Optical Cable Corporation — Q3 FY2018 Form 10-Q
Reporting period: Three and nine months ended July 31, 2018; interim financial statements are unaudited. The company manufactures fiber-optic and copper cabling and connectivity products for enterprise, specialty, harsh-environment and wireless-carrier markets.
Financial performance
| Metric | Q3 FY2018 | Q3 FY2017 | Nine months FY2018 | Nine months FY2017 |
|---|---|---|---|---|
| Net sales | $23.1 million | $16.4 million | $67.6 million | $46.9 million |
| Gross profit | $7.0 million | $5.3 million | $21.2 million | $15.8 million |
| Gross margin | 30.4% | 32.3% | 31.4% | 33.7% |
| Operating income (loss) | $660,000 | $(166,000) | $1.9 million | $(866,000) |
| Net income (loss) | $438,000 | $(295,000) | $1.4 million | $(1.2) million |
| Diluted earnings (loss) per share | $0.06 | $(0.05) | $0.19 | $(0.18) |
Sales rose 40.7% in Q3 and 44.1% for the nine months. Gross profit increased, but margins declined as product mix shifted toward lower-margin products. Higher fiber-optic cable sales helped absorb fixed manufacturing costs. SG&A rose 17.4% in Q3 and 17.0% year to date, while SG&A as a share of sales fell to 27.6% and 28.6%, respectively, reflecting operating leverage. Nine-month interest expense was $476,000, up from $393,000.
Cash flow, balance sheet and liquidity
- Cash: $1.04 million at July 31, 2018, up $146,000 from October 31, 2017.
- Nine-month cash flow: $1.05 million provided by operations, versus $930,000 used in the prior-year period; $545,000 used in investing and $355,000 used in financing. Operating cash flow benefited from higher payables and accrued compensation, partly offset by a $5.6 million increase in receivables and a $532,000 increase in inventory.
- Working capital and current ratio: $26.1 million and 4.5:1 at July 31, compared with $22.9 million and 6.5:1 at October 31, 2017. Current liabilities grew faster than current assets.
- Debt: Approximately $12.25 million of bank revolver and term-loan borrowings at July 31, including $5.8 million outstanding on the $7.0 million revolver and $6.48 million of real-estate term debt. The company reported $7.2 million of unused availability across its revolver and special-project facility; the latter had no borrowings outstanding.
- Assets and equity: Total assets were $45.8 million, including $14.6 million of trade receivables and $17.3 million of inventory. Shareholders’ equity was $26.3 million.
Management said cash on hand, operating cash flow and existing credit facilities should fund operations for at least the next 12 months. Credit facilities are secured by company assets and cross-collateralized with real property. The $6.0 million special-project revolver matures October 1, 2018 unless extended; the $7.0 million revolver matures September 30, 2019.
Material changes, outlook and risks
- Sales growth was driven by significant orders from a longstanding customer. For the first nine months, one customer represented 36.7% of sales; one customer accounted for 27.8% of trade receivables at July 31. In Q3, two customers represented 10.2% and 35.5% of sales.
- Specialty-market sales, particularly wireless carrier and military, increased year to date; enterprise-market sales decreased. Q3 U.S. sales rose 53.2% year over year, while sales outside the U.S. fell 11.1%. For the nine months, U.S. sales rose 53.7% and non-U.S. sales rose 4.5%.
- Backlog/forward load was $8.6 million at July 31, down from $11.8 million at April 30, but above the company’s typical $4 million–$5 million range. Management expected a positive Q4 year-over-year sales comparison, while expecting Q4 sales to be below Q3. No specific full-year financial guidance was provided.
- The company cited seasonality, project and customer order timing, product mix, competition, raw-material and transportation costs, supplier dependence, technology shifts, and economic and government spending conditions as factors that could affect results. It cautioned that fiscal 2018 sales may not follow normal seasonality because of large customer orders concentrated earlier in the year.
- The company maintains a full valuation allowance against net deferred tax assets. The Tax Act reduced both deferred tax assets and the related allowance by $1.3 million, with possible further adjustment in Q4; management reported no earnings impact from the remeasurement. Effective tax rates may remain unusually low and future realization of tax benefits is uncertain.
- Warranty accrual was $165,000 at July 31; nine-month warranty expense was $142,377. Management said ordinary-course claims, legal matters and regulatory reviews were not expected to materially harm financial position, results or liquidity. Disclosure controls were assessed as effective, with no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether the major customer’s orders and the elevated sales level continue, and how customer concentration affects receivables and cash collection.
- Whether Q4 sales meet management’s stated directional outlook and whether backlog replenishes after declining from April.
- Whether product mix improves sufficiently to stabilize gross margins after the year-over-year decline.
- Whether the special-project revolver was extended or repaid at its October 1, 2018 maturity, and compliance with amended lender covenants.
- Whether working-capital growth converts to operating cash flow, particularly given the receivables increase and customer concentration.
- The Q4 deferred-tax remeasurement and the eventual impact of adopting revenue-recognition and lease-accounting standards.