Optex Systems Holdings, Inc. — Q1 FY2020 Form 10-Q Summary
Business context and reporting period
The filing covers the unaudited three months ended December 29, 2019, compared with the three months ended December 30, 2018. Optex manufactures optical sighting systems, periscopes, rifle and surveillance sights, night-vision assemblies, and related optical components for U.S. and foreign military, defense-prime, and commercial customers. Operations are conducted through the Richardson, Texas, and Applied Optics Center divisions, with 105 full-time-equivalent employees.
Revenue concentration remained significant: the U.S. government represented 56% of consolidated revenue, two major U.S. defense contractors represented 11% and 12%, and one commercial customer represented 7%. Approximately 96% of revenue was domestic and 4% was from Canada.
Key financial metrics
| Metric | Q1 FY2020 | Q1 FY2019 |
|---|---|---|
| Revenue | $5.887 million | $5.891 million |
| Gross profit | $1.467 million | $1.443 million |
| Gross margin | 24.9% | 24.5% |
| Operating income | $718 thousand | $700 thousand |
| Net income applicable to common shareholders | $(679) thousand | $1.354 million |
| Basic and diluted earnings per share | $(0.08) | $0.16 |
| Adjusted EBITDA | $810 thousand | $829 thousand |
| Cash flow from operating activities | $294 thousand | $(151) thousand |
| Capital expenditures | $29 thousand | $18 thousand |
| Cash flow from financing activities | $350 thousand | $200 thousand |
The net loss primarily reflected a noncash $1.251 million loss from the change in fair value of warrant liabilities, compared with a $1.385 million gain in the prior-year quarter. Interest expense was $5 thousand and income tax expense was $141 thousand.
At December 29, 2019, cash was $1.683 million, accounts receivable were $2.689 million, inventory was $10.656 million, and working capital was approximately $11.9 million. Total assets were $19.380 million and stockholders’ equity was $11.555 million.
The Avidbank revolving credit facility had $600 thousand outstanding at quarter-end, compared with $250 thousand at September 29, 2019. The facility permits borrowings of up to $2.2 million, subject to borrowing-base availability, and had a stated maturity of April 21, 2020. Lease accounting adoption resulted in a $1.715 million right-of-use asset and approximately $1.789 million of operating lease liabilities.
Material changes versus the prior comparable period
- Revenue was essentially flat, decreasing $4 thousand, or 0.1%.
- Richardson revenue decreased $186 thousand, primarily because the prior DDAN sighting-system order had been completed. Applied Optics Center revenue increased $182 thousand due principally to deliveries of laser-filter and ARD assemblies.
- Periscope revenue declined $243 thousand and sighting-system revenue declined $588 thousand, while other Richardson product revenue increased $645 thousand.
- Gross profit increased $24 thousand and gross margin improved 40 basis points, reflecting product mix. Richardson gross margin increased to 24.7% from 21.1%, while Applied Optics Center margin declined to 21.7% from 25.7%, partly because of higher warranty expense.
- Operating income increased $18 thousand to $718 thousand, while general and administrative expense increased $6 thousand.
- Adjusted EBITDA declined $19 thousand to $810 thousand.
- Operating cash flow improved to $294 thousand from a $151 thousand use of cash, aided by collections of accounts receivable and noncash warrant revaluation adjustments.
- Backlog declined to $22.0 million from $24.6 million at September 29, 2019, a decrease of $2.6 million, or 10.6%. New orders were $3.2 million versus $5.7 million in the prior-year quarter.
- The company adopted ASC 842 lease accounting, adding material lease assets and liabilities to the balance sheet without a comparable prior-year balance.
Guidance, outlook, risks, contingencies, and unusual items
Management expected net income, higher adjusted EBITDA, and positive operating cash flow during 2020 and the following nine months, based on projected revenue growth, improved gross margins, productivity initiatives, and cost efficiencies. Management also expected revenue to be concentrated in the third fiscal quarter as shipments begin against an ICWS contract.
Subsequent to quarter-end, the company announced a $1.1 million Applied Optics Center order and two periscope IDIQ awards with a combined potential value of up to $5.9 million over five years. IDIQ awards are included in backlog only as task orders are released.
Management cited risks from uneven customer delivery schedules, first-article inspection requirements, program delays, increased inventory and production costs, working-capital constraints, customer concentration, dependence on U.S. defense procurement, and the potential expiration or refinancing of the credit facility. The company stated that it was not aware of any pending contract terminations or material litigation. No material changes to previously disclosed risk factors were reported.
Outstanding warrants were classified as Level 3 liabilities. Their fair value increased to $3.287 million from $2.036 million at September 29, 2019, producing the $1.251 million noncash loss. The company had 4.125 million warrants outstanding at quarter-end, generally exercisable at $1.50 per share through August 26, 2021.
On January 7, 2020, the company issued 59,447 common shares, net of withholding, to settle 84,500 restricted stock units that vested on January 1, 2020. Management concluded that disclosure controls were effective and that there were no material changes in internal control over financial reporting.
Investor verification items
- Verify the April 21, 2020 maturity and renewal or refinancing status of the Avidbank revolving credit facility.
- Assess whether the $22.0 million backlog and announced IDIQ awards convert into released task orders and revenue on the expected schedule.
- Monitor customer concentration, particularly U.S. government and major defense-contractor exposure.
- Evaluate the effect of warrant fair-value volatility on reported earnings and the potential dilution from outstanding warrants and restricted stock units.
- Review inventory levels, warranty reserves, and working-capital requirements as production schedules increase.
- Reconcile the subsequent restricted-stock-unit settlement and resulting share count with future filings.