Business Context and Reporting Period
Optex Systems Holdings, Inc. filed this Form 10-K for the 52-week fiscal year ended October 2, 2011, compared primarily with the 53-week fiscal year ended October 3, 2010. The company manufactures optical sighting systems, periscopes, howitzer sighting systems, night-vision assemblies and related products for U.S. military vehicles and defense contractors. Operations are conducted through its wholly owned Delaware subsidiary from a leased Richardson, Texas facility.
Revenue is highly concentrated in defense customers and government programs. Approximately 95% of fiscal 2011 gross business revenue came from General Dynamics Land Systems divisions, TACOM, DLA and BAE Systems.
Key Financial Metrics
| Metric | FY 2011 | FY 2010 | Change |
|---|---|---|---|
| Revenue | $16.2 million | $22.9 million | Down 29.3% |
| Cost of sales | $13.7 million | $22.0 million | Down 37.7% |
| Gross margin | $2.5 million; 15.4% | $0.9 million; 3.9% | Improved |
| Operating income (loss) | $0.1 million | $(9.8) million | Improved |
| Net income (loss) | $0.6 million | $(9.6) million | Improved |
| Net income (loss) applicable to common shareholders | $0.2 million | $(10.0) million | Improved |
| Non-GAAP EBITDA | $0.14 million | $(0.70) million | Improved by approximately $0.84 million |
| Cash flow from operating activities | $1.1 million | $(0.9) million | Improved |
| Cash and cash equivalents | $1.5 million | $1.0 million | Increased $0.5 million |
| Credit facility balance | $0.5 million | $1.1 million | Reduced $0.6 million |
| Backlog | $11.5 million | $19.0 million | Down 39.5% |
The reported net income included a $0.6 million deferred tax benefit and $0.4 million of preferred stock dividends. Fiscal 2010 results included approximately $8.0 million of goodwill and intangible-asset impairment charges. No goodwill or unamortized intangible assets remained at the end of fiscal 2011.
Total assets were $9.5 million and total liabilities were $1.8 million at October 2, 2011. Stockholders’ equity was $7.7 million. Net inventory declined to $4.1 million from $5.9 million, while accounts receivable remained approximately $2.4 million.
Material Changes Versus the Prior Comparable Period
- Revenue declined $6.7 million, primarily because of reduced U.S. government and prime-contractor spending, delayed or suspended program funding, and completion of several contracts.
- Howitzer revenue declined to $4.2 million from $6.1 million, periscope revenue declined to $10.7 million from $11.8 million, sighting-system revenue declined to $0.2 million from $0.9 million, and other revenue declined to $1.1 million from $4.1 million.
- Gross margin improved substantially because of a more favorable product mix, improved periscope production efficiency, and completion of loss-making Howitzer programs. Contract-loss reserves declined from $1.3 million to zero.
- General and administrative expense declined to $2.4 million from $10.7 million, primarily because fiscal 2010 included approximately $8.0 million of impairment charges and higher amortization.
- Operating cash flow turned positive, aided by lower inventory, collections of progress billings and improved earnings. Financing cash flow was negative $0.6 million because of repayments under the revolving credit facility.
- The company completed a DCAA progress-billing audit and accounting-system review without issue. A $1.3 million progress payment was received in August 2011 and an additional $0.3 million payment was received in early October.
Guidance, Outlook, Risks and Unusual Items
Management expected fiscal 2012 revenue to be approximately flat to slightly higher than fiscal 2011 based on the backlog then outstanding. Management also expected gross-margin trends to continue because no future loss contracts were identified in the backlog. These expectations are subject to defense-budget and program-order uncertainty.
- Backlog was $11.5 million at October 2, 2011, but increased to $21.5 million by November 27, 2011 after approximately $11.0 million of new orders in the first 60 days of fiscal 2012.
- Subsequent awards included a $7.8 million, five-year M36 contract with an international defense contractor, a $1.2 million DLA Gunner’s Head Assembly award, and approximately $2.0 million of additional periscope-related orders.
- The $7.8 million contract was expected to contribute approximately $0.6 million in fiscal 2012, with full production expected to begin in fiscal 2013 at approximately $1.5 million annually thereafter.
- Management had submitted an equitable-adjustment request related to design and manufacturability problems on a Howitzer program. No resolution had been received as of the fiscal year-end, and recovery was not assured. Any recovery could improve future working capital.
- The revolving credit facility had a stated borrowing capacity of up to $2.0 million but was subject to eligibility limits, covenants and a March 15, 2012 maturity date. The company stated that working capital was sufficient for at least the next 12 months, while also warning that additional capital might be required.
- Approximately 95% of contracts contain termination-for-convenience clauses. No pending terminations were identified, and the company stated that termination clauses generally allow recovery of incurred costs and a reasonable fee.
- Approximately 7% of material requirements were single-sourced across five suppliers. Certain specialized components could take more than six months to replace and qualify, creating potential delivery and margin risk under fixed-price contracts.
- Customer concentration, reduced U.S. military spending, fixed-price contract exposure, supply-chain disruptions, contract-performance risk and dependence on key personnel are significant operating risks.
- The Series A preferred stock had a stated liquidation preference of approximately $7.0 million and was convertible into 41.1 million common shares at the then-current conversion terms. A pending Form S-1 could reduce the conversion price to $0.01 and increase potential conversion to approximately 704.6 million common shares, creating substantial dilution.
- On December 9, 2011, after the fiscal year-end, the board increased the stock option plan from 6 million to 50 million shares and authorized grants totaling 46.07 million options at a $0.01 exercise price.
- The common stock traded sporadically on the OTC Bulletin Board. The December 8, 2011 reported sale price was $0.007 per share, and the filing stated that no liquid trading market existed.
Most Important Facts for Investors to Verify
- Whether the post-year-end backlog increase to $21.5 million converts into timely shipments, revenue and cash collections.
- The status, maturity, borrowing-base availability and covenant compliance of the Avid Bank revolving credit facility.
- The outcome and potential recovery from the Howitzer equitable-adjustment request.
- The sustainability of the improved 15.4% gross margin after Howitzer programs wind down and product mix changes.
- The extent of revenue concentration in General Dynamics, TACOM, DLA and BAE Systems and the impact of further U.S. defense-budget reductions.
- The potential dilution from Series A preferred-stock conversion, warrants and the expanded stock-option plan.
- The terms and production timing of the $7.8 million international defense contract and other post-year-end awards.
- The filing states that its independent auditors expressed an unqualified opinion on the financial statements; management also reported effective disclosure controls and no material weakness in internal control over financial reporting.