Pro-Dex, Inc. — Form 10-Q Summary
Reporting period: Fiscal second quarter and six months ended December 31, 2014. Unaudited results; dollar amounts below are in thousands unless stated otherwise. Pro-Dex develops and manufactures medical, dental, industrial and motion-control products, with engineering services also contributing to its diversification efforts.
Financial performance
| Metric | Three months ended Dec. 31, 2014 | Three months ended Dec. 31, 2013 | Six months ended Dec. 31, 2014 | Six months ended Dec. 31, 2013 |
|---|---|---|---|---|
| Net sales | $2,792 | $2,640 | $5,387 | $5,194 |
| Gross profit / margin | $696 / 25% | $549 / 21% | $1,524 / 28% | $1,494 / 29% |
| Operating loss | $(393) | $(376) | $(583) | $(355) |
| Net loss | $(192) | $(338) | $(362) | $(126) |
| Net loss per share | $(0.05) | $(0.10) | $(0.09) | $(0.04) |
| Operating cash flow | Not separately presented for the quarter | $263 | $(640) |
- Quarterly gross profit improved by $147, while operating expenses rose 18% to $1,089. For the six-month period, operating expenses rose 14% to $2,107.
- Quarterly sales growth was led by medical-device revenue. For six months, medical-device sales were $3,763, industrial $1,040, dental $421 and government/other $163.
- Quarterly gross margin increased four percentage points year over year, reflecting higher manufacturing volume and lower under-absorption costs, partly offset by increased warranty and inventory charges. Six-month gross margin declined one percentage point.
- Management attributed higher selling costs partly to launching its Engineering Services Division; higher R&D costs mainly reflected an in-house battery development project. G&A increased partly due to acquisition-related and other non-routine legal costs.
Financial position and liquidity
- At December 31, cash and cash equivalents were $1,973, versus $3,188 at June 30, 2014. Working capital was $6,273. Current assets were $8,967 and current liabilities $2,694.
- Six-month cash flows were $263 provided by operations, $1,377 used in investing and $101 used in financing, resulting in a $1,215 decrease in cash. Investing outflows included the $1,205 purchase of notes receivable, the $209 Huber acquisition and $209 of capital expenditures; investment-sale proceeds were $318.
- Total liabilities were $3,062. Capital-lease obligations totaled $12; the filing reports no credit facility in use. Management said cash and investments should fund operations for the next 12 months, while noting additional financing might be needed if anticipated operating cash flows are not achieved.
- Marketable equity securities were carried at $1,002, with $393 of unrealized gains in accumulated other comprehensive income. The company recorded a $59 realized gain on securities sold.
Material developments, outlook and risks
- Customer concentration: One customer generated 61% of quarterly sales and 59% of six-month sales, up from 49% and 46%, respectively. It also represented 51% of gross receivables at December 31. Management said the business is heavily dependent on this customer.
- Business development: Backlog was approximately $7,600 at December 2014. Management anticipated completing two ongoing engineering projects during fiscal 2015, potentially enabling recognition of previously deferred revenue and later product sales. No quantified earnings or revenue guidance was provided.
- Acquisitions: Pro-Dex acquired Huber Precision on December 1 for $209; its December revenue and earnings were immaterial. It completed the acquisition of substantially all Fineline Molds assets on February 1, 2015, after the reporting date. Management expects the acquisitions to diversify offerings and improve manufacturing utilization, but cautioned that integration and realizing expected value are uncertain.
- Distressed notes investment: In November, Pro-Dex purchased two defaulted, cross-collateralized notes for $1,205, secured by real property and business assets. The notes are on nonaccrual, no interest has been recognized or collected, and no impairment loss was recorded at December 31. The company was preparing forbearance agreements and evaluating sale/liquidation or restructuring options. Potential impairment and collateral-value loss are identified risks.
- Warranty and contract costs: The warranty reserve rose to $332 from $237 at June 30. Quarterly inventory and warranty charges increased by $168 year over year. Estimated losses on certain development contracts were $141 for the six months, compared with $231 in the prior-year period.
- Tax: The company maintained a $3.7 million valuation allowance against deferred tax assets because of cumulative taxable losses over the prior three years. Unrecognized tax benefits were $385; management did not anticipate a significant change within 12 months.
- Management and governance: CEO, President and CFO Harold Hurwitz resigned effective January 12, 2015. Richard Van Kirk became CEO and director, and Alisha Charlton became CFO. The company was evaluating any resulting effect on internal controls; it reported effective disclosure controls as of December 31 and no material control changes during the quarter.
- Other items: The company repurchased 41,538 shares for $94 under its repurchase plan through December 31. The Astromec discontinued operation contributed $21 of six-month income, compared with $194 in the prior-year period. Management cited competition, rapid technological change, product-development execution, acquisition integration and uncertain returns on strategic opportunities as risks.
Important facts for investors to verify
- Whether the largest customer’s demand and orders remain stable, and whether concentration declines as new customers and markets grow.
- The status, collateral valuation, recovery prospects and impairment assessment of the $1.2 million defaulted-note investment.
- Execution and economics of the two engineering projects, the $7.6 million backlog, and integration of Huber and Fineline.
- Cash generation and liquidity after the note investment, acquisitions, capital spending and share repurchases; the filing’s cash-sufficiency statement depends on anticipated operating cash flows.
- Warranty claims and contract-loss estimates, including whether elevated reserve needs persist.
- Management-transition costs and any subsequent changes to internal controls, including the terms of the former CEO’s separation agreement if completed.