Research Frontiers Incorporated — 2020 Q2 Form 10-Q Summary
Business Context and Reporting Period
Research Frontiers develops and licenses suspended particle device technology that controls the flow of light in architectural, automotive, aerospace, marine, appliance, display and other applications. The company operates as a single business segment and primarily earns licensing and royalty fee income.
This unaudited filing covers the three and six months ended June 30, 2020, compared with the corresponding 2019 periods. The company had 31,575,786 common shares outstanding as of August 6, 2020.
Financial Highlights
| Metric | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 |
|---|---|---|---|---|
| Fee income | $176,113 | $301,035 | $532,286 | $719,692 |
| Operating loss | $(602,581) | $(952,301) | $(1,250,167) | $(1,514,772) |
| Net loss | $(398,981) | $(1,350,478) | $(1,023,575) | $(2,154,375) |
| Loss per share | $(0.01) | $(0.05) | $(0.03) | $(0.07) |
| Net cash used in operating activities | Not separately reported for the quarter | Not separately reported for the quarter | $(1,239,647) | $(1,313,676) |
Approximate operating margin was negative 342% for the second quarter and negative 235% for the first six months, based on fee income. Approximate net margin was negative 227% and negative 192%, respectively. These percentages reflect the company’s limited revenue base and should not be interpreted as conventional gross margins.
- Cash and cash equivalents were $5.84 million at June 30, 2020, down from $6.59 million at December 31, 2019.
- Working capital was approximately $6.27 million, and total shareholders’ equity was $6.32 million.
- Total liabilities were $1.09 million, consisting primarily of operating lease liabilities. The company states that it has no debt other than lease obligations and the remaining PPP-related liability.
- Operating lease liabilities totaled $894,510 on a present-value basis, including $163,204 due within one year.
- The company received $202,052 of PPP proceeds and recorded $194,140 as estimated forgiveness income. The remaining $7,912 was recorded as a deferred other income liability.
- There was no income tax expense because operating losses and related deferred tax benefits remain fully reserved.
Material Changes Versus the Prior Comparable Period
- Second-quarter fee income declined $124,922, or approximately 41%, to $176,113. Six-month fee income declined $187,406, or approximately 26%, to $532,286.
- Management attributed lower automotive and aircraft royalties primarily to temporary customer and manufacturing shutdowns related to COVID-19. Higher architectural and display income partially offset the decline.
- Second-quarter operating expenses fell $307,392, or approximately 33%, primarily because 2019 included approximately $291,000 of non-cash stock-based compensation, as well as lower payroll and professional fees. Higher bad-debt expense partially offset the reductions.
- Six-month research and development expense decreased $213,895, or approximately 39%, to $330,049, primarily due to lower stock-based compensation, payroll, materials and facility costs.
- Net loss improved by $951,497 in the second quarter and $1.13 million for the six months. The comparison benefited from lower operating costs, PPP forgiveness income and the absence of 2019 warrant market-adjustment expenses.
- In 2019, the company recorded non-cash warrant market-adjustment expenses of $404,435 for the quarter and $652,025 for the six months. The related warrant liability was reclassified to equity in 2019, so no comparable adjustment was recorded in 2020.
- Shares outstanding increased from 31,254,262 at December 31, 2019 to 31,575,786 at June 30, 2020, primarily from option and warrant exercises. The company received $284,207 from those exercises and did not sell equity securities during the 2020 periods.
Cash Flow, Outlook, Risks and Unusual Items
Operating activities used $1.24 million of cash during the first six months of 2020. Investing activities provided $2,774, while financing activities provided $486,259, including $202,052 of PPP proceeds and $284,207 from option and warrant exercises. Cash therefore decreased by $750,614 during the period.
Management estimates a quarterly cash-flow shortfall of approximately $450,000 to $500,000 over the next 12 months and believes existing working capital can support operations for at least 34 months, or until early 2023 based on current expectations. The company may reduce operating expenses and may seek additional equity financing, but there is no assurance that financing will be available on acceptable terms.
- COVID-19 disrupted overseas licensee manufacturing and reduced royalty-generating sales, particularly in automotive and aircraft markets. The duration and financial impact remain uncertain.
- The company increased its allowance for potentially uncollectible royalty receivables because of uncertainty regarding licensee collectability in affected regions.
- The company has incurred recurring losses since inception and has not generated sufficient licensee revenue to fund operations. Future financial success depends on commercialization by licensees and continuing royalty payments.
- Revenue is concentrated among licensees and is particularly exposed to automotive production volumes, OEM model adoption, pricing, exchange rates and broader industry trends. Five licensees accounted for approximately 22%, 17%, 12%, 12% and 12% of first-half 2020 fee income.
- Four license agreements had remaining initial terms ending between December 2020 and December 2024. The company expects annual renewals and disclosed $484,148 of revenue to be recognized from remaining performance obligations, subject to the applicable contract terms.
- The company expects additional royalty opportunities from automotive, aircraft, marine, architectural, train, museum and other applications, but the filing provides no quantified revenue guidance.
- The company reported that disclosure controls and procedures were effective as of June 30, 2020, with no material changes to internal control over financial reporting during the quarter.
Important Facts for Investors to Verify
- Whether COVID-19-related production disruptions and licensee financial stress continue to reduce royalty income or increase receivable reserves.
- Whether the projected $450,000–$500,000 quarterly cash shortfall and early-2023 liquidity estimate remain valid as royalty collections and expenses change.
- The final amount of PPP loan forgiveness and any resulting liability or income adjustment beyond the $194,140 estimated through June 30, 2020.
- Renewal status and economics of the four material license agreements, including the agreement whose initial term ends December 31, 2020.
- Progress in commercial adoption of SPD technology, particularly the number and production volumes of automotive and aircraft programs using the technology.
- Potential dilution from the 1,399,991 outstanding warrants and other options or warrants excluded from diluted loss-per-share calculations.