Franklin Wireless Corp. Form 10-Q Summary
Reporting period: Quarterly and nine-month periods ended March 31, 2017, compared with the periods ended March 31, 2016. The request metadata identifies “2016 Q3,” but the filing itself is for the quarter ended March 31, 2017. Financial statements are unaudited and prepared under U.S. GAAP.
Business Context
Franklin Wireless provides wireless access products, including mobile hotspots, routers, modems, embedded modules, gateways, and M2M/IoT hardware and software. Products are sold primarily to wireless operators and through partners and distributors. The company owns 51.8% of Franklin Technology Inc. in South Korea, which provides research and development services.
Key Financial Metrics
| Metric | Three Months Ended March 31, 2017 | Three Months Ended March 31, 2016 | Nine Months Ended March 31, 2017 | Nine Months Ended March 31, 2016 |
|---|---|---|---|---|
| Net sales | $9.75 million | $14.15 million | $36.81 million | $46.26 million |
| Gross profit | $1.95 million | $2.47 million | $7.11 million | $7.60 million |
| Gross margin | 20.0% | 17.5% | 19.3% | 16.4% |
| Operating income (loss) | $(0.08) million | $0.45 million | $0.91 million | $1.64 million |
| Net income | $0.01 million | $0.31 million | $0.75 million | $1.35 million |
| Net income attributable to parent | $0.07 million | $0.39 million | $0.86 million | $1.03 million |
| Diluted EPS | $0.01 | $0.04 | $0.08 | $0.10 |
Cash flow and liquidity: Cash used in operating activities was $0.54 million for the nine months, compared with $0.30 million used in the prior-year period. Investing cash use was $0.28 million, primarily for capitalized product development, intangible assets, and property and equipment. Financing activities provided $0.10 million from stock-option exercises. Cash decreased by $0.68 million to $12.48 million.
Balance sheet: Total assets were $27.26 million at March 31, 2017, compared with $31.75 million at June 30, 2016. Current assets were $23.86 million and current liabilities were $8.16 million. Accounts receivable declined to $9.51 million from $12.34 million, inventories declined to $1.25 million from $2.29 million, and accounts payable declined to $7.20 million from $13.28 million. The filing reports no outstanding debt at March 31, 2017 and no debt repayment during the current nine-month period.
Equity: Total stockholders’ equity was $19.10 million, including $0.99 million of non-controlling interests. Common shares outstanding increased to 10,520,203 from 10,442,203 at June 30, 2016.
Material Changes Versus the Prior Comparable Period
- Third-quarter sales declined 31.1%, and nine-month sales declined 20.4%, primarily because of the timing of carrier orders and substantially lower EMEA sales.
- U.S. sales declined 33.5% in the quarter, which management attributed principally to carrier order timing. Nine-month U.S. sales declined 9.3%.
- EMEA sales declined 92.2% for the nine months, from $6.49 million to $0.51 million, because of the timing of orders from an African carrier customer.
- Gross margin improved to 20.0% in the quarter and 19.3% for the nine months, versus 17.5% and 16.4%, respectively, primarily because of customer and product mix, pricing, and product-cost variation.
- Operating expenses increased 0.4% in the quarter and 4.1% for the nine months. Research and development expense increased because of headcount and payroll growth.
- The company generated an operating loss in the quarter, compared with operating income of $0.45 million in the prior-year quarter. Nine-month operating income declined 44.7%.
- Accounts payable decreased by $6.08 million during the nine months, contributing significantly to negative operating cash flow.
- Capitalized product development spending fell to $0.18 million from $0.66 million in the prior-year period.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
Management did not provide formal revenue or earnings guidance. It expects revenue performance to depend on retaining existing customers, demand for wireless data products, acceptance of new products, new customer relationships, and the ability to meet customer requirements. Management stated that cash and cash equivalents should fund existing operations and obligations through at least March 31, 2018, based on current plans and projections.
- Customer concentration is significant: two customers represented 67% and 30% of nine-month sales and 78% and 15% of accounts receivable at March 31, 2017.
- A single Asian manufacturer supplied approximately 97% of product purchases for the nine months and was associated with $6.38 million of accounts payable. Manufacturing delays, quality issues, or capacity constraints could affect shipments and revenue.
- Demand is described as highly unpredictable; inventory obsolescence and excess inventory may require additional write-downs. The recorded inventory reserve was $92,049.
- The company has approximately $12 million of change-of-control payment obligations to two executives: $5 million to the president and $2 million to the chief operating officer, subject to specified events. The former engineering vice president’s $1 million agreement expired.
- Lease commitments include San Diego office space and Seoul facilities whose leases expire in 2019 and September 2017, respectively. The filing does not provide a consolidated remaining lease-obligation total.
- Prior patent litigation with Novatel and Nova Intellectual Solutions was settled and dismissed with prejudice in 2015. The company states that it is periodically involved in ordinary-course legal proceedings.
- FTI incurred a net loss of $0.23 million for the nine months, reducing non-controlling interests by $0.11 million.
- FTI received government product-development funding reflected in other income. Foreign-currency changes also affected other income.
- The company reported no off-balance-sheet arrangements, no material changes to previously disclosed risk factors, and effective disclosure controls as of March 31, 2017.
Facts Investors Should Verify
- Confirm the timing and expected recurrence of carrier orders, particularly the U.S. and African customer orders that drove period-to-period volatility.
- Assess customer concentration, receivable collectability, and the financial condition of the two largest customers.
- Evaluate dependence on the single Asian manufacturer and the company’s supply-chain alternatives.
- Review whether negative operating cash flow and lower accounts payable could persist despite reported profitability.
- Reconcile the company’s cash runway assessment with future product-development spending, lease obligations, and potential change-of-control payments.
- Monitor gross-margin sustainability given changing product mix, pricing pressure, and product costs.
- Review the effect of upcoming accounting standards, including revenue recognition, inventory measurement, leases, and stock compensation.