ITEM 2.
|
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|
This Management’s Discussion and Analysis provides material historical and prospective
disclosures intended to enable investors and other users to assess NTIC’s financial condition and results of operations.
Statements that are not historical are forward-looking and involve risks and uncertainties discussed under the heading “
Part
I. Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Forward-Looking Statements
”
in this report and under “
Part 1. Item 1A. Risk Factors
” in our annual report on Form 10-K for the fiscal year
ended August 31, 2016. The following discussion of the results of the operations and financial condition of NTIC should be read
in conjunction with NTIC’s consolidated financial statements and the related notes thereto included under the heading “
Part
I. Item 1. Financial Statements
.”
Business Overview
NTIC develops and markets proprietary environmentally beneficial products and services
in over 60 countries either directly or via a network of subsidiaries, joint ventures, independent distributors and agents. NTIC’s
primary business is corrosion prevention marketed mainly under the ZERUST® brand. NTIC has been selling its proprietary ZERUST®
products and services to the automotive, electronics, electrical, mechanical, military and retail consumer markets for over 40
years, and in recent years, has targeted and expanded into the oil and gas industry. NTIC also markets and sells a portfolio of
biobased and certified compostable (fully biodegradable) polymer resin compounds and finished products under the Natur-Tec®
brand. These products are intended to reduce NTIC’s customers’ carbon footprint and provide environmentally sound waste
disposal options.
NTIC’s ZERUST
®
rust and corrosion inhibiting products include plastic
and paper packaging, liquids and coatings, rust removers and cleaners, diffusers and engineered solutions designed specifically
for the oil and gas industry. NTIC also offers worldwide on-site technical consulting for rust and corrosion prevention issues.
NTIC’s technical service consultants work directly with the end users of NTIC’s ZERUST
®
rust and corrosion
inhibiting products to analyze their specific needs and develop systems to meet their technical requirements. In North America,
NTIC sells its ZERUST
®
corrosion prevention solutions through a network of independent distributors and agents supported
by a direct sales force. Internationally, NTIC sells its ZERUST
®
corrosion prevention solutions through its wholly-owned
subsidiary in China, NTIC (Shanghai) Co., Ltd. (NTIC China), its majority-owned joint venture holding company for NTIC’s
joint venture investments in the Association of Southeast Asian Nations (ASEAN) region, its majority-owned subsidiary in Brazil,
Zerust Prevenção de Corrosão S.A. (Zerust Brazil), and its wholly-owned subsidiary in Mexico, ZERUST-EXCOR
MEXICO, S. de R.L. de C.V (Zerust Mexico), and joint venture arrangements in North America, Europe and Asia. NTIC also sells products
directly to its joint venture partners through its wholly-owned subsidiary in Germany, NTIC Europe GmbH (NTI Europe).
One of NTIC’s strategic initiatives is to expand into and penetrate other markets
for its ZERUST
®
corrosion prevention solutions. Consequently, for the past several years, NTIC has focused significant
sales and marketing efforts on the oil and gas industry, as the infrastructure that supports that industry is typically constructed
using metals that are highly susceptible to corrosion. NTIC believes that its ZERUST
®
corrosion prevention solutions
will minimize maintenance downtime on critical oil and gas industry infrastructure, extend the life of such infrastructure and
reduce the risk of environmental pollution due to corrosion leaks.
NTIC markets and sells its ZERUST
®
rust and corrosion prevention solutions
to customers in the oil and gas industry across several countries either directly, through its subsidiaries or through its joint
venture partners and other strategic partners. The sale of ZERUST
®
corrosion prevention solutions to customers in
the oil and gas industry typically involves a long sales cycle, often including a one- to multi-year trial period with each customer
and a slow integration process thereafter.
Natur-Tec
®
biobased and compostable plastics are manufactured using NTIC’s
patented and/or proprietary technologies and are intended to replace conventional petroleum-based plastics. The Natur-Tec
®
biopolymer resin compound portfolio includes formulations that have been optimized for a variety of applications including blown-film
extrusion, extrusion coating, injection molding, and engineered plastics. These resin compounds are certified to be fully biodegradable
in a composting environment and are currently being used to produce finished products including can liners, shopping and grocery
bags, lawn and leaf bags, pet waste collection bags, cutlery and coated paper products. In North America, NTIC markets its Natur-Tec
®
resin compounds and finished products primarily through a network of regional and national distributors as well as independent
agents. NTIC continues to see significant opportunities for finished bioplastic products and, therefore, continues to strengthen
and expand its North American distribution network for finished Natur-Tec
®
bioplastic products. Internationally,
NTIC sells its Natur-Tec
®
resin compounds and finished products both directly and through its majority-owned subsidiary
in India, Natur-Tec India Private Limited (Natur-Tec India), and through certain joint ventures.
Termination of Chinese Joint Venture
On January 2, 2015, NTIC announced that, effective as of December 31, 2014, it is selling
its ZERUST
®
products and services in China through a wholly-owned subsidiary, NTIC (Shanghai) Co., Ltd., and has
terminated its joint venture agreements with Tianjin-Zerust Anticorrosion Co., Ltd. (Tianjin Zerust). NTIC and NTI Asean LLC have
filed a lawsuit in China against Mr. Tao Meng, the former joint venture entity’s other shareholder, and his spouse, seeking,
among other things, an orderly liquidation of Tianjin Zerust.
NTIC indirectly has a 30% ownership interest in Tianjin Zerust through its 60% owned
holding company subsidiary, NTI Asean LLC.
NTIC expects that its operating results may continue to be volatile as a result of its
ongoing Chinese operations.
NTIC’s Subsidiaries and Joint Venture Network
NTIC has ownership interests in six subsidiaries in North America, Europe and Asia. The
following table sets forth a list of NTIC’s operating subsidiaries as of February 28, 2017, the country in which the subsidiary
is organized and NTIC’s ownership percentage in each subsidiary:
Joint Venture Name
|
|
Country
|
|
NTIC
Percent (%) Ownership
|
NTIC (Shanghai) Co., Ltd
|
|
China
|
|
|
100
|
%
|
NTI Asean LLC
|
|
United States
|
|
|
60
|
%
|
Zerust Prevenção de Corrosão S.A.
|
|
Brazil
|
|
|
85
|
%
|
ZERUST-EXCOR MEXICO, S. de R.L. de C.V
|
|
Mexico
|
|
|
100
|
%
|
Natur-Tec India Private Limited
|
|
India
|
|
|
90
|
%
|
NTIC Europe GmbH
|
|
Germany
|
|
|
100
|
%
|
The results of these subsidiaries are fully consolidated in NTIC’s consolidated
financial statements.
NTIC participates in 20 active joint venture arrangements in North America, Europe and
Asia. Each of these joint ventures generally manufactures and markets products in the geographic territory to which it is assigned.
While most of NTIC’s joint ventures exclusively sell rust and corrosion inhibiting products, some of the joint ventures also
sell NTIC’s Natur-Tec® resin compounds. NTIC has historically funded its investments in joint ventures with cash generated
from operations.
NTIC’s receipt of funds from its joint ventures is dependent upon fees for services
that NTIC provides to its joint ventures, based primarily on the net sales of the individual joint ventures, and NTIC’s receipt
of dividend distributions from the joint ventures. The fees for services provided to joint ventures are determined based on either
a flat fee or a percentage of sales depending on local laws and tax regulations. With respect to NTIC’s joint venture in
Germany (EXCOR), NTIC recognizes an agreed upon quarterly fee for such services. NTIC recognizes equity income from its joint ventures
based on the overall profitability of its joint ventures. Such profitability is subject to variability from quarter to quarter
which, in turn, subjects NTIC’s earnings to variability from quarter to quarter. The profits of NTIC’s joint ventures
are shared by the respective joint venture owners in accordance with their respective ownership percentages. NTIC typically directly
or indirectly owns 50% or less of each of its joint venture entities and thus does not control the decisions of these entities
regarding whether to pay dividends and, if paid, how much they should be in a given year. The payment of a dividend by an entity
is determined by a joint vote of the owners and is not at the sole discretion of NTIC.
NTIC accounts for the investments and financial results of its joint ventures in its
financial statements utilizing the equity method of accounting.
NTIC considers EXCOR to be individually significant to NTIC’s consolidated assets
and income; and therefore, provides certain additional information regarding EXCOR in the notes to NTIC’s consolidated financial
statements and in this section of this report.
Financial Overview
NTIC’s management, including its chief executive officer who is NTIC’s chief
operating decision maker, reports and manages NTIC’s operations in two reportable business segments based on products sold,
customer base and distribution center: ZERUST® products and services and Natur-Tec® products.
NTIC’s consolidated net sales increased 13.5% and 25.2% during the three and six
months ended February 28, 2017, respectively, compared to the three and six months ended February 29, 2016. These increases were
primarily a result of an increase in sales of ZERUST® rust and corrosion inhibiting packaging products, sales to joint ventures
and sales of Natur-Tec® products.
During the three and six months ended February 28, 2017, 82.7% and 83.0% of NTIC’s
consolidated net sales, respectively, were derived from sales of ZERUST® products and services, which increased 13.2% and 23.9%
to $7,228,027 and $15,312,705 during the three and six months ended February 28, 2017, respectively, compared to $6,385,337 and
$12,363,019 during the three and six months ended February 29, 2016, respectively. These increases were due to higher sales from
existing customers for new and existing products as a result of increased demand. NTIC has expanded its sales efforts of ZERUST®
products and services by strategically targeting customers with specific corrosion issues in new market areas, including the oil
and gas industry and other industrial sectors that offer sizable growth opportunities. NTIC’s consolidated net sales for
the six months ended February 28, 2017 included $952,240 of sales made to customers in the oil and gas industry compared to $717,570
for the six months ended February 29, 2016. Overall demand for ZERUST® products and services depends heavily on the overall
health of the markets in which NTIC sells its products, including the automotive, oil and gas, agriculture, and mining markets.
In addition, we believe demand for ZERUST® products and services in the oil and gas industry may be dependent upon oil prices,
with low oil prices causing existing or potential customers to delay purchases and installations.
During the three and six months ended February 28, 2017, 17.3% and 17.0%, of NTIC’s
consolidated net sales were derived from sales of Natur-Tec® products compared to 17.1% and 16.1% during the three and six
months ended February 29, 2016, respectively. Net sales of Natur-Tec® products increased 14.8% and 32.4% during the three and
six months ended February 28, 2017 compared to the three and six months ended February 29, 2016, respectively. These increases
were primarily due to an increase in finished product sales in North America and finished product sales at NTIC’s majority-owned
subsidiary in India, Natur-Tec India Private Limited (Natur-Tec India).
Cost of goods sold as a percentage of net sales decreased to 67.1% during the three months
ended February 28, 2017 compared to 68.4% during the three months ended February 29, 2016 and decreased to 67.7% during the six
months ended February 28, 2017 compared to 68.9% during the prior fiscal year period. These decreases were primarily due to increased
sales of ZERUST® products and services in the oil and gas industry which carry higher margins than NTIC’s ZERUST®
industrial products and services.
NTIC’s equity in income of joint ventures increased 45.2% and 37.2% to $1,383,139
and $2,657,143, respectively, during the three and six months ended February 28, 2017 compared to $952,667 and $1,936,420 during
the three and six months ended February 29, 2016, respectively. These increases were primarily due to increases in profitability
at the joint ventures. Total net sales of NTIC’s joint ventures increased 14.1% and 12.3% to $22,962,599 and $47,163,046
during the three and six months ended February 28, 2017, respectively, compared to $20,129,215 and $42,000,424 for the three and
six months ended February 29, 2016, respectively. These increases were due primarily to higher sales from existing customers for
new and existing products as a result of increased demand.
NTIC’s total operating expenses increased 9.7%, or $885,131, to $9,984,433 during
the six months ended February 28, 2017 compared to the six months ended February 29, 2016. This increase was primarily due to an
increase in legal expenses in North America related to the litigation against Cortec Corporation of $250,000 and an increase in
operating expenses at NTIC China of $118,000. Such expenses consisted primarily of selling and personnel expense associated with
the increase in sales in China. Additionally, there was a management bonus accrual of $185,000 made during the six months ended
February 28, 2017 compared to no bonus accrual for the six months ended February 29, 2016.
NTIC spent $1,384,559 and $2,117,622 of expense during the six months ended February
28, 2017 and February 29, 2016, respectively, in connection with its research and development activities. NTIC anticipates that
it will spend between $2,200,000 and $2,800,000 in fiscal 2017 on research and development activities. This anticipated significant
decrease from fiscal 2016 is due to the transition of efforts from research and development to selling, general and administrative
areas, specifically as they relate to Natur-Tec
®
and the ZERUST
®
oil and gas business since most
of the expenses related to these business units are no longer in the research and development phase of product development.
Net income attributable to NTIC increased $494,755 to $386,966, or $0.09, per diluted
common share, for the three months ended February 28, 2017 compared to net loss of $(107,789), or $(0.02) per diluted common share,
for the three months ended February 29, 2016. Net income attributable to NTIC increased 300.1%, to $684,605, or $0.15 per diluted
common share, for the six months ended February 28, 2017 compared to net loss attributable to NTIC of $(342,140), or $(0.08) per
diluted common share, for the six months ended February 29, 2016. These increases were primarily the result of the increase in
gross profit, partially offset by the increase in operating expenses.
NTIC anticipates that its quarterly net income or loss will continue to remain subject
to significant volatility primarily due to the financial performance of its subsidiaries and joint ventures and sales of its ZERUST®
products and services into the oil and gas industry and Natur-Tec® bioplastics products, which sales fluctuate more on a quarterly
basis than the traditional ZERUST® business. NTIC also anticipates that its operating results during the next few quarters
will be particularly volatile as a result of the changes in its Chinese operations.
NTIC’s working capital was $15,364,837 at February 28, 2017, including $3,048,948
in cash and cash equivalents and $748,254 in available for sale securities, compared to $16,948,069 at August 31, 2016, including
$3,395,274 in cash and cash equivalents and $2,243,864 in available for sale securities.
Results of Operations
The following tables set forth NTIC’s results of operations for the three and six
months ended February 28, 2017 and February 29, 2016.
|
|
Three Months Ended
|
|
|
February 28,
2017
|
|
% of
Net Sales
|
|
February 29,
2016
|
|
% of
Net Sales
|
|
$
Change
|
|
%
Change
|
Net sales, excluding joint ventures
|
|
$
|
8,309,586
|
|
|
|
95.0
|
%
|
|
$
|
7,027,614
|
|
|
|
91.2
|
%
|
|
$
|
1,281,972
|
|
|
|
16.6
|
%
|
Net sales, to joint ventures
|
|
|
433,317
|
|
|
|
5.0
|
%
|
|
|
677,320
|
|
|
|
8.8
|
%
|
|
|
(244,003
|
)
|
|
|
(36.0
|
%)
|
Cost of goods sold
|
|
|
5,870,186
|
|
|
|
67.1
|
%
|
|
|
5,268,224
|
|
|
|
68.4
|
%
|
|
|
601,962
|
|
|
|
11.4
|
%
|
Equity in income of joint ventures
|
|
|
1,383,139
|
|
|
|
15.8
|
%
|
|
|
952,667
|
|
|
|
12.4
|
%
|
|
|
430,472
|
|
|
|
45.2
|
%
|
Fees for services provided to joint ventures
|
|
|
1,184,028
|
|
|
|
13.5
|
%
|
|
|
971,042
|
|
|
|
12.6
|
%
|
|
|
212,986
|
|
|
|
21.9
|
%
|
Selling expenses
|
|
|
2,246,482
|
|
|
|
25.7
|
%
|
|
|
1,475,433
|
|
|
|
19.1
|
%
|
|
|
771,049
|
|
|
|
52.3
|
%
|
General and administrative expenses
|
|
|
1,842,528
|
|
|
|
21.1
|
%
|
|
|
1,806,557
|
|
|
|
23.5
|
%
|
|
|
35,971
|
|
|
|
2.0
|
%
|
Research and development expenses
|
|
|
742,037
|
|
|
|
8.5
|
%
|
|
|
1,113,525
|
|
|
|
14.5
|
%
|
|
|
(371,488
|
)
|
|
|
(33.4
|
%)
|
|
|
Six Months Ended
|
|
|
February 28,
2017
|
|
% of
Net Sales
|
|
February 29,
2016
|
|
% of
Net Sales
|
|
$
Change
|
|
%
Change
|
Net sales, excluding joint ventures
|
|
$
|
17,191,551
|
|
|
|
93.2
|
%
|
|
$
|
13,529,024
|
|
|
|
91.9
|
%
|
|
$
|
3,662,527
|
|
|
|
27.1
|
%
|
Net sales, to joint ventures
|
|
|
1,253,375
|
|
|
|
6.8
|
%
|
|
|
1,200,347
|
|
|
|
8.1
|
%
|
|
|
53,028
|
|
|
|
4.4
|
%
|
Cost of goods sold
|
|
|
12,482,952
|
|
|
|
67.7
|
%
|
|
|
10,143,647
|
|
|
|
68.9
|
%
|
|
|
2,339,305
|
|
|
|
23.1
|
%
|
Equity in income of joint ventures
|
|
|
2,657,143
|
|
|
|
14.4
|
%
|
|
|
1,936,420
|
|
|
|
13.1
|
%
|
|
|
720,723
|
|
|
|
37.2
|
%
|
Fees for services provided to joint ventures
|
|
|
2,499,619
|
|
|
|
13.6
|
%
|
|
|
2,456,471
|
|
|
|
16.7
|
%
|
|
|
43,148
|
|
|
|
1.8
|
%
|
Selling expenses
|
|
|
4,285,566
|
|
|
|
23.2
|
%
|
|
|
3,000,516
|
|
|
|
20.4
|
%
|
|
|
1,285,050
|
|
|
|
42.8
|
%
|
General and administrative expenses
|
|
|
4,314,308
|
|
|
|
23.4
|
%
|
|
|
3,981,164
|
|
|
|
22.9
|
%
|
|
|
333,144
|
|
|
|
8.4
|
%
|
Research and development expenses
|
|
|
1,384,559
|
|
|
|
7.5
|
%
|
|
|
2,117,622
|
|
|
|
14.4
|
%
|
|
|
(733,063
|
)
|
|
|
(34.6
|
%)
|
Net Sales
. NTIC’s consolidated net sales increased 13.5% and 25.2% to $8,742,903
and $18,444,926, during the three and six months ended February 28, 2017, respectively, compared to the three and six months ended
February 29, 2016. These increases were primarily a result of an increase in sales of ZERUST® rust and corrosion inhibiting
packaging products, sales to joint ventures and sales of Natur-Tec® products. NTIC’s consolidated net sales to unaffiliated
customers excluding NTIC’s joint ventures increased 16.6% and 27.1% to $8,309,586 and $17,191,551 during the three and six
months ended February 28, 2017, respectively, compared to the same respective prior fiscal year periods. These increases were primarily
a result of increased demand from the addition of new customers at NTI China and an increase in sale of our Natur-Tec® products.
Net sales to joint ventures decreased 36.0% and increased 4.4% to $433,317 and $1,253,375 during the three and six months ended
February 28, 2017, respectively, compared to the same respective prior fiscal year periods. These changes were primarily the result
of the timing of shipments during the quarter and at quarter end.
The following table sets forth NTIC’s net sales for the three and six months ended
February 28, 2017 and February 29, 2016 by segment:
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
February 28,
2017
|
|
February 29,
2016
|
|
February 28,
2017
|
|
February 29,
2016
|
Total ZERUST® sales
|
|
$
|
7,228,027
|
|
|
$
|
6,385,337
|
|
|
$
|
15,312,705
|
|
|
$
|
12,363,019
|
|
Total Natur-Tec® sales
|
|
|
1,514,876
|
|
|
|
1,319,597
|
|
|
|
3,132,221
|
|
|
|
2,366,352
|
|
Total net sales
|
|
$
|
8,742,903
|
|
|
$
|
7,704,934
|
|
|
$
|
18,444,926
|
|
|
$
|
14,729,371
|
|
During the three and six months ended February 28, 2017, 82.7% and 83.0% of NTIC’s
consolidated net sales, respectively, were derived from sales of ZERUST
®
products and services, which increased
13.2% and 23.9% to $7,228,027 and $15,312,705 during the three and six months ended February 28, 2017, respectively, compared to
$6,385,337 and $12,363,019 during the three and six months ended February 29, 2016, respectively. These increases were due to increased
demand from existing customers and the addition of new customers. NTIC has strategically focused its sales efforts for ZERUST
®
products and services on customers with sizeable corrosion problems in industry sectors that offer sizable growth opportunities,
including the oil and gas sector. Overall demand for ZERUST
®
products and services depends heavily on the overall
health of the market segments to which NTIC sells its products, including the automotive, oil and gas, agriculture, and mining
markets in particular. In addition, we believe demand for ZERUST® products and services in the oil and gas industry may be
dependent upon oil prices, with low oil prices causing existing or potential customers to delay purchases and installations.
The following table sets forth NTIC’s net sales of ZERUST
®
products
for the three and six months ended February 28, 2017 and February 29, 2016:
|
|
Three Months Ended
|
|
|
February 28,
2017
|
|
February 29,
2016
|
|
$
Change
|
|
%
Change
|
ZERUST® industrial net sales
|
|
$
|
6,588,801
|
|
|
$
|
5,330,686
|
|
|
$
|
1,258,115
|
|
|
|
23.6
|
%
|
ZERUST® joint venture net sales
|
|
|
433,317
|
|
|
|
677,320
|
|
|
|
(244,003
|
)
|
|
|
(36.0
|
%)
|
ZERUST® oil & gas net sales
|
|
|
205,909
|
|
|
|
377,331
|
|
|
|
(171,422
|
)
|
|
|
(45.4
|
%)
|
Total ZERUST® net sales
|
|
$
|
7,228,027
|
|
|
$
|
6,385,337
|
|
|
$
|
842,690
|
|
|
|
13.2
|
%
|
|
|
Six Months Ended
|
|
|
February 28,
2017
|
|
February 29,
2016
|
|
$
Change
|
|
%
Change
|
ZERUST® industrial net sales
|
|
$
|
13,107,090
|
|
|
$
|
10,445,102
|
|
|
$
|
2,661,988
|
|
|
|
25.5
|
%
|
ZERUST® joint venture net sales
|
|
|
1,253,375
|
|
|
|
1,200,347
|
|
|
|
53,028
|
|
|
|
4.4
|
%
|
ZERUST® oil & gas net sales
|
|
|
952,240
|
|
|
|
717,570
|
|
|
|
234,670
|
|
|
|
32.7
|
%
|
Total ZERUST® net sales
|
|
$
|
15,312,705
|
|
|
$
|
12,363,019
|
|
|
$
|
2,949,686
|
|
|
|
23.9
|
%
|
NTIC’s net sales to the oil and gas industry sector decreased during the three
months ended February 28, 2017 compared to the prior fiscal year period primarily as a result of volatility in that sector and
the timing of projects. NTIC’s net sales to the oil and gas industry sector increased during the six months ended February
28, 2017 compared to the prior fiscal year period primarily as a result of increased sales to India as a result of increased demand.
NTIC anticipates that its sales of ZERUST® products and services into the oil and gas industry will continue to remain subject
to significant volatility from quarter to quarter as sales are recognized, specifically due to the volatility of oil prices.
During the three and six months ended February 28, 2017, 17.3% and 17.0% of NTIC’s
consolidated net sales, respectively, were derived from sales of Natur-Tec® products, which increased 14.8% and 32.4% to $1,514,876
and $3,132,221 during the three and six months ended February 28, 2017, respectively, compared to the three and six months ended
February 29, 2016. Such increases were due to the addition of new customers in North America and India as well as increased sales
by existing distributors. Demand for Natur-Tec® products around the world depends primarily on market acceptance and the reach
of NTIC’s distribution network. Because of the typical size of individual orders and overall size of NTIC’s net sales
derived from sales of Natur-Tec® products, the timing of one or more orders can materially affect NTIC’s quarterly sales
of Natur-Tec® products and the comparisons to prior fiscal year quarters.
Cost of Goods Sold
. Cost of goods sold increased 11.4% and 23.1% for the three
and six months ended February 28, 2017, respectively, compared to the three and six months ended February 29, 2016. These increases
were primarily as a result of the corresponding increased sales levels. Cost of goods sold as a percentage of net sales decreased
to 67.1% during the three months ended February 28, 2017 compared to 68.4% the three months ended February 29, 2016 and decreased
to 67.7% during the six months ended February 28, 2017 compared to 68.9% during the six months ended February 29, 2016. These decreases
were primarily as a result of increased net sales and cost reductions realized on the raw materials associated with NTIC’s
ZERUST® industrial products.
Equity in Income of Joint Ventures.
NTIC’s equity in income of joint ventures
increased 45.2% and 37.2% to $1,383,139 and $2,657,143 during the three and six months ended February 28, 2017, respectively, compared
to equity in income of joint ventures of $952,667 and $1,936,420 during the three and six months ended February 29, 2016, respectively.
These increases were primarily a result of improved sales and profitability at the joint ventures. Of the total equity in income
of joint ventures, NTIC had equity in income of joint ventures of $2,006,441 attributable to EXCOR during the six months ended
February 28, 2017 compared to $1,480,975 attributable to EXCOR during the six months ended February 29, 2016. NTIC had equity in
income of joint ventures of $170,549 attributable to India during the six months ended February 28, 2017 compared to $157,474 attributable
to India during the six months ended February 29, 2016. NTIC had equity in income of joint ventures of $126,361 attributable to
Finland during the six months ended February 28, 2017 compared to $104,070 attributable to Finland during the six months ended
February 29, 2016. NTIC had equity in income of all other joint ventures of $353,792 during the six months ended February 28, 2017
compared to $193,900 during the six months ended February 29, 2016.
Fees for Services Provided to Joint Ventures.
NTIC recognized fee income for services
provided to joint ventures of $1,184,028 and $2,499,619 during the three and six months ended February 28, 2017, respectively,
compared to $971,042 and $2,456,471 during the three and six months ended February 29, 2016, respectively, representing increases
of 21.9% and 1.8%, respectively. Fee income for services provided to joint ventures is traditionally a function of sales made by
NTIC’s joint ventures. Total net sales of NTIC’s joint ventures increased to $22,962,599 and $47,163,046 during the
three and six months ended February 28, 2017, respectively, compared to $20,129,215 and $42,000,424 for the three and six months
ended February 29, 2016, respectively.
Net sales of NTIC’s joint ventures are not included in NTIC’s net sales in
NTIC’s consolidated financial statements or in any description of NTIC’s net sales. Of the total fee income for services
provided to joint ventures, fees of $402,509 were attributable to EXCOR during the six months ended February 28, 2017 compared
to $422,654 attributable to EXCOR during the six months ended February 29, 2016. Fees of $138,731 were attributable to India during
the six months ended February 28, 2017 compared to $152,527 attributable to India during the six months ended February 29, 2016.
Fees of $143,282 were attributable to Finland during the six months ended February 28, 2017 compared to $121,829 attributable to
Finland during the six months ended February 29, 2016.
Selling Expenses
. NTIC’s selling expenses increased 52.3% and 42.8% for
the three and six months ended February 28, 2017, respectively, compared to the same respective periods in fiscal 2016 due to the
transition of focus from research and development to selling, specifically as they relate to Natur-Tec
®
and the
ZERUST
®
oil and gas business, since most of the expenses related to these business units are no longer in the research
and development phase of product development. Selling expenses as a percentage of net sales increased to 25.7% and 23.2% for the
three and six months ended February 28, 2017, respectively, from 19.1% and 20.4% during the three and six months ended February
29, 2016, respectively. The increases in selling expenses as a percentage of net sales were due primarily to the transition of
expenses as noted above.
General and Administrative Expenses
. NTIC’s general and administrative expenses
increased 2.0% and 8.4% for the three and six months ended February 28, 2017, respectively, compared to the same respective periods
in fiscal 2016 due primarily to the transition of expenses that were previously focused on research and development efforts, but
now relate to general and administrative focus, specifically as they relate to Natur-Tec
®
and the ZERUST
®
oil and gas business, since most of the expenses related to these business units are no longer in the research and development
phase of product development. NTIC’s general and administrative expenses also increased due to an increase in legal expenses
in North America related to the litigation against Cortec Corporation. NTIC incurred expense of $477,000 during the six months
ended February 28, 2017, compared to $221,000 during the six months ended February 29, 2016. As a percentage of net sales, general
and administrative expenses decreased to 21.1% for the three months ended February 28, 2017, from 23.5% and to 23.4% for the six
months ended February 28, 2017, from 27.0%. The decrease in general and administrative expenses as a percentage of net sales for
the three and six-month comparison was due primarily to the increase in net sales, partially offset by the increase in general
and administrative expenses, as previously described.
Research and Development Expenses
. NTIC’s research and development expenses
decreased 33.4% and 34.6% for the three and six months ended February 28, 2017 compared to the same respective periods in fiscal
2016. These decreases were due primarily to the transition of resources that were previously devoted towards research and development
to selling and general and administrative efforts, as previously described.
Interest Income
. NTIC’s interest income decreased to $4,516 during the three
months ended February 28, 2017 and $8,079 during the six months ended February 28, 2017, compared to $14,384 and $28,557 during
the three and six months ended February 29, 2016, respectively, due primarily to lower average cash balances.
Interest Expense
. NTIC’s interest expense decreased to $3,470 during the
three months ended February 28, 2017 compared to $10,796 during the three months ended February 29, 2016 and decreased to $8,093
during the six months ended February 28, 2017 compared to $15,522 during the six months ended February 29, 2016.
Income (Loss) Before Income Tax Expense
. NTIC incurred income before income tax
expense of $609,883 and $1,134,289 for the three and six months ended February 28, 2017, respectively, compared to loss before
income tax expense of $30,547 and $106,691 for the three and six months ended February 29, 2016, respectively.
Income Tax Expense
. Income tax expense was $124,909 and $242,622 during the three
and six months ended February 28, 2017, respectively, compared income tax expense of $40,466 and $36,964 during the three and six
months ended February 29, 2016, respectively. Income tax expense was calculated based on management’s estimate of NTIC’s
annual effective income tax rate.
NTIC considers the earnings of certain foreign joint ventures to be indefinitely invested
outside the United States based on estimates that NTIC’s future domestic cash generation will be sufficient to meet future
domestic cash needs. Thus, U.S. income and foreign withholding taxes have not been recognized on the cumulative undistributed earnings
of $18,984,898 and $17,779,912 at February 28, 2017 and August 31, 2016, respectively. To the extent undistributed earnings of
NTIC’s joint ventures are distributed in the future, they are not expected to result in any material additional income tax
liability after the application of foreign tax credits
Other Comprehensive Income (Loss) - Foreign Currency Translations Adjustment.
The
significant changes in the foreign currency translations adjustment was due to the strengthening of the U.S. dollar compared to
the Euro and other foreign currencies during the three and six months ended February 28, 2017 compared to the same respective periods
in fiscal 2016.
Liquidity and Capital Resources
Sources of Cash and Working Capital
. As of February 28, 2017, NTIC’s working
capital was $15,364,837, including $3,048,948 in cash and cash equivalents and $748,254 in available for sale securities, compared
to $16,948,069 at August 31, 2016, including $3,395,274 in cash and cash equivalents and $2,243,864 in available for sale securities.
As of February 28, 2017, NTIC had a revolving line of credit with PNC Bank of $3,000,000,
with no amounts outstanding. The line of credit is evidenced by an amended and restated committed line of credit note in the principal
amount of up to $3,000,000. The line of credit has a $1,200,000 standby letter of credit sub-facility, with any standby letters
of credit issued thereunder being at the sole discretion of PNC Bank. The line of credit is subject to standard covenants, including
affirmative financial covenants, such as the maintenance of a minimum fixed charge coverage ratio, and negative covenants, which,
among other things, limit the incurrence of additional indebtedness, loans and equity investments, disposition of assets, mergers
and consolidations and other matters customarily restricted in such agreements. Under the loan agreement, NTIC is subject to a
minimum fixed charge coverage ratio of 1.10:1.00. As of February 28, 2017, NTIC was in compliance with all debt covenants.
On January 11, 2017, NTIC and PNC Bank extended the maturity date of the line of credit
retroactively from January 7, 2017 to January 7, 2018. All other terms of the line of credit and the loan agreement and other documents
evidencing the line of credit remain the same. It is anticipated that, as historically has been the practice, the line of credit
will be renewed each year for one additional year for the immediate foreseeable future.
NTIC believes that a combination of its existing cash and cash equivalents, forecasted
cash flows from future operations, anticipated distributions of earnings, anticipated fees to NTIC for services provided to its
joint ventures, and funds available through existing or anticipated financing arrangements, will be adequate to fund its existing
operations, investments in new or existing joint ventures or subsidiaries, capital expenditures, debt repayments and any stock
repurchases for at least the next 12 months. During the remainder of fiscal 2017, NTIC expects to continue to invest in NTIC China,
research and development and in marketing efforts and resources into the application of its corrosion prevention technology into
the oil and gas industry and its Natur-Tec® bio-plastics business. To take advantage of such new product and market opportunities
to expand its business and increase its revenues, NTIC may decide to finance such opportunities by borrowing under its revolving
line of credit or raising additional financing through the issuance of debt or equity securities. There is no assurance that any
financing transaction will be available on terms acceptable to NTIC or at all, or that any financing transaction will not be dilutive
to NTIC’s current stockholders.
NTIC traditionally has used the cash generated from its operations, distributions of
earnings and fees for services provided to its joint ventures to fund NTIC’s new technology investments and capital contributions
to new and existing joint ventures. NTIC’s joint ventures traditionally have operated with little or no debt and have been
self-financed with minimal initial capital investment and minimal additional capital investment from their respective owners. Therefore,
NTIC believes it is not likely that there exists any exposure to debt by NTIC’s joint ventures that could materially impact
their respective operations and/or liquidity.
Uses of Cash and Cash Flows
. Net cash used in operating activities during the
six months ended February 28, 2017 was $823,425, which resulted principally from NTIC’s equity in income from joint ventures,
dividends received from joint ventures, increases in trade receivables, inventory, prepaid expenses, accrued liabilities, and income
tax payable, partially offset by NTIC’s net income, depreciation and amortization. Net cash provided by operating activities
during the six months ended February 29, 2016 was $1,248,810, which resulted principally from NTIC’s equity in income from
joint ventures, dividends from joint ventures, a decrease in accrued liabilities and increases in receivables and prepaid expenses,
partially offset by depreciation and amortization.
NTIC’s cash flows from operations are impacted by significant changes in certain
components of NTIC’s working capital, including inventory turnover and changes in receivables. NTIC considers internal and
external factors when assessing the use of its available working capital, specifically when determining inventory levels and credit
terms of customers. Key internal factors include existing inventory levels, stock reorder points, customer forecasts and customer
requested payment terms, and key external factors include the availability of primary raw materials and sub-contractor production
lead times. NTIC’s typical contractual terms for trade receivables excluding joint ventures are traditionally 30 days and
for trade receivables from its joint ventures are 90 days. Before extending unsecured credit to customers, excluding NTIC’s
joint ventures, NTIC reviews customers’ credit histories and will establish an allowance for uncollectible accounts based
upon factors surrounding the credit risk of specific customers and other information. Accounts receivable over 30 days are considered
past due for most customers. NTIC does not accrue interest on past due accounts receivable. If accounts receivables in excess of
the provided allowance are determined uncollectible, they are charged to selling expense in the period that determination is made.
Accounts receivable are deemed uncollectible based on NTIC exhausting reasonable efforts to collect. NTIC’s typical contractual
terms for receivables for services provided to its joint ventures are 90 days. NTIC records receivables for services provided to
its joint ventures on an accrual basis, unless circumstances exist that make the collection of the balance uncertain in which case
the fee income will be recorded on a cash basis until there is consistency in payments. This determination is handled on a case
by case basis.
NTIC experienced an increase in trade receivables and inventory as of February 28, 2017
compared to August 31, 2016. Trade receivables excluding joint ventures as of February 28, 2017 increased $1,161,166 compared to
August 31, 2016, primarily related to the timing of collections and the increase in sales. Outstanding trade receivables excluding
joint ventures balances as of February 28, 2017 increased 15 days to an average of 65 days from balances outstanding from these
customers as of August 31, 2016. Outstanding trade receivables from joint ventures as of February 28, 2017 decreased $329,321 compared
to August 31, 2016 primarily due to the timing of payments. Outstanding balances from trade receivables from joint ventures decreased
as of February 28, 2017 by an average of 20 days from an average of 96 days from balances outstanding from these customers compared
to August 31, 2016. The significant average days outstanding of trade receivables from joint ventures as of February 28, 2017 were
primarily due to the receivables balances at NTIC’s joint venture in South Korea.
Outstanding receivables for services provided to joint ventures as of February 28, 2017
decreased $164,018 compared to August 31, 2016, which resulted in a decrease of 3 days of fees receivable outstanding as of February
28, 2017 to an average of 95 days compared to August 31, 2016.
Net cash provided by investing activities for the six months ended February 28, 2017
was $810,588, which was primarily the result of the proceeds from the sale of available for sale securities, offset by additions
to property and equipment and additions to patents. Net cash used in investing activities for the six months ended February 29,
2016 was $1,080,567, which was primarily the result of cash used in the purchase of available for sale securities, additions to
property and equipment and additions to patents.
Net cash used in financing activities for the six months ended February 28, 2017 was
$315,207, which resulted from a dividend paid to a non-controlling interest and the repurchase of common stock, partially offset
by proceeds from NTIC’s employee stock purchase plan. Net cash used in financing activities for the six months ended February
29, 2016 was $235,586, which resulted from a dividend paid to a non-controlling interest and the repurchase of common stock, partially
offset by proceeds from NTIC’s employee stock purchase plan.
Share Repurchase Plan
. On January 15, 2015, NTIC’s Board of Directors authorized
the repurchase of up to $3,000,000 in shares of NTIC common stock through open market purchases or unsolicited or solicited privately
negotiated transactions. This program has no expiration date but may be terminated by NTIC’s Board of Directors at any time.
As of February 28, 2017, up to $2,688,605 in shares of NTIC common stock remained available for repurchase under NTIC’s stock
repurchase program.
Capital Expenditures and Commitments
. NTIC spent $599,063 on capital expenditures
during the six months ended February 28, 2017 and expects to spend an aggregate of approximately $700,000 to $800,000 on capital
expenditures during fiscal 2017, which it expects will relate primarily to the purchase of new equipment.
Contractual Obligations
There has been no material change to NTIC’s contractual obligations as provided
in “
Part II. Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations—Contractual
Obligations
,” included in NTIC’s annual report on Form 10-K for the fiscal year ended August 31, 2016.
Off-Balance Sheet Arrangements
NTIC does not have any relationships with unconsolidated entities or financial partnerships,
such as entities often referred to as structured finance or special purpose entities, which would have been established for the
purpose of facilitating off-balance sheet financial arrangements. As such, NTIC is not materially exposed to any financing, liquidity,
market or credit risk that could arise if NTIC had engaged in such arrangements.
Inflation and Seasonality
Inflation in the United States and abroad historically has had little effect on NTIC.
Although NTIC’s business historically has not been seasonal, NTIC believes there is now some seasonality in its business.
NTIC believes that its net sales in second fiscal quarter were adversely affected by the long Chinese New Year, the North American
holiday season and overall less corrosion taking place at lower winter temperatures worldwide.
Market Risk
NTIC is exposed to some market risk stemming from changes in foreign currency exchange
rates, commodity prices and interest rates.
Because the functional currency of NTIC’s foreign operations and investments in
its foreign joint ventures is the applicable local currency, NTIC is exposed to foreign currency exchange rate risk arising from
transactions in the normal course of business. NTIC’s principal exchange rate exposure is with the Euro, the Japanese yen,
Indian Rupee, Chinese Renminbi, South Korean won and the English pound against the U.S. dollar. NTIC’s fees for services
provided to joint ventures and dividend distributions from these foreign entities are paid in foreign currencies and thus fluctuations
in foreign currency exchange rates could result in declines in NTIC’s reported net income. Since NTIC’s investments
in its joint ventures are accounted for using the equity method, any changes in foreign currency exchange rates would be reflected
as a foreign currency translation adjustment and would not change NTIC’s equity in income of joint ventures reflected in
its consolidated statements of income. NTIC does not hedge against its foreign currency exchange rate risk.
Some raw materials used in NTIC’s products are exposed to commodity price changes.
The primary commodity price exposures are with a variety of plastic resins.
At the option of NTIC, outstanding advances under NTIC’s $3,000,000 revolving line
of credit with PNC Bank bear interest at either (a) an annual rate based on LIBOR plus 2.15% for the applicable LIBOR interest
period selected by NTIC or (b) at the rate publicly announced by PNC Bank from time to time as its prime rate, and thus may subject
NTIC to some market risk on interest rates. As of February 28, 2017, NTIC had no borrowings under the line of credit.
Critical Accounting Policies and Estimates
There have been no material changes to NTIC’s critical accounting policies and
estimates from the information provided in “
Part II. Item 7, Management’s Discussion and Analysis of Financial Condition
and Results of Operations—Critical Accounting Policies
,” included in NTIC’s annual report on Form 10-K for
the fiscal year ended August 31, 2016.
Recent Accounting Pronouncements
See Note 2 to NTIC’s consolidated financial statements for a discussion of recent
accounting pronouncements.
Forward-Looking Statements
This quarterly report on Form 10-Q contains not only historical information, but also
forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended, and are subject to the safe harbor created by those sections. In addition, NTIC or
others on NTIC’s behalf may make forward-looking statements from time to time in oral presentations, including telephone
conferences and/or web casts open to the public, in press releases or reports, on NTIC’s Internet web site or otherwise.
All statements other than statements of historical facts included in this report or expressed by NTIC orally from time to time
that address activities, events or developments that NTIC expects, believes or anticipates will or may occur in the future are
forward-looking statements including, in particular, the statements about NTIC’s plans, objectives, strategies and prospects
regarding, among other things, NTIC’s financial condition, results of operations and business, the outcome of contingencies
such as legal proceedings and the effect of the liquidation of Tianjin Zerust and the operations of NTIC China. NTIC has identified
some of these forward-looking statements in this report with words like “believe,” “can,” “may,”
“could,” “would,” “might,” “forecast,” “possible,” “potential,”
“project,” “will,” “should,” “expect,” “intend,” “plan,”
“predict,” “anticipate,” “estimate,” “approximate” “outlook” or “continue”
or the negative of these words or other words and terms of similar meaning. The use of future dates is also an indication of a
forward-looking statement. Forward-looking statements may be contained in the notes to NTIC’s consolidated financial statements
and elsewhere in this report, including under the heading “Management’s Discussion and Analysis of Financial Condition
and Results of Operations.”
Forward-looking statements are based on current expectations about future events affecting
NTIC and are subject to uncertainties and factors that affect all businesses operating in a global market as well as matters specific
to NTIC. These uncertainties and factors are difficult to predict and many of them are beyond NTIC’s control. The following
are some of the uncertainties and factors known to us that could cause NTIC’s actual results to differ materially from what
NTIC has anticipated in its forward-looking statements:
|
·
|
NTIC’s operations in China, the termination of the joint venture agreements with Tianjin Zerust, and the anticipated
liquidation of Tianjin Zerust and the effect of these events on NTIC’s business and future operating results;
|
|
·
|
NTIC’s ongoing litigation against Mr. Tao Meng, its former joint venture partner, and NTIC’s options relating to
the recent dismissal of its litigation against Cortec Corporation, and the effect of these legal matters and the expense associated
therewith on NTIC’s business and future operating results;
|
|
·
|
The effect of current worldwide economic conditions and any turmoil and disruption in the global credit and financial markets
on NTIC’s business;
|
|
·
|
The variability in NTIC’s sales of ZERUST® products and services into oil and gas industry and Natur-Tec
®
products and NTIC’s equity income of joint ventures, which variability in sales and equity in income of joint venture in
turn, subject NTIC’s earnings to quarterly fluctuations;
|
|
·
|
Risks associated with NTIC’s international operations and exposure to fluctuations in foreign currency exchange rates
and import duties and taxes;
|
|
·
|
The effect of the referendum vote of the United Kingdom to exit the European Union on NTIC’s operating results, including
in particular future net sales of NTIC’s European and other joint ventures;
|
|
·
|
The health of the U.S. automotive industry on NTIC’s business;
|
|
·
|
NTIC’s dependence on the success of its joint ventures and fees and dividend distributions that NTIC receives from them;
|
|
·
|
NTIC’s relationships with its joint ventures and its ability to maintain those relationships, especially in light of
anticipated succession planning issues;
|
|
·
|
Fluctuations in the cost and availability of raw materials, including resins and other commodities;
|
|
·
|
The success of and risks associated with NTIC’s emerging new businesses and products and services, including in particular
NTIC’s ability and the ability of NTIC’s joint ventures to sell ZERUST® products and services into oil and gas
industry and Natur-Tec
®
products and the often lengthy and extensive sales process involved in selling such products
and services;
|
|
·
|
NTIC’s ability to introduce new products and services that respond to changing market conditions and customer demand;
|
|
·
|
Market acceptance of NTIC’s existing and new products, especially in light of existing and new competitive products;
|
|
·
|
Maturation of certain existing markets for NTIC’s ZERUST
®
products and services and NTIC’s ability
to grow market share and succeed in penetrating other existing and new markets;
|
|
·
|
Increased competition, especially with respect to NTIC’s ZERUST
®
products and services, and the effect
of such competition on NTIC’s and its joint ventures’ pricing, net sales and margins;
|
|
·
|
NTIC’s reliance upon and its relationships with its distributors, independent sales representatives and joint ventures;
|
|
·
|
NTIC’s reliance upon suppliers;
|
|
·
|
Oil prices, which may affect sales of NTIC’s ZERUST
®
products and services into the oil and gas industry;
|
|
·
|
The costs and effects of complying with laws and regulations and changes in tax, fiscal, government and other regulatory policies,
including rules relating to environmental, health and safety matters;
|
|
·
|
Unforeseen product quality or other problems in the development, production and usage of new and existing products;
|
|
·
|
Unforeseen production expenses incurred in connection with new customers and new products;
|
|
·
|
Loss of or changes in executive management or key employees;
|
|
·
|
Ability of management to manage around unplanned events;
|
|
·
|
Pending and future litigation;
|
|
·
|
NTIC’s reliance on its intellectual property rights and the absence of infringement of the intellectual property rights
of others;
|
|
·
|
NTIC’s ability to maintain effective internal control over financial reporting, especially in light of its joint venture
arrangements;
|
|
·
|
Changes in applicable laws or regulations and NTIC’s failure to comply with applicable laws, rules and regulations;
|
|
·
|
Changes in generally accepted accounting principles and the effect of new accounting pronouncements;
|
|
·
|
Fluctuations in NTIC’s effective tax rate; and
|
|
·
|
NTIC’s reliance upon its management information systems.
|
For more information regarding these and other uncertainties and factors that could cause
NTIC’s actual results to differ materially from what NTIC has anticipated in its forward-looking statements or otherwise
could materially adversely affect its business, financial condition or operating results, see NTIC’s annual report on Form
10-K for the fiscal year ended August 31, 2016 under the heading “
Part I. Item 1A. Risk Factors
.”
All forward-looking statements included in this report are expressly qualified in their
entirety by the foregoing cautionary statements. NTIC wishes to caution readers not to place undue reliance on any forward-looking
statement that speaks only as of the date made and to recognize that forward-looking statements are predictions of future results,
which may not occur as anticipated. Actual results could differ materially from those anticipated in the forward-looking statements
and from historical results, due to the uncertainties and factors described above, as well as others that NTIC may consider immaterial
or does not anticipate at this time. Although NTIC believes that the expectations reflected in its forward-looking statements are
reasonable, NTIC does not know whether its expectations will prove correct. NTIC’s expectations reflected in its forward-looking
statements can be affected by inaccurate assumptions NTIC might make or by known or unknown uncertainties and factors, including
those described above. The risks and uncertainties described above are not exclusive and further information concerning NTIC and
its business, including factors that potentially could materially affect its financial results or condition, may emerge from time
to time. NTIC assumes no obligation to update, amend or clarify forward-looking statements to reflect actual results or changes
in factors or assumptions affecting such forward-looking statements. NTIC advises you, however, to consult any further disclosures
NTIC makes on related subjects in its annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K
NTIC files with or furnishes to the Securities and Exchange Commission.