Koss Corporation Form 10-Q Summary
Business Context and Reporting Period
Koss Corporation designs and markets high-fidelity, wireless Bluetooth, computer, telecommunications, and active noise-canceling headphones and related products. It operates as one business segment. This unaudited Form 10-Q covers the quarter and six months ended December 31, 2019, within fiscal 2020, with comparisons to the same periods of fiscal 2019.
Financial Performance and Position
| Metric | Three Months Ended Dec. 31, 2019 | Three Months Ended Dec. 31, 2018 | Six Months Ended Dec. 31, 2019 | Six Months Ended Dec. 31, 2018 |
|---|---|---|---|---|
| Net sales | $4.16 million | $5.41 million | $9.57 million | $11.20 million |
| Gross profit | $1.36 million | $1.66 million | $2.71 million | $3.49 million |
| Gross margin | 32.8% | 30.7% | 28.3% | 31.2% |
| SG&A expense | $1.59 million | $1.56 million | $3.25 million | $3.35 million |
| Net income (loss) | $(215,713) | $103,149 | $(526,462) | $144,719 |
| Basic and diluted EPS | $(0.03) | $0.01 | $(0.07) | $0.02 |
At December 31, 2019, cash and cash equivalents were $2.23 million, accounts receivable were $2.47 million, and net inventory was $6.70 million. Total assets were $22.18 million and stockholders’ equity was $14.83 million. Current assets of $11.69 million exceeded current liabilities of $2.36 million.
Six-month operating cash flow was $352,988, compared with $1.35 million in the prior-year period. Investing cash outflow was $352,186, including equipment, leasehold improvements, tooling, and life-insurance premiums. Net cash increased by only $802 to $2.23 million. The company had no outstanding borrowings under its $5.0 million secured revolving credit facility, which expires May 14, 2021, and was in compliance with its covenants.
Material Changes Versus the Prior Comparable Period
- Quarterly sales declined 23.1%; six-month sales declined 14.5%.
- Export sales fell 51.7% in the quarter and 52.6% year to date, reflecting the completion of an export OEM project in December 2018 and lower European distributor sales.
- Domestic sales declined 2.8% in the quarter but increased 8.3% for the six-month period, partly due to a large back-to-school promotion.
- Quarterly gross margin improved to 32.8% because of a more favorable product, customer, and channel mix. Six-month gross margin decreased to 28.3%, primarily because the back-to-school promotion was sold at very low margin.
- SG&A increased 1.8% in the quarter but decreased 2.9% for the six-month period. Changes included higher legal and professional fees, lower deferred compensation expense, and increased income from the cash surrender value of life insurance.
- The company moved from prior-year profitability to losses, driven principally by lower sales and reduced year-to-date gross margin.
- During the first quarter of fiscal 2020, Koss changed its stock-based compensation method to straight-line recognition over the vesting period, with forfeitures recognized when they occur. Prior periods were adjusted retrospectively; the change increased six-month 2018 SG&A by $56,813 and reduced reported six-month 2018 net income by the same amount.
Outlook, Commentary, Risks, and Unusual Items
- Management expects fiscal-year 2020 tooling, leasehold improvement, and other capital expenditures of approximately $500,000 to $700,000.
- Management believes operating cash flow, cash reserves, and available credit will provide adequate liquidity for operating needs, debt service, and planned capital expenditures over the next twelve months and the foreseeable future.
- No formal revenue or earnings guidance was provided. Management attributed export weakness partly to product-introduction timing and customer inventory-reduction efforts.
- The company is pursuing an intellectual-property enforcement program. It expects continuing legal costs and may pursue licensing arrangements or litigation. Potential royalties, intellectual-property sales, or other proceeds could be material, but their timing and amount are uncertain.
- No tax benefit was recorded on the pretax loss because of uncertainty regarding realization of deferred tax assets; the valuation allowance substantially offset the tax effects.
- The Milwaukee facility is leased from Koss Holdings, LLC, which is wholly owned by the former chairman. The lease runs through June 30, 2023 at fixed annual rent of $380,000, with an option to renew.
- The company is subject to ordinary-course claims and suits; management does not currently expect them to materially affect the financial statements, but outcomes remain uncertain.
- Key operating risks include consumer acceptance of new products, competition, pricing, customer orders, third-party production, foreign sourcing and sales, trade and import issues, borrowing costs, taxes, and litigation.
Important Facts for Investors to Verify
- Whether export sales and European distributor demand recover after the discontinued OEM program and new-product transition.
- Whether domestic promotional sales can be sustained without further pressure on gross margins.
- The pace of cash generation relative to planned $500,000–$700,000 capital expenditures.
- Availability and covenant compliance under the $5.0 million secured credit facility, including its LIBOR-plus-1.50% pricing.
- The realization of deferred tax assets and the continued absence of tax benefits on losses.
- Costs, litigation exposure, and potential proceeds associated with the intellectual-property enforcement program.
- The effect of the related-party facility lease and other deferred compensation obligations on future cash requirements.