Nortech Systems Incorporated — Q1 2020 Form 10-Q Summary
Business context and reporting period
Nortech Systems designs and manufactures complex electromechanical systems, assemblies and components for medical, industrial, and aerospace and defense customers. The company operates facilities in the United States, Mexico, and China. This unaudited quarterly report covers the three months ended March 31, 2020; comparative figures are for the three months ended March 31, 2019.
Key financial metrics
| Metric | Q1 2020 | Q1 2019 |
|---|---|---|
| Net sales | $27.440 million | $28.165 million |
| Gross profit / margin | $3.005 million / 11.0% | $2.961 million / 10.5% |
| Operating income (loss) | $391 thousand | $(104) thousand |
| Net income (loss) | $137 thousand | $(363) thousand |
| Basic and diluted EPS | $0.05 | $(0.14) |
| Cash flow from operating activities | $466 thousand | $(1.438) million |
| Capital expenditures and intangible purchases | $71 thousand | $396 thousand |
At March 31, 2020, cash was $730 thousand and restricted cash was $244 thousand. Working capital was $21.7 million, compared with $21.1 million at December 31, 2019. Total assets were $63.1 million and total liabilities were $43.0 million.
Borrowings included $10.255 million under the line of credit, $3.513 million of long-term debt including current maturities, and $7.225 million of lease liabilities. The $16.0 million credit facility expires June 15, 2022; unused borrowing-base availability was $4.115 million. The company reported compliance with its debt covenants at quarter-end.
Material changes versus the prior comparable period
- Sales declined 2.6%, or $725 thousand, primarily because industrial sales fell 18.6%, partially offset by medical growth of 3.5% and aerospace and defense growth of 10.0%.
- Gross profit increased $44 thousand, and gross margin improved 50 basis points, primarily due to product and customer mix.
- Selling expenses declined 18.4% to $621 thousand, and general and administrative expenses declined 13.5% to $1.993 million, reflecting lower headcount and consulting costs.
- The company moved from an operating loss of $104 thousand to operating income of $391 thousand and from a net loss of $363 thousand to net income of $137 thousand.
- Operating cash flow improved by $1.904 million to $466 thousand, helped by increased accounts payable, although accounts receivable and inventory used cash.
- 90-day shipment backlog was $27.494 million, up 0.8% from December 31, 2019 but down 12.5% from March 31, 2019. Total backlog was $53.0 million at both comparable March 31 dates.
Guidance, outlook, risks, contingencies, and unusual items
The filing does not provide quantitative full-year revenue or earnings guidance. Management stated that existing financing arrangements and expected operating cash flows were believed sufficient for future working capital needs.
COVID-19 and pandemic-related disruptions were identified as risks to the company, customers, suppliers, facilities, labor availability, and global operations. Other disclosed risks include customer concentration, competition, raw-material and energy costs, currency fluctuations, regulatory and FDA compliance, cybersecurity, facility disruptions, and the potential loss of a major customer.
One customer accounted for approximately 26% of Q1 sales and 42% of accounts receivable at March 31, 2020. Approximately $703 thousand of the company’s $974 thousand of cash and restricted cash was held at banks in China. Export sales represented approximately 12% of Q1 sales.
After quarter-end, on April 15, 2020, the company entered into a $6.1 million unsecured Paycheck Protection Program note, with funds received April 22, 2020. The note bears interest at 1%, has a two-year term, and may be eligible for forgiveness. The company disclosed that SBA review or an adverse finding could require repayment of up to the full amount, reducing liquidity and potentially resulting in fines or penalties.
No goodwill or long-lived asset impairment was recorded. The company reported no material changes to internal controls, no defaults on senior securities, and no material changes to previously disclosed risk factors other than the PPP-related risk.
Important facts for investors to verify
- Whether the $6.1 million PPP note qualifies for forgiveness and the amount ultimately repayable.
- Current borrowing-base availability, covenant compliance, and liquidity after considering debt, lease obligations, and potential PPP repayment.
- The impact of COVID-19 on order volumes, backlog conversion, production capacity, supply chains, and customer demand.
- Customer concentration and collectability of the customer balance representing approximately 42% of accounts receivable.
- Whether the industrial-market decline and year-over-year backlog reduction persist.
- The accuracy of contract-cost estimates and the timing of revenue recognized over time, which represented approximately 88% of Q1 sales.