Business context and reporting period
Socket Mobile, Inc. filed this unaudited Form 10-Q for the three months ended March 31, 2016. The company develops data-capture products for mobile business applications, principally Bluetooth barcode scanners, with sales primarily through distributors. It operates as one business segment.
Financial performance and liquidity
| Metric | Q1 2016 | Q1 2015 / comparison |
|---|---|---|
| Revenue | $5.044 million | $4.006 million; up 26% |
| Gross profit / margin | $2.506 million / 49.7% | $1.808 million / 45.1% |
| Operating income | $600,000 | $11,000 |
| Net income (loss) | $548,000; diluted EPS $0.08 | $(72,000); diluted EPS $(0.01) |
| Operating cash flow | $91,000 provided | $16,000 used |
| Cash and cash equivalents | $1.028 million at March 31 | $938,000 at December 31, 2015 |
| Current assets / current liabilities | $5.052 million / $4.953 million | Working capital of approximately $99,000; current ratio approximately 1.02 |
Investing activities used $57,000, primarily for ERP software and tooling. Financing activities provided $56,000, including $350,000 drawn under the bank line and proceeds from option and warrant exercises, partly offset by repayment of $500,000 of related-party short-term notes.
At quarter-end, bank-line borrowings were $350,000, with approximately $1.221 million of additional stated borrowing capacity. Related-party convertible notes totaled approximately $753,000 in principal, plus approximately $300,000 accrued interest; they are secured by company assets, subordinated to the bank line, and convertible at $1.25 per share. Capital lease and deferred-rent obligations are also reported; the filing separately lists approximately $37,000 of future minimum capital lease payments.
Material changes versus the prior comparable period
- Revenue growth was led by cordless barcode scanners and accessories, up 16% to $4.006 million. U.S. revenue increased to $4.083 million from $2.834 million, while Asia and rest-of-world revenue declined to $231,000 from $489,000.
- Mobile handheld computer and legacy product revenue rose to $868,000 from $437,000, but included roughly 40% of a prior-year $1.6 million last-time-buy order. Excluding that order, handheld computer sales were $228,000, down 48% year over year.
- Gross margin improved 4.6 percentage points, which management attributed to supplier component-cost reductions at higher scanner volumes and lower inventory-related overhead and waste.
- R&D expense increased 14% to $657,000, reflecting staffing and product-development activity. Sales and marketing expense increased 11% to $687,000. G&A expense declined 7% to $563,000, partly because Q1 2015 included a one-time executive termination charge.
- Interest expense declined to $44,000 from $75,000, reflecting lower debt balances. The company repaid the $500,000 short-term related-party notes in January 2016, while drawing $350,000 on its bank line by quarter-end.
- Despite net income, operating cash flow was modest: working-capital changes used $595,000, including a reduction in customer deposits, higher inventory, and distributor-channel stocking changes.
Outlook, commentary, risks and contingencies
- Management expected a moderate increase in R&D expense over the next several quarters; sales and marketing expense was expected to be flat in Q2 and rise moderately in Q3; G&A was expected to decline moderately in Q2 and remain flat for the balance of 2016. These are expense expectations, not revenue or earnings guidance.
- The SoMo handheld computer line is being phased out because of component obsolescence; the company expected supplies to be exhausted during 2016. Management said this product family was not a significant part of future revenue expectations.
- Planned product activity included the DuraScan durable scanner line, a DuraCase accessory expected in the second half of 2016, and NFC reader/writer products under development. The filing provides no quantified sales outlook for these initiatives.
- Liquidity and funding risks include a low cash balance relative to current liabilities, bank-line advances being at the lender’s discretion, a monthly minimum quick-assets-to-bank-obligations ratio of 1.75 to 1, and the bank’s ability to terminate the facility. The $2.374 million of non-cancelable inventory purchase commitments and approximately $2.866 million of future operating lease payments are additional obligations.
- Customer concentration is significant: BlueStar represented 25%, Ingram Micro 24%, ScanSource 13%, and Spinal Modulation 13% of Q1 revenue. Three distributors together accounted for 62% of revenue. Three customers represented 85% of accounts receivable at March 31.
- Supplier concentration is also a risk: one supplier represented 26% of accounts payable, and that supplier plus two others accounted for 79% of Q1 inventory purchases. The company warned that limited component sources could disrupt supply.
- Other disclosed risks include maintaining profitability and access to capital, quarterly order volatility, competition and product obsolescence, distributor dependence, inventory forecasting, and foreign-exchange exposure. A 10% adverse currency movement was estimated to increase Q1 net loss by approximately $28,700 if unprotected; hedging and other currency effects resulted in a net gain of $2,500 for the quarter.
- The company reported no material legal proceedings and no off-balance-sheet arrangements. Customer indemnification claims had not been made. Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether scanner growth and the improved gross margin continue, particularly as the SoMo product line winds down and the one-time last-time-buy shipments roll off.
- Whether operating cash generation improves after the Q1 working-capital use, and whether the company maintains the bank facility’s 1.75-to-1 liquidity covenant and access to discretionary advances.
- The timing, cost, and customer adoption of DuraScan, DuraCase, and NFC products, and whether those launches support management’s planned development spending.
- Exposure to major distributors, customers, and concentrated component suppliers, including collection of receivables and fulfillment of the $2.374 million purchase commitments.
- Potential dilution and cash obligations from convertible related-party notes, accrued interest, stock options, and warrants; the filing reports 5,814,098 common shares outstanding as of April 28, 2016.