DUOS TECHNOLOGIES GROUP, INC. quarterly report, Q2 FY2021

Duos Technologies Group, Inc. — Q2 2021 Form 10-Q Summary

Business Context and Reporting Period

Duos Technologies Group, Inc. develops AI-enabled railcar inspection and logistics systems, including the Railcar Inspection Portal, Automated Logistics Information System, centraco, praesidium, truevue360 and related consulting, maintenance and software services. The filing covers the unaudited quarter and six months ended June 30, 2021. The company reported 3,584,603 common shares outstanding as of August 11, 2021.

Financial Performance and Position

Metric	Three Months Ended June 30	Six Months Ended June 30
Revenue	$648,668, down 67% from $1,982,142	$2,803,422, down 6% from $2,973,087
Gross margin	$(1,537,252), versus $187,463	$(2,112,960), versus $(468,025)
Gross margin percentage	Approximately negative 237%	Approximately negative 75%
Operating loss	$(2,948,468), versus $(1,427,056)	$(4,770,768), versus $(3,514,971)
Net loss	$(2,952,880), versus $(1,465,889)	$(3,358,903), versus $(3,612,938)
Basic and diluted loss per share	$(0.83), versus $(0.42)	$(0.95), versus $(1.16)

• Second-quarter technology systems revenue was $100,401, down 94%, while services and consulting revenue increased 43% to $548,267. For the first six months, technology systems revenue declined 25% to $1,590,699 and services and consulting revenue increased 41% to $1,212,723.
• Six-month cost of revenues increased 43% to $4,916,382, including technology systems costs of $3,109,855, services and consulting costs of $709,703 and overhead of $1,096,824.
• Six-month operating expenses declined 13% to $2,657,808. Sales and marketing increased 153% to $663,052, while research and development declined 75% to $140,164 and administration declined 17% to $1,854,592.
• Cash was $4,822,945 at June 30, 2021, compared with $3,969,100 at December 31, 2020. Working capital was $2,715,833 and accumulated deficit was $42,847,053.
• Net cash used in operating activities was $3,218,903 for the first six months, compared with $3,152,753 in the prior-year period. Investing cash use was $191,927, and financing provided $4,264,675.
• Financing cash inflow primarily reflected $4.5 million of Series C convertible preferred stock issued in the first quarter. The $1,410,270 PPP loan was forgiven in February 2021.
• Total liabilities were $3,295,787 at June 30, 2021, including $154,631 of current financing notes, $149,277 of equipment financing and $91,954 of current operating lease obligations. The filing describes the company as essentially debt free after PPP forgiveness, although these obligations remain.

Material Changes Versus the Prior Comparable Period

• Revenue performance deteriorated sharply in the second quarter because anticipated notices to proceed and new technology-system installations were delayed. Services revenue provided only a partial offset.
• Gross margin shifted from positive $187,463 in Q2 2020 to negative $1,537,252 in Q2 2021. Management attributed the change to low system revenue, quality-related remediation, cost overruns on new technologies, undercarriage technology deployment costs and expanded operating capacity ahead of expected demand.
• Operating loss more than doubled in the quarter, while the six-month operating loss increased 36%. The six-month net loss nevertheless improved 7% because of $1,421,577 of other income from PPP loan forgiveness, partially offset by substantially lower operating performance.
• The company issued Series C preferred stock with $4,500,000 of stated value. Each share is convertible at $5.50 per common share, subject to ownership limitations and shareholder approval requirements. The July 15, 2021 shareholder meeting approved the relevant conversion matter.
• During Q2, warrants representing 205,574 shares were exercised cashlessly, resulting in 50,588 common shares issued. Outstanding warrants, options and preferred-stock conversion rights remain potentially dilutive.
• The company ended its related-party relationship with Luceon on May 14, 2021 following the resignation of its former Chief Technology Officer.

Guidance, Outlook, Risks and Unusual Items

• Management expects stronger business activity in the second half of 2021 and in 2022, including delayed installations, maintenance contracts and a more than $2 million AI-related development project. Management expects profitability in the latter half of 2021, but acknowledges that supply-chain delays could defer improvement into 2022.
• The company expects engineering upgrades to RIP and ALIS to address anticipated FRA and AAR standards and is pursuing a potential large, multiyear passenger-rail contract that could involve at least two RIP systems and a long-term services agreement in late 2021 or early 2022. These are expectations, not secured results based on the filing text.
• COVID-19-related customer caution, delayed contract starts, semiconductor shortages and extended lead times for cameras, servers and other components could delay installations and revenue recognition. The company specifically identifies dependence on global suppliers and reports that some semiconductor lead times may reach 30 weeks.
• Revenue and receivables are concentrated. One customer represented 69% of six-month revenue; two customers represented 65% and 20% of accounts receivable at June 30, 2021. Approximately 75% of six-month revenue came from three customers outside the United States.
• Management states that the prior substantial doubt regarding going concern has been alleviated and that existing capital and revenues should fund operations for at least the next 12 months. Elsewhere, management states that the company currently has sufficient cash for the next nine months and will reassess requirements within 90 days. As of August 11, 2021, cash was approximately $3.07 million, with about $135,000 of monthly lease and other mandatory payments excluding payroll and ordinary expenses.
• The company had no material pending litigation and reported effective disclosure controls and procedures. A new 127-month facility lease was entered into on July 27, 2021, with relocation planned for November 1, 2021.

Important Facts for Investors to Verify

• Whether delayed notices to proceed, component shortages and customer contracts translate into the expected second-half 2021 revenue and gross-margin recovery.
• Whether the company can reduce project cost overruns and quality-remediation costs enough to eliminate negative gross margins.
• The timing, terms and conversion impact of the Series C preferred stock, including potential dilution from 818,182 convertible common shares.
• The company’s actual cash burn, monthly fixed obligations and remaining liquidity, particularly given the differing nine-month and twelve-month liquidity statements.
• The sustainability of revenue given the 69% six-month revenue concentration and the concentration of receivables among two customers.
• The status and commercial timing of the potential passenger-rail contract, delayed AI project and other anticipated backlog, none of which is guaranteed by the filing.