PRO-DEX, INC. — Form 10-Q Summary
Period clarification: The supplied filing is for the quarter and nine months ended March 31, 2018 (Pro-Dex fiscal 2018 Q3), not 2017 Q3. Amounts below are in millions of dollars unless otherwise stated. Financial statements are unaudited.
Business context and reporting period
Pro-Dex designs and manufactures powered surgical and dental instruments, with medical devices now driving most of its business. The filing reports results for the three and nine months ended March 31, 2018, compared with the same periods in 2017. Fineline Molds manufactures injection-molded plastics; after the reporting date, Pro-Dex agreed to sell substantially all of that division’s assets.
Financial results and liquidity
| Metric | Three months ended March 31 | Nine months ended March 31 |
|---|---|---|
| Net sales, 2018 / 2017 | $5.494 / $6.618 | $16.217 / $16.346 |
| Gross profit, 2018 / 2017 | $1.976 / $2.462 | $5.554 / $5.196 |
| Gross margin, 2018 / 2017 | 36% / 37% | 34% / 32% |
| Operating income, 2018 / 2017 | $0.632 / $1.348 | $1.841 / $1.911 |
| Income from continuing operations, 2018 / 2017 | $0.480 / $0.703 | $1.453 / $4.125 |
| Net income, 2018 / 2017 | $0.480 / $0.888 | $1.453 / $4.368 |
| Diluted earnings per share, 2018 / 2017 | $0.11 / $0.22 | $0.34 / $1.07 |
For the nine months, net cash from operations was $1.789 million, investing cash outflow was $3.107 million, and financing cash inflow was $2.212 million. Cash rose to $5.099 million from $4.205 million at June 30, 2017. Working capital was $12.926 million. At March 31, current assets were $14.882 million and current liabilities were $1.956 million.
Pro-Dex had no notes payable outstanding at March 31; reported current capital lease obligations of $35,000 and noncurrent notes and capital leases payable of $15,000. It also had an undrawn $500,000 revolving credit facility, whose maturity was extended to March 28, 2019 after quarter-end.
Material changes versus the prior comparable periods
- Quarterly sales declined 17%, largely because the prior-year quarter included a product launch with approximately $750,000 of nonrecurring engineering revenue and $600,000 of initial product shipments. Nine-month sales were nearly flat.
- Quarterly gross margin decreased one percentage point; nine-month gross margin improved two points. Management cited higher air-motor prices, less low-margin engineering revenue, and fixed-cost management as contributors to the nine-month improvement.
- Research and development expense rose to $560,000 for the quarter and $1.445 million for the nine months, primarily for development of a Pro-Dex-branded thoracic surgical driver using adaptive torque-limiting technology.
- Nine-month 2018 net income was substantially below 2017, which included a $2.202 million income-tax benefit and $243,000 of income from discontinued operations. The 2018 nine-month tax expense was $564,000.
- Customer concentration increased: the largest customer represented 54% of quarterly sales and 56% of nine-month sales, compared with 47% and 48%, respectively, in 2017.
Outlook, commentary, risks and unusual items
- Backlog was approximately $7.3 million at March 31, with $5.3 million scheduled for delivery in fiscal 2018. The largest customer subsequently placed a $5.7 million order for fiscal 2019 delivery and extended its supply contract for three years, at 150 units per month through calendar 2021. Orders and delivery timing may vary.
- Management said existing cash, receivables and anticipated operating cash flows should meet requirements for at least 12 months, while noting that customer cancellations or late payment could adversely affect cash flows. The ATM offering was suspended indefinitely in December 2017, though management said it could be reactivated if funding is needed.
- On April 11, 2018, Pro-Dex agreed to sell Fineline for $310,000: $30,000 in cash and a $280,000, five-year note bearing 4% interest. The sale was expected to close May 15, 2018. Fineline goodwill and customer-list assets were fully impaired; the trade name was impaired by $20,000.
- Pro-Dex invested $1.15 million in a participation in a third-party loan secured by a Manhattan hotel leasehold, with a stated 22% interest rate. The filing describes limited recourse and classifies the receivable as short-term based on expected repayment by September 30, 2018. A director is affiliated with the participating lender.
- A separate $800,000 Monogram convertible note bears 4% interest, is due April 2019, and was on nonaccrual because Pro-Dex anticipated conversion. Management described the Monogram relationship as a long-term strategic investment that may take years to produce meaningful revenue, if at all.
- The Tax Cuts and Jobs Act resulted in provisional tax accounting and a $45,000 discrete expense; management estimated an approximately 28% fiscal 2018 effective tax rate. The company had $458,000 of unrecognized tax benefits.
- Management cited risks including dependence on major customers, competition, rapid technological change, and uncertainty in developing products and realizing returns on strategic opportunities. It reported no material changes to previously disclosed risk factors and stated disclosure controls were effective.
- The filing reports ordinary-course legal proceedings but provides no clear quantified exposure. Management stated that liability could nevertheless be material and adverse.
Important facts for investors to verify
- Whether the Fineline sale closed as expected, and the collectability and timing of payments under its $280,000 promissory note.
- Performance and renewal or delivery developments with the largest customer, which accounts for over half of sales and receivables.
- Repayment of the $1.15 million loan participation by the expected date, given the filing’s limited-recourse structure and short-term classification.
- Monogram’s ability to meet the note terms or convert the $800,000 balance, and whether the strategic relationship produces contracted revenue.
- Whether higher R&D spending and product-development plans translate into sales, and the resulting effects on margins, cash use and future financing needs.
- Final tax-accounting effects of the Tax Act and any changes in the company’s $458,000 of unrecognized tax benefits.