CPS Technologies Corporation — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. Comparisons are with the quarter and six months ended July 1, 2017; balance-sheet comparisons are with December 30, 2017. CPS supplies advanced material solutions, including metal-matrix composites and electronic housings and packages, to electronics, power generation, automotive, and other markets. Financial amounts below are in U.S. dollars; “$000” means thousands.
Financial performance
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Revenue | $5,229 | $3,724 | $9,384 | $6,569 |
| Gross margin dollars | $606 | $414 | $750 | $334 |
| Gross margin percentage | 12% | 11% | 8% | 5% |
| SG&A | $931 | $933 | $1,839 | $1,907 |
| Operating loss | $(326) | $(519) | $(1,090) | $(1,573) |
| Net loss | $(257) | $(333) | $(832) | $(938) |
| Basic and diluted loss per share | $(0.02) | $(0.03) | $(0.06) | $(0.07) |
Q2 revenue rose 40% and first-half revenue rose 43%, primarily on higher baseplate sales; Q2 also benefited from increased hermetic package and armor sales. Management reported no significant price changes. Higher sales volume drove improved gross margin, partly offset in the first half by higher manufacturing costs. Q2 SG&A was roughly flat; first-half SG&A declined 4%. Comparisons benefited from prior-year proxy-related legal and other costs ($80,000 in Q2 and $200,000 in the first half). Excluding those costs, management said SG&A would have increased 12% for Q2 and 8% for the first half, largely due to sales commissions.
Net interest expense was $12,000 in both the quarter and first half, compared with interest income of $2,622 and $5,250, respectively, in the prior-year periods. Management attributed the lower effective tax rate to the Tax Cuts and Jobs Act: 24% for Q2 versus 35%, and 25% for the first half versus 40%.
Cash flow, balance sheet, and liquidity
- For the first half, operating cash outflow was $1.57 million, investing cash outflow was $252,000, and financing cash inflow was $900,000 from line-of-credit borrowings. Cash fell $922,000 to $418,000.
- At June 30, cash was $418,000 and line-of-credit borrowings were $900,000, resulting in net cash of negative $482,000, as described by management. Current assets were $7.72 million and current liabilities $3.90 million; total assets were $12.49 million and stockholders’ equity $8.59 million.
- Accounts receivable increased to $3.44 million from $2.94 million, while DSO improved to 59 days from 70 days at year-end. Net inventory rose to $3.76 million from $2.11 million, primarily because CPS took ownership of plating-related inventory for a major customer and demand increased. Consigned inventory at customer sites increased to $1.999 million from $742,000.
- The company renewed its $1.5 million secured revolving credit facility; it matures at the end of November 2018 and bears interest at prime plus 1%. Borrowings were $900,000, with $600,000 of additional borrowing capacity under the borrowing base at quarter-end. CPS reported compliance with all covenants, but its reported current ratio (2.0x), liabilities-to-tangible-net-worth ratio (0.5x), and net loss ($257,000) were at the stated covenant thresholds.
- Management said cash and borrowings, if needed, were expected to fund requirements for the foreseeable future and the remainder of 2018. This expectation is qualified by the company’s ability to generate revenue, manage discretionary spending, and retain access to financing.
Outlook, risks, and notable items
- The filing provides no specific revenue or earnings guidance. Management emphasized that results from interim periods are not necessarily indicative of full-year results.
- Customer concentration is a significant risk: CPS said losing any one of a limited number of customers could require additional external financing and materially affect its objectives.
- A European customer asserted a claim related to nickel plating on baseplates. The customer estimated the claim at $1.0 million as of April 11, 2018 and reserved the right to seek additional damages. Some affected baseplates were reworked; a small portion of approximately 15,000 baseplates assembled into modules during the affected period were identified as affected. CPS said the potential financial impact could not be quantified, recorded no damages, notified its insurer, and noted possible legal proceedings while expecting an amicable resolution.
- The company signed a Norton facilities lease through February 2021, with annual rent of $152,000, and reported total facility operating lease obligations of $461,600. The Attleboro lease runs through February 2019; management believed it could be extended on similar terms.
- CPS adopted ASC 606 in fiscal 2018 with no material financial-statement impact or opening retained-earnings adjustment. The filing said the upcoming lease standard was expected to increase reported assets and liabilities upon adoption; the amounts could be material depending on lease terms and renewals.
Important facts for investors to verify
- Whether sales growth and improved gross margins continue, particularly given baseplate demand and the concentration of customers.
- The outcome, insurance coverage, and potential financial exposure associated with the nickel-plating claim; no loss was accrued and the amount payable, if any, was not estimable in the filing.
- Cash burn, inventory and receivables conversion, and reliance on the revolving credit facility, including its November 2018 maturity and covenant headroom.
- Whether CPS can sustain covenant compliance and fund operations if revenue targets are missed or a major customer is lost.
- The future realization of deferred tax assets: management recorded no valuation allowance based on its expectation of sufficient future taxable income.