Espey Mfg. & Electronics Corp. — FY2018 Form 10-K
Reporting period: Fiscal year ended June 30, 2018, compared with fiscal 2017. The filing also reports fourth-quarter results; it is an annual report, not a standalone quarterly filing.
Business context
Espey designs and manufactures power electronics and related equipment, primarily for military, rail, industrial and other severe-environment applications. Its products include power supplies, converters, transformers, radar systems and power distribution equipment. Manufacturing and testing are mainly performed at its Saratoga Springs, New York facility.
Financial performance and position
| Metric | FY2018 | FY2017 | Change |
|---|---|---|---|
| Net sales | $32.52 million | $22.52 million | +44% |
| Gross profit | $7.66 million | $4.71 million | +63% |
| Gross margin | 23.6% | 20.9% | +2.7 percentage points |
| Operating income | $3.85 million | $1.53 million | +152% |
| Net income | $3.08 million | $1.14 million | +171% |
| Diluted EPS | $1.31 | $0.49 | +$0.82 |
| Operating cash flow | $0.26 million | $6.42 million | Down $6.16 million |
- Sales growth was driven mainly by shipments under a significant military power-supply contract and increased shipments to existing customers; lower magnetic-component shipments partly offset the increase.
- SG&A rose 19.5% to $3.81 million, primarily from compensation, professional services, outside selling costs and freight. Gross-margin improvement reflected higher sales and product mix.
- Cash and cash equivalents were $4.30 million, versus $10.06 million; investment securities were $11.52 million, versus $9.43 million. Working capital was $29.74 million, compared with $29.85 million.
- Total assets were $36.72 million and stockholders’ equity was $33.48 million. Total liabilities were $3.24 million. The company reported no borrowings in the last two fiscal years and had an unused $3.0 million line of credit.
- Operating cash flow fell sharply, mainly because of increases in receivables, inventory and prepaid expenses and a reduction in accounts payable. Investing cash outflow was $4.02 million, including $1.92 million of capital expenditures; financing cash outflow was $2.00 million, primarily dividends and treasury-stock purchases.
- The company paid $1.00 per share in dividends during FY2018. After year-end, the board authorized a $0.25 regular and $1.00 special dividend, payable October 1, 2018.
Material changes and outlook
- Backlog increased to approximately $48.1 million at June 30, 2018, from $43.1 million a year earlier. Approximately $45.0 million was funded; $3.1 million was unfunded. Management expected at least $40.6 million of the year-end backlog to ship in FY2019.
- Management expected FY2019 revenue to exceed FY2018 revenue but gross margin to be lower, based principally on the orders then in backlog. The company received approximately $37.5 million in new orders during FY2018.
- Outstanding quoted opportunities exceeded $69.6 million as of August 31, 2018; these were potential orders, not committed revenue. Planned FY2019 capital expenditures were approximately $500,000.
- Two customers accounted for 60% of FY2018 sales, compared with 45% in FY2017. Three customers represented 23%, 16% and 10% of year-end backlog. One customer represented 61% of trade receivables at year-end.
- Export sales rose to approximately $3.11 million from $1.73 million. Full-time-equivalent headcount increased to 153 from 136, principally to support engineering and program management needs.
Risks, contingencies and unusual items
- Customer and program concentration creates exposure to loss or deferral of major orders. Government budget decisions, appropriations delays, contract cancellations and changes in program funding may affect demand and shipment timing.
- Competition and upfront engineering investment may pressure pricing and margins. Management reported technical and scheduling delays in major development programs, which it said had been resolved as they arose and were not then expected to affect FY2019 fulfillment projections.
- Electronic-component shortages can extend lead times to nearly a year or more. Steel and aluminum tariffs and trade-policy volatility could raise material costs or delay availability; the company reported no significant tariff-related impact at the time of filing.
- Long-term fixed-price contract estimates depend on costs and completion schedules; cost overruns could reduce profitability. Government audits may adjust contract costs or fees, and the government can terminate contracts under applicable rules.
- The Tax Cuts and Jobs Act reduced the federal corporate rate; the company reported a 24.4% effective tax rate versus 31.2% in FY2017 and a $4,553 FY2018 tax-provision increase from deferred-tax remeasurement.
- The company reported ordinary-course litigation that management did not expect to have a material adverse effect, and no outstanding standby-letter-of-credit contingent liabilities at June 30, 2018. Management concluded disclosure controls and internal control over financial reporting were effective; the auditor did not attest to internal control.
- Management stated that cash flows and, when needed, cash and investments should cover foreseeable funding requirements. However, FY2018 operating cash flow was substantially below net income, making working-capital conversion an important consideration.
Key facts for investors to verify
- Whether FY2019 shipments meet the stated minimum $40.6 million backlog estimate, and how much unfunded backlog is ultimately funded.
- Whether revenue growth is accompanied by sustainable margins, given management’s expectation of lower FY2019 gross margin.
- Cash conversion, receivable collections and inventory levels, particularly the large share of receivables attributable to one customer.
- Customer concentration, order deferrals, government funding decisions and progress diversifying the customer base.
- The impact of component shortages, tariffs, contract cost estimates and engineering-program execution on delivery schedules and profitability.
- The filing reports FY2018 fourth-quarter sales of $7.83 million and net income of $0.70 million, versus $5.46 million and $0.19 million, respectively, in FY2017’s fourth quarter; investors may wish to compare quarterly results with the full-year trend.