Koss Corporation Form 10-Q Summary
Business Context and Reporting Period
Koss Corporation designs, manufactures and sells stereo headphones, wireless Bluetooth headphones and speakers, computer and telecommunications headsets, and active noise-canceling headphones. The company operates as one business segment. This unaudited Form 10-Q covers the three and nine months ended March 31, 2021, compared with the corresponding 2020 periods. The filing was signed May 13, 2021.
Key Financial Metrics
| Metric | Three Months Ended March 31, 2021 | Three Months Ended March 31, 2020 | Nine Months Ended March 31, 2021 | Nine Months Ended March 31, 2020 |
|---|---|---|---|---|
| Net sales | $3.99 million | $4.79 million | $14.13 million | $14.36 million |
| Gross profit | $1.42 million | $1.59 million | $4.67 million | $4.30 million |
| Gross margin | 35.6% | 33.2% | 33.1% | 29.9% |
| SG&A expense | $2.27 million | $1.69 million | $5.39 million | $4.94 million |
| Operating income (loss) | $(854,000) | $(98,000) | $(722,000) | $(638,000) |
| Other income | $379,000 | — | $886,000 | — |
| Net income (loss) | $(474,000) | $(97,000) | $162,000 | $(624,000) |
| Diluted earnings (loss) per share | $(0.06) | $(0.01) | $0.02 | $(0.08) |
For the nine months, operating cash flow was $(435,000), compared with $340,000 provided in the prior-year period. Investing cash flow was $(651,000), primarily for equipment, leasehold improvements, tooling, an operating system, and life-insurance premiums. Financing cash flow was $3.12 million from stock-option exercises. Cash increased to $6.03 million at March 31, 2021, from $4.00 million at June 30, 2020.
At March 31, 2021, total assets were $26.17 million, including $6.86 million of net inventory and $6.03 million of cash. Total liabilities were $7.28 million and stockholders’ equity was $18.90 million. The company had no borrowings under its $5.0 million secured revolving credit facility and was in compliance with its covenants. The facility was amended in January 2021 to extend its maturity to October 31, 2022 and change the interest rate to Wall Street Journal Prime less 1.50%.
Material Changes Versus the Prior Comparable Period
- Third-quarter net sales declined 16.7%; nine-month sales declined 1.7%. Domestic sales fell substantially, principally because of reduced mass-retail product placement, shipment timing, a lapsed back-to-school promotion, and pandemic-related weakness in education and certain retail channels.
- Export sales increased to $1.29 million from $562,000 in the quarter and to $3.83 million from $2.49 million for the nine months, driven primarily by European distributors, new products, and demand for remote-work and remote-study headphones.
- Direct-to-consumer online sales increased approximately 2.5 times for the nine-month period, partially offsetting declines in other online-retail channels.
- Nine-month gross margin improved to 33.1% from 29.9%, reflecting a more favorable product and market mix and the absence of a prior-year low-margin back-to-school promotion.
- SG&A increased 34.6% in the quarter and 9.2% for the nine months. The principal quarterly driver was approximately $544,000 of employer taxes related to stock-option exercises, together with higher deferred-compensation expense.
- Cash from operations declined because the company invested $1.32 million in additional inventory to support communication-headphone demand and mitigate supply-chain disruptions.
- Employees exercised 1,111,992 stock options for approximately $3.12 million of proceeds, increasing shares outstanding to 8,516,823 from 7,404,831 at June 30, 2020.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management expects total fiscal-year expenditures for tooling, leasehold improvements, and capital expenditures of approximately $700,000 and believes available cash, operating cash flow, and the credit facility are adequate for at least the next 12 months.
- The company expects COVID-19-related negative sales effects to continue until markets reopen and consumer spending normalizes. European lockdowns and retail disruption continued to affect sales.
- Supply-chain risks include container availability, routing delays, component shortages, higher transportation costs, and delays to new product introductions. Mitigation measures include higher inventory, supplier assistance, alternative sources, and air freight.
- The company recorded $506,700 of other income from forgiveness of its Paycheck Protection Program loan and $378,805 received from a director in settlement of a short sale under Rule 144.
- Stock-option exercises generated approximately $29.3 million of tax-deductible compensation expense, expected to create an approximately $7.4 million tax-loss carryforward and deferred tax asset. The valuation allowance fully offsets that deferred tax asset, and future realization is uncertain.
- Koss filed patent-infringement complaints against Apple, Bose, JLab Audio, Plantronics/Poly, and Skullcandy concerning wireless-audio technology. Outcomes are uncertain, and any monetary recovery may be partly payable to third parties. One E-Way has also alleged that certain Koss products may infringe its patents; no lawsuit had been filed and served as of March 31, 2021.
- The filing highlights extreme stock-price and trading-volume volatility, including short-squeeze risk, potential insider sales, and possible securities litigation unrelated to operating performance.
- The company completed the final shipment of a non-Koss-branded product to a U.S. mass retailer; management expects the loss of that low-margin revenue to improve margins.
Investor Verification Checklist
- Verify whether domestic mass-retail declines and shipment-timing issues persist and whether export and direct-to-consumer growth can offset them.
- Assess the sustainability of the improved gross margin after the low-margin product and prior-year promotion effects roll off.
- Monitor operating cash flow, inventory levels, inventory obsolescence reserves, and supply-chain and freight costs.
- Confirm the effect of stock-option exercises on share count, dilution, employer taxes, and future tax attributes.
- Review the status and potential economics of the patent litigation and any amounts payable to third parties.
- Track COVID-19-related retail disruptions, European market conditions, and the availability and cost of the company’s secured credit facility.