LiqTech International, Inc. — Form 10-Q Summary
Reporting period: Three and nine months ended September 30, 2016. The company develops and sells silicon-carbide filtration products and systems, including liquid filtration and diesel particulate filters (DPFs); it is phasing out kiln furniture.
Financial performance and position
| Metric | Q3 2016 | Nine months 2016 |
|---|---|---|
| Net sales | $3.69 million, down 46.8% year over year | $11.34 million, up 5.6% |
| Gross profit / margin | $386,000 / 10.5% (2015: 33.4%) | $2.26 million / 19.9% (2015: 15.9%) |
| Operating income (loss) | $(899,000) | $(2.08) million |
| Net income (loss) attributable to LiqTech | $(938,000), versus $621,000 income | $(5.02) million, versus $(2.34) million |
| Basic and diluted loss per share | $(0.02) | $(0.12) |
For the first nine months, liquid filters and systems revenue rose to $6.75 million from $6.22 million, and DPF revenue rose to $4.32 million from $4.18 million. Europe sales increased to $9.79 million from $5.64 million; South America sales fell to $81,000 from $2.40 million. In Q3, lower overall market activity reduced DPF and liquid-filter sales, driving the sharp revenue and gross-profit decline.
Nine-month income tax expense was $2.89 million, compared with a tax benefit of $848,000 in 2015. The company recorded a substantial valuation allowance against deferred tax assets, citing uncertainty about whether certain U.S., Singaporean and German entities can generate enough taxable income to use their tax attributes. This tax charge was the main reason the nine-month net loss increased despite higher sales, improved gross profit and lower operating expenses.
Cash flow and liquidity: Operating cash use was $1.10 million, investing cash use was $129,000, and financing cash use was $134,000 for the nine months. Cash declined to $238,000 from $1.37 million at December 31, 2015. Working capital was $6.96 million, down from $7.64 million; current assets were $11.50 million and current liabilities $4.53 million. Management said cash flow and potential funding sources should cover anticipated needs for the next 12 months, but warned that unexpected expenditures or continued negative operating cash flow could strain resources.
Debt and other balance-sheet items: Total liabilities were $4.70 million. Notes payable were $60,000 and capital-lease obligations were $203,000. The company reported no available borrowing line with a lender; its approximately $70,900 customer-guarantee facility was fully utilized and secured by certain assets. Goodwill was $7.76 million. The nine-month operating cash-flow reconciliation included a $3.19 million deferred-tax adjustment.
Material changes and management commentary
- Year-to-date gross margin improved by 4.0 percentage points, while operating expenses fell 13.8%, reflecting lower selling, general and administrative, and research and development costs. Non-cash compensation increased 42.8% to $377,000.
- Q3 sales fell 46.8% year over year, primarily due to lower liquid-filter and systems revenue and lower DPF activity. Management attributed the broader Q3 declines to weaker market activity.
- Management cited longer-than-anticipated sales cycles for filtration-system proposals. Two customers represented 49% of nine-month sales, compared with four customers representing about 43% in the prior-year period.
- The company expects very limited kiln-furniture activity from 2017 onward and is closing its Germany and Singapore operations, with closures expected during 2017.
Outlook, developments, risks and contingencies
- Management was pursuing up to $7.5 million through a private placement and said it anticipated additional equity financing. It cautioned that financing may not be available on acceptable terms or at all, and that equity could dilute shareholders.
- The Serbia groundwater-treatment project totaled $4.0 million; deliveries occurred partly in Q2 and Q3, with a remaining portion expected in Q4 2016.
- A Kailong framework agreement in China was reported at $2.2 million, with an initial $375,000 order delivered in September. The filing also reports a subsequent $2.36 million Kailong DPF order. The separate proposed Chinese DPF joint venture and related investment terms were subject to regulatory approvals and definitive agreements; the filing says regulatory issues delayed the proposed investment and the parties amended the arrangement.
- A proposed $1.8 million Chinese bioethanol filtration-system supply was based on a non-binding letter of intent, subject to definitive documents and project financing.
- After quarter-end, on November 8, 2016, LiqTech agreed to form a Chinese water-filtration joint venture with Hunan Yonker Water. Hunan Yonker Investment Group also agreed to buy 4 million LiqTech shares at $1 per share, subject to U.S. and Chinese government approvals, expected by February 28, 2017.
- A lawsuit in Italy seeks €750,000 (approximately $690,000) over alleged defective products supplied to a venture. The court-appointed expert’s findings were pending; the company said it considers the claims without merit and intends to defend itself.
- The company’s forward-looking statements are subject to risks and uncertainties, including market demand, sales conversion, financing availability, project execution, customer concentration, foreign exchange and tax-asset realization. Management reported disclosure controls effective and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether cash resources, operating performance and the proposed equity financing are sufficient to fund operations, and whether the post-quarter share purchase receives required approvals and closes.
- Whether reported China orders and other project opportunities convert into deliveries, recognized revenue and cash collections, and the timing of remaining Serbia project deliveries.
- Drivers of the Q3 sales and gross-margin decline, the sustainability of year-to-date margin improvement, and the effect of customer concentration.
- Potential outcome and financial exposure from the Italian litigation, and whether any additional contingencies arise.
- Recoverability of deferred tax assets and goodwill, particularly in light of losses, the valuation allowance and management’s stated positive and negative evidence.
- Clarification of the status and final terms of the Kailong joint-venture arrangement and the relationship between the framework agreement and the reported $2.36 million order.