share, 2016 | $(0.04) | $(0.08) |
- For the six months, operating cash used was $279,441, versus $524,931 in the prior-year period. Investing activities used $30,176; financing provided $776,136, mainly from the stock placement.
- Cash was $516,578 at December 31, up from $50,059 at June 30, 2016. Current assets were $2.15 million and current liabilities $1.38 million.
- Capital lease obligations totaled $35,948, including $8,120 current. The filing reports no other contractual cash commitments beyond approximately $202,000 of open purchase orders, including the remaining lease commitment.
- Accounts receivable was $442,087; inventory was $1.10 million. Stockholders’ equity was $862,102.
Changes and management commentary
- Revenue fell 37.0% year over year in the quarter and 20.0% for the six months. Management attributed the quarterly decline to lower engineering revenue as projects transitioned to production or completed initial phases, loss of a Microprecision subassembly project, and cyclical product declines. Six-month production revenue declined, partly offset by slightly higher engineering revenue.
- Six-month net loss narrowed from $663,200 to $605,503, while the quarterly loss increased from $281,310 to $312,095. Gross margins improved in both comparisons. Management cited stronger margins on certain traditional products, lower fixed production costs after closing the film-coating department, and removal of manufacturing inefficiencies.
- R&D expense was $236,207 for six months, down 8.8%; selling, general and administrative expense was $686,269, down 11.1%. Management attributed lower SG&A primarily to reduced consulting, travel, and advertising expenses.
- Management expects quarterly revenue to return to higher levels achieved in recent quarters as project opportunities advance and customer production demand continues. It expects margins to improve further as sales increase. No quantified revenue or earnings guidance is provided.
Capital, risks, and unusual items
- In November 2016, the company raised $780,000 gross by selling 1,333,334 units at $0.60 each, each comprising one common share and a warrant for one-half share. Proceeds are for working capital. Shares outstanding rose from 7,539,582 at June 30 to 8,872,916 at December 31.
- The warrants’ exercise price depends on fiscal 2017 performance: $0.40 per share if both stated revenue and income criteria are met, $0.20 if one is met, and $0.01 if neither is met. The revenue test is at least $1.85 million in any quarter; the income test is positive net income in any two quarters. The offering also triggered anti-dilution adjustments to certain older warrants.
- The company reports recurring losses and operating cash use, and says it may need additional debt, equity, or a strategic alliance until it achieves sustained breakeven. Financing may not be available on acceptable terms; without capital or positive cash flow, it may need to reduce R&D and other costs, potentially affecting operations and its ability to continue developing products.
- Management determined disclosure controls and internal control over financial reporting were not effective at December 31, 2016. Identified material weaknesses include inadequate segregation of accounting duties and inventory valuation controls. Management describes remediation efforts but cannot guarantee remediation.
- No income tax provision was recorded because of losses; a full valuation allowance is provided against deferred tax assets. The filing reports no known pending or threatened litigation expected to have a material impact and no material changes to previously disclosed risk factors.
Investor facts to verify
- Whether revenue and gross-margin recovery materializes, particularly given lost and transitioning customer projects.
- Cash burn, working-capital needs, and the timing and terms of any additional financing.
- Customer concentration and the conversion of engineering projects into recurring production orders; the filing says seven customers represented approximately 62% of fiscal 2016 sales.
- Progress in remediating the material weaknesses and the reliability of inventory valuation and financial reporting controls.
- Potential dilution and warrant economics, including satisfaction of the performance tests and the anti-dilution adjustments.