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ITEM 2.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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Information Concerning Forward-Looking Statements
From time to time, Key Technology, Inc. (“we", "us" or "our"), through its management, may make forward-looking public statements with respect to the company regarding, among other things, expected future revenues or earnings, projections, plans, future performance, product development and commercialization, and other estimates relating to our future operations. Forward-looking statements may be included in reports filed under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), in press releases or in oral statements made with the approval of our authorized executive officers. The words or phrases “will likely result,” “are expected to,” “intends,” “is anticipated,” “estimates,” “believes,” “projects” or similar expressions are intended to identify “forward-looking statements” within the meaning of Section 21E of the Exchange Act and Section 27A of the Securities Act of 1933, as amended, as enacted by the Private Securities Litigation Reform Act of 1995.
Forward-looking statements are subject to a number of risks and uncertainties, the occurrence of any of which could cause the price of our common stock to fluctuate significantly, making it difficult for shareholders to resell common stock at a time or price they find attractive. We caution investors not to place undue reliance on our forward-looking statements, which speak only as of the date on which they are made. Our actual results may differ materially from those described in the forward-looking statements as a result of various factors, including those listed below:
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adverse changes in general economic conditions may adversely affect our customers, our business and results of operations;
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ongoing uncertainty in the global economy may adversely affect our operating results;
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variable economic conditions in the food processing industry, either globally or regionally, may adversely affect our sales;
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significant investments in unsuccessful research and development efforts could materially adversely affect our business;
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our existing and new products may not compete successfully in either current or new markets, which could result in the loss of market share and a decrease in our sales and profits;
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the loss of any of our significant customers could reduce our sales and profitability;
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competition may result in lower sales and prices for our products and services;
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consolidation by our competitors could increase competition in the food processing equipment industry, and consolidation by our food processing industry customers could increase their purchasing power, both of which could reduce our sales and profitability;
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customer sourcing initiatives and purchasing power may adversely affect our new equipment and aftermarket sales, which could result in reduced gross margins;
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our sales and profits may vary widely from quarter to quarter and year to year due to the timing, size and composition of major orders;
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our operating results are seasonal and may further fluctuate due to severe weather conditions affecting the agricultural industry in various parts of the world;
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the failure of our independent sales representatives to perform as expected could harm our net sales;
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our international operations subject us to a number of risks that could adversely affect our sales, operating results and growth;
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we have made, or may make, acquisitions or enter into distribution agreements or similar business relationships that could disrupt our operations and harm our operating results;
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fluctuations in foreign currency exchange rates could result in unanticipated losses that could adversely affect our results of operations and financial position;
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advances in technology by competitors may adversely affect our sales and profitability;
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our expansion into new markets, increasingly complex projects and applications, and integrated product offerings could increase our cost of operations and reduce gross margins and profitability;
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the failure of our suppliers to deliver quality products in a timely manner or our inability to obtain components for our products could adversely affect our operating results;
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our dependence on certain suppliers may leave us temporarily without adequate access to raw materials, intellectual property or products;
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the limited availability and possible cost fluctuations of materials used in our products could adversely affect our gross margins;
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our products may suffer from defects leading to warranty claims;
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information security breaches or business system disruptions may adversely affect our business;
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our potential inability to attract and retain experienced management and other key personnel, or the loss of key management personnel, may adversely affect our business and prospects for growth;
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our potential inability to protect our intellectual property, especially as we expand geographically, may adversely affect our competitive advantage;
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intellectual property-related litigation expenses and other costs resulting from infringement claims asserted against us by third parties may adversely affect our results of operations and our customer relations; and
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our financing agreements contain restrictive and financial covenants that may adversely affect us.
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More information may be found in Item 1A, “Risk Factors,” in our Annual Report on Form 10-K for the fiscal year ended
September 30, 2016
filed with the SEC on
December 9, 2016
, which item is hereby incorporated herein by reference.
Given these uncertainties, readers are cautioned not to place undue reliance on the forward-looking statements. We disclaim any obligation subsequently to revise or update forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.
Overview
General
We and our operating subsidiaries design, manufacture, sell and service automation systems that process product streams of discrete pieces to improve safety and quality. These systems integrate electro-optical automated inspection and sorting systems with process systems that include specialized conveying and preparation systems. We provide parts and service for each of our product lines to customers throughout the world. Industries served include food processing, tobacco, plastics, pharmaceuticals and nutraceuticals. We maintain two domestic manufacturing facilities and two European manufacturing facilities located in Belgium and the Netherlands. We market our products directly and through independent sales representatives.
In the past two years, over half of our sales have been made to customers located outside the United States. In our export and international sales, we are subject to the risks of conducting business internationally, including unexpected changes in regulatory requirements; fluctuations in the value of the U.S. dollar, which could increase or decrease the sales prices of our products in local currencies; tariffs and other barriers and restrictions; and the burdens of complying with a variety of international laws.
The worldwide economy and economic uncertainty continue to affect our operating results. We continue to see customers seeking to retain cash and requiring higher returns on investment, price sensitivity, longer or delayed purchasing cycles, and more purchasing decisions at corporate levels rather than local operating locations. In addition, in response to excess capacity, the market continues to see very aggressive pricing efforts to stimulate demand, which has increased price competition for our products, especially in automated inspection systems where pricing and competition are particularly aggressive.
Current Period -
Third
quarter of fiscal
2017
Net sales, net earnings, and orders for the third quarter of fiscal 2017 were the highest quarterly levels in our Company's history. We have now recorded nine consecutive quarters of year-over-year quarterly order growth.
Net sales of
$44.7 million
in the
third quarter of fiscal
2017
were
$8.5 million
, or
23%
,
higher
than net sales of
$36.2 million
in the corresponding quarter a year ago. The
higher
net sales in the
third quarter of fiscal
2017
were primarily due to increased sales in the automated inspection systems and process systems product lines. Net sales increased most significantly in the European region and in the potato market. International sales were
65%
of net sales for the
third quarter of fiscal
2017
, compared to
51%
in the corresponding prior-year period. The backlog of
$52.1 million
at the end of the
third quarter of fiscal
2017
represents an
increase
of
$18.2 million
, or
54%
, over the backlog of
$33.9 million
at the end of the corresponding quarter a year ago and was second only to the backlog at the end of the second fiscal quarter of 2017. A significant portion of the ending backlog is not scheduled to ship until fiscal 2018. As a result, net sales for the fourth quarter of fiscal
2017
are expected to increase moderately as compared to the net sales recorded in the fourth quarter of fiscal 2016.
Orders in the
third quarter of fiscal
2017
of
$41.8 million
were
up
$9.8 million
, or
31%
, compared to orders of
$32.0 million
in the
third quarter of fiscal
2016
. Orders
increased
most significantly in automated inspection systems and process systems product lines. Orders increased primarily in the European region and in the potato market globally. Third quarter and year-to-date EMEIA (Europe, Middle East, India and Africa) orders in Euros increased by 104% and 72%, respectively, over the same periods in the prior fiscal year. The last four quarters have been our largest four individual EMEIA bookings quarters in our history. North America was the largest order contributing region in the third quarter of fiscal 2017, also recording one of the largest quarterly orders in our history for this region. Orders in North America included approximately $8.0 million of equipment associated with a new plant expansion by a significant North American potato processor. Total orders for the third quarter of fiscal 2017 also included orders of $8.0 million associated with multiple global projects from another major world-wide potato processor.
The gross margin percentage in the
third quarter of fiscal
2017
was
35.2%
as compared to
29.4%
for the same period in the prior year. The increase was primarily due to a favorable product mix and improvements and efficiencies in both the process systems and automated inspection systems product lines. The gross margin percentage in the fourth quarter of fiscal
2017
is expected to decrease moderately as compared to the percentage in the
third quarter of fiscal
2017
.
Operating expenses of
$10.8 million
increased
approximately
$1.9 million
, or
22%
, as compared to
$8.9 million
for the same period in the prior year. Increased operating expenses were primarily the result of the increased net sales and related sales commissions as well as increased personnel costs. Overall operating expenses in the fourth quarter of fiscal
2017
are expected to decrease slightly over the expense level in the third quarter of fiscal
2017
.
Overall, our earnings from operations of
$4.9 million
in the
third quarter of fiscal
2017
improved compared to earnings from operations of
$1.8 million
in the same quarter in the prior year. The
net earnings
for the
third quarter of fiscal
2017
were
$3.0 million
, or
$0.47
per diluted share. The
net earnings
for the corresponding three-month period in fiscal
2016
were
$1.0 million
, or
$0.16
per diluted share. The
net earnings
in the most recent three-month period increased as compared to the prior year period primarily due to improved net sales and gross profit margins, partially offset by higher operating expenses.
First
nine months
of fiscal
2017
Net sales of
$99.4 million
for the first
nine months
of fiscal
2017
were
$9.8 million
, or 11%,
higher
than net sales of
$89.5 million
in the corresponding period a year ago. International sales were
60%
of net sales for the first
nine months
of fiscal
2017
compared to
54%
in the corresponding prior year period. Net sales were up primarily in automated inspection systems, the European region and the potato market. Customer orders in the first
nine months
of fiscal
2017
of
$110.2 million
were
up
$17.9 million
, or
19%
, compared to the orders of
$92.3 million
in the first
nine months
of fiscal
2016
. Customer orders
increased
across all product lines, most significantly in automated inspection systems. Orders increased primarily in Europe and primarily in the potato market.
The
net earnings
for the first
nine months
of fiscal
2017
were
$2.8 million
, or
$0.44
per diluted share.
The net loss
for the corresponding
nine
-month period in
2016
was
$1.2 million
, or
$0.19
per diluted share. The increased net earnings in the more recent
nine-month period
is primarily due to higher net sales and gross profits partially offset by higher operating expenses.
Application of Critical Accounting Policies
We have identified our critical accounting policies, the application of which may materially affect our financial statements, either because of the significance of the financial statement item to which they relate, or because they require management judgment to make estimates and assumptions in measuring, at a specific point in time, events which will be settled in the future. The critical accounting policies, judgments and estimates which management believes have the most significant effect on the financial statements are set forth below:
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Allowances for doubtful accounts
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Valuation of inventories
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Allowances for warranties
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Accounting for income taxes
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Management has discussed the development, selection and related disclosures of these critical accounting estimates with the audit committee of our board of directors.
Revenue Recognition.
We recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred or services have been provided, the sale price is fixed or determinable, and collectability is reasonably assured. Additionally, we sell our goods on terms which transfer title and risk of loss at a specified location, typically shipping point, port of loading or port of discharge, depending on the final destination of the goods. Accordingly, revenue recognition from product sales occurs when all criteria are met, including transfer of title and risk of loss, which occurs either upon shipment by us or upon receipt by customers at the location specified in the terms of sale. Sales of system upgrades are recognized as revenue upon completion of the conversion of the customer’s existing system when this conversion occurs at the customer site. Revenue earned from services (maintenance, installation support, and repairs) is recognized ratably over the contractual period or as the services are performed. If any contract provides for both equipment and services (multiple deliverables), the sales price is allocated to the various elements based on the relative selling price. Each element is then evaluated for revenue recognition based on the previously described criteria. We typically have a very limited number of contracts with multiple deliverables and they are not material to the financial statements. Our sales arrangements provide for no other significant post-shipment obligations.
If all conditions of revenue recognition are not met, we defer revenue recognition. In the event of revenue deferral, the sale value is not recorded as revenue to us, accounts receivable are reduced by any related amounts owed by the customer, and the cost of the goods or services deferred is carried in inventory. In addition, we periodically evaluate whether an allowance for sales returns is necessary. Historically, we have experienced few sales returns. We account for cash consideration (such as sales incentives) that are given to customers or resellers as a reduction of revenue rather than as an operating expense unless an identified benefit is received for which fair value can be reasonably estimated. We believe that revenue recognition is a “critical accounting estimate” because our terms of sale vary significantly, and management exercises judgment in determining whether to recognize or defer revenue based on those terms. Such judgments may materially affect net sales for any period. Management exercises judgment within the parameters of GAAP in determining when contractual obligations are met, title and risk of loss are transferred,
the sales price is fixed or determinable and collectability is reasonably assured. At
June 30, 2017
, we had invoiced $4.1 million, compared to $1.7 million at
September 30, 2016
, for which we have not recognized revenue.
Allowances for doubtful accounts.
We establish allowances for doubtful accounts for specifically identified, as well as anticipated, doubtful accounts based on credit profiles of customers, current economic trends, contractual terms and conditions, and customers’ historical payment patterns. Factors that affect collectability of receivables include general economic or political factors in certain countries that affect the ability of customers to meet current obligations. We actively manage our credit risk by utilizing an independent credit rating and reporting service, by requiring certain percentages of down payments, and by requiring secured forms of payment for customers with uncertain credit profiles or located in certain countries. Forms of secured payment could include irrevocable letters of credit, bank guarantees, third-party leasing arrangements or EX-IM Bank guarantees, each utilizing Uniform Commercial Code filings, or the like, with governmental entities where possible. We believe that the accounting estimate related to allowances for doubtful accounts is a “critical accounting estimate” because it requires management judgment in making assumptions relative to customer or general economic factors that are outside our control. As of
June 30, 2017
, the balance sheet included allowances for doubtful accounts of
$293,000
as compared to
$266,000
at
September 30, 2016
. Amounts charged to bad debt expense for the
nine months ended
June 30, 2017
and
2016
, respectively, were
$33,000
and
$(1,000)
. Actual charges to the allowance for doubtful accounts for the
nine months ended
June 30, 2017
and
2016
, respectively, were $8,000 and $12,000. If we experience actual bad debt expense in excess of estimates, or if estimates are adversely adjusted in future periods, the carrying value of accounts receivable will decrease and charges for bad debts will increase, resulting in decreased net earnings.
Valuation of inventories.
Inventories are stated at the lower of cost or market. Our inventory includes purchased raw materials, manufactured components, purchased components, service and repair parts, work in process, finished goods and demonstration equipment. Write downs for excess and obsolete inventories are made after periodic evaluation of historical sales, current economic trends, forecasted sales, estimated product lifecycles and estimated inventory levels. The factors that contribute to inventory valuation risks are our purchasing practices, electronic component obsolescence, accuracy of sales and production forecasts, introduction of new products, product lifecycles and the associated product support. We actively manage our exposure to inventory valuation risks by maintaining low safety stocks and minimum purchase lots, utilizing just-in-time purchasing practices, managing product end-of-life issues brought on by aging components or new product introductions, and by utilizing inventory minimization strategies such as vendor-managed inventories. We believe that the accounting estimate related to valuation of inventories is a “critical accounting estimate” because it is susceptible to changes from period to period due to the requirement for management to make estimates relative to each of the underlying factors ranging from purchasing to sales to production to after-sale support. At
June 30, 2017
, cumulative inventory adjustments to the lower of cost or market totaled $6.0 million, compared to $5.1 million at
June 30, 2016
. Amounts charged to expense to record inventory at lower of cost or market for the
nine
months ending
June 30, 2017
and
2016
were $1.1 million and $1.8 million, respectively. Actual charges to the cumulative inventory adjustments upon disposition or sale of inventory were $200,000 and $931,000 for the
nine
months ending
June 30, 2017
and
2016
, respectively. If actual demand, market conditions or product lifecycles are adversely different from those estimated by management, inventory adjustments to lower market values will result in a reduction to the carrying value of inventory, an increase in inventory write-offs, and a decrease to gross margins.
Long-lived assets.
We regularly review all of our long-lived assets, including property, plant and equipment, and amortizable intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. If the total of projected future undiscounted cash flows is less than the carrying amount of these assets, an impairment loss based on the excess of the carrying amount over the fair value of the assets is recorded. In addition, goodwill is reviewed based on its fair value at least annually. As of
June 30, 2017
, we held $29.1 million of long-lived assets, net of depreciation and amortization. There were no material changes during the quarter that would result in an adjustment of the carrying value for these assets. Estimates of future cash flows arising from the utilization of these long-lived assets and estimated useful lives associated with the assets are critical to the assessment of their recoverability and fair values. We believe that the accounting estimate related to long-lived assets is a “critical accounting estimate” because: (1) it is susceptible to change from period-to-period due to the requirement for management to make assumptions about future sales and cost of sales generated throughout the lives of several product lines over extended periods of time; and (2) the potential effect that recognizing an impairment could have on the assets reported on our balance sheet and the potential material adverse effect on reported earnings or loss. Changes in these estimates could result in a determination of asset impairment, which would result in a reduction to the carrying value and a reduction to net earnings in the affected period.
Allowances for warranties.
Our products are covered by standard warranty plans included in the price of the products ranging from 90 days to five years, depending upon the product and contractual terms of sale. The majority of the warranty periods are for one year or less. We establish allowances for warranties for specifically identified, as well as anticipated, warranty claims based on contractual terms, product conditions and actual warranty experience by product line. Our products include both manufactured and purchased components and, therefore, warranty plans include third-party sourced parts which may not be covered by the third-party manufacturer’s warranty. We actively manage our quality program by using a structured product introduction
plan, process monitoring techniques utilizing statistical process controls, vendor quality metrics, and feedback loops to communicate warranty claims to designers and engineers for remediation in future production. We believe that the accounting estimate related to allowances for warranties is a “critical accounting estimate” because: (1) it is susceptible to significant fluctuation period-to-period due to the requirement for management to make assumptions about future warranty claims relative to potential unknown issues arising in both existing and new products, which assumptions are derived from historical trends of known or resolved issues; and (2) risks associated with third-party supplied components being manufactured using processes that we do not control. As of
June 30, 2017
, the balance sheet included warranty reserves of
$1.8 million
. Warranty charges of
$1.8 million
were incurred during the
nine
-month period then ended. Warranty reserves were $1.9 million as of
June 30, 2016
and warranty charges of
$2.1 million
were incurred during the
nine
-month period then ended. If our actual warranty costs are higher than estimates, future warranty plan coverages are different, or estimates are adversely adjusted in future periods, reserves for warranty expense will need to increase, warranty expense will increase and gross margins will decrease.
Accounting for income taxes.
Our provision for income taxes and the determination of the resulting deferred tax assets and liabilities involves a significant amount of management judgment. The quarterly provision for income taxes is based partially upon estimates of pre-tax financial accounting income for the full year and is affected by various differences between financial accounting income and taxable income. Judgment is also applied in determining whether the deferred tax assets will be realized in full or in part. In management’s judgment, when it is more likely than not that all or some portion of specific deferred tax assets will not be realized, a valuation allowance must be established for the amount of the deferred tax assets that are determined not to be realizable. At
June 30, 2017
, we had valuation reserves of approximately $197,000 for deferred tax assets for capital loss carryforwards and changes in the carrying value of our investment in Proditec and for foreign deferred tax assets, primarily related to tax carryforwards in foreign jurisdictions that we believe will not be utilized during the carryforward periods. During the
nine months ended
June 30, 2017
, there was no change in our valuation reserves. There were no other material valuation allowances at
June 30, 2017
due to anticipated utilization of all the deferred tax assets as we believe we will have sufficient taxable income to utilize these assets. We maintain reserves for uncertain tax positions in jurisdictions of operation. These tax jurisdictions include federal, state and various international tax jurisdictions. Potential income tax exposures include potential challenges of various tax credits and deductions, and issues specific to state and local tax jurisdictions. Exposures are typically settled primarily through audits within these tax jurisdictions, but can also be affected by changes in applicable tax law or other factors, which could cause our management to believe a revision of past estimates is appropriate. Thus far, during fiscal
2017
, there have been no significant changes in these estimates. Management believes that an appropriate liability has been established for estimated exposures; however, actual results may differ materially from these estimates. We believe that the accounting estimate related to income taxes is a “critical accounting estimate” because it relies on significant management judgment in making assumptions relative to temporary and permanent timing differences of tax effects, estimates of future earnings, prospective application of changing tax laws in multiple jurisdictions, and the resulting ability to utilize tax assets at those future dates. If our operating results were to fall short of expectations, thereby affecting the likelihood of realizing the deferred tax assets, judgment would have to be applied to determine the amount of the valuation allowance required to be included in the financial statements in any given period. Establishing or increasing a valuation allowance would reduce the carrying value of the deferred tax asset, increase tax expense and reduce net earnings.
During the first quarter of fiscal 2016, the research and development tax credit was permanently renewed retroactive to January 1, 2015. In the first quarter of fiscal 2016, income tax expense was reduced by approximately
$106,000
for additional research and development tax credits related to expenditures incurred during fiscal 2015 due to the renewal of this tax credit.
Recent Accounting Pronouncements Not Yet Adopted.
In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update (“ASU”) 2014-09, “Revenue from Contracts with Customers” (“ASU 2014-09”). ASU 2014-09, as amended by ASU 2015-14, is effective for annual reporting periods beginning after December 15, 2017, including interim periods therein. ASU 2014-09 supersedes nearly all existing revenue recognition guidance under GAAP. The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the Company expects to be entitled in exchange for those goods or services. The Company is currently analyzing the effect of the standard across all of its revenue streams to evaluate the impact of the new standard on revenue contracts. This includes reviewing current accounting policies and practices to identify potential differences that would result from applying the requirements under the new standard. Most of the Company's contracts for goods and services are not complex and are primarily short-term in nature, and the assessment at this stage is that the Company does not expect the adoption of the new revenue recognition standard to have a material effect on its financial statements. The Company plans to adopt the standard in the first quarter of fiscal 2018 using the modified retrospective method by recognizing any cumulative effect of initially applying the new standard as an adjustment to the opening balance of retained earnings.
In July 2015, the FASB issued ASU 2015-11, "Simplifying the Measurement of Inventory" ("ASU 2015-11"). The previous standard required entities to measure inventory at the lower of cost or market, with market defined as net realizable value or replacement cost. ASU 2015-11 requires entities to measure inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. ASU 2015-11 is effective for annual reporting periods beginning after December 15, 2016, including interim periods therein. The Company does not anticipate that it will have a material effect on its financial statements.
In November 2015, the FASB issued ASU 2015-17, "Balance Sheet Classification of Deferred Taxes," which eliminates the current requirement to present deferred tax liabilities and assets as current and non-current in a classified balance sheet. Instead, entities will be required to classify all deferred tax assets and liabilities as non-current. This ASU will be effective for the Company beginning in its first quarter of fiscal year 2018 and may be adopted prospectively or retrospectively. Early adoption is permitted but the Company has not elected to do so. The Company does not expect its adoption to have a material effect on its financial statements.
In February 2016, the FASB issued ASU 2016-02, "Leases" (“ASU 2016-02”), which is intended to improve financial reporting about leasing transactions. ASU 2016-02 will require lessees to recognize the assets and liabilities for the rights and obligations created by their leases on their balance sheet. Lessees will be required to recognize assets and liabilities for leases with lease terms of more than 12 months. ASU 2016-02 is effective for public companies for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted. The Company has not yet determined the effect that adoption of ASU 2016-02 will have on its consolidated financial position and consolidated results of operations.
In March 2016, the FASB issued ASU 2016-09, "Stock Compensation," which is intended to simplify several aspects of the accounting for share-based payment award transactions, including adjustments to the timing of when excess tax benefits should be recorded and classification in the statement of cash flows. The guidance will be effective for fiscal years beginning after December 15, 2016, including interim periods within those years. The Company does not anticipate that the adoption of this ASU will materially affect its results of operations.
Results of Operations
For the three months ended
June 30, 2017
and
2016
Net sales, net earnings and orders for the third quarter of fiscal 2017 were the highest quarterly levels in our Company's history. We have now recorded nine consecutive quarters of year-over-year quarterly order growth.
Net sales
increased
$8.5 million
, or
23%
, to
$44.7 million
in the
third quarter of fiscal
2017
from
$36.2 million
recorded in the corresponding quarter a year ago. International sales for the three-month period ending
June 30, 2017
were
65%
of net sales, compared to
51%
in the corresponding prior year period. The
increase
in net sales occurred primarily in the European region, and
increased
primarily in the potato market. Automated inspection systems net sales were
up
$5.7 million
, or 58%, to
$15.7 million
due primarily to the timing of shipments. The
increase
in automated inspection system sales was in belt-fed, upgrade and ADR products. Net sales of process systems
increased
$2.4 million
, or
13%
, to
$21.0 million
in the
third quarter of fiscal
2017
. This
increase
was across most process system product types. Parts and service sales were
$8.0 million
,
up
$0.3 million
. Automated inspection systems sales, including upgrade systems, represented
35%
of net sales in the
third quarter of fiscal
2017
compared to
28%
of net sales in the
third quarter of fiscal
2016
. Process systems sales represented
47%
of net sales in the
third quarter of fiscal
2017
and compared to 51% in the
third quarter of fiscal
2016
, while parts and service sales accounted for
18%
of net sales in the
third quarter of fiscal
2017
, compared to
21%
during the
third quarter of fiscal
2016
. A significant portion of the ending backlog as of
June 30, 2017
is not scheduled to ship until fiscal 2018. As a result, we expect net sales in the fourth quarter of fiscal
2017
to increase moderately as compared to the net sales reported in the fourth quarter of fiscal
2016
.
Total backlog was
$52.1 million
at the end of the
third quarter of fiscal
2017
, which was
$18.2 million
, or
54%
,
higher
than the
$33.9 million
backlog at the end of the
third quarter
of the prior fiscal year and was second only to the backlog at the end of the second fiscal quarter of 2017. Automated inspection systems backlog
increased
by
$7.4 million
, or
46%
, to
$23.7 million
at the end of the
third quarter of fiscal
2017
compared to
$16.3 million
at the same time a year ago. The
increase
was primarily in belt-fed, upgrade and ADR products. Backlog for process systems was
up
$10.4 million
, or
67%
, to
$26.0 million
at
June 30, 2017
compared to
$15.6 million
at
June 30, 2016
, and was up across most product types. Backlog by product line at
June 30, 2017
was
45%
automated inspection systems,
50%
process systems, and
5%
parts and service, as compared to
48%
automated inspection systems,
46%
process systems, and
6%
parts and service at
June 30, 2016
.
Orders of
$41.8 million
in the
third quarter of fiscal
2017
were
$9.8 million
, or
31%
,
higher
than the
third
quarter new orders of
$32.0 million
a year ago. Orders for process systems during the
third quarter of fiscal
2017
increased
$5.4 million
, or
41%
, to
$18.7 million
from
$13.3 million
in the comparable quarter of fiscal
2016
. The
increase
in orders for process systems occurred across most product types. Automated inspection systems orders
increased
$4.2 million
, or
39%
, during the
third quarter of fiscal
2017
to
$15.0 million
compared to
$10.8 million
in the
third quarter of fiscal
2016
. Orders for automation inspection systems increased primarily for belt-fed, upgrade and ADR product types. Orders for parts and service were
$8.1 million
, or
2%
higher
than in the
third quarter of fiscal
2016
of
$8.0 million
. Orders overall were
up
primarily in Europe and most significantly in the potato market. Third quarter and year-to-date EMEIA orders in Euros increased by 104% and 72%, respectively, over the same periods in the prior fiscal year. The last four quarters have been our largest four individual EMEIA bookings quarters. North America was the largest order contributing region in the third quarter of fiscal 2017, also recording one of our largest quarterly orders in our history for this region. Orders in North America included approximately $8.0 million of equipment associated with a new plant expansion by a significant North American potato processor. Total orders for the third quarter of fiscal 2017 also included orders of $8.0 million associated with multiple global projects from another major world-wide potato processor.
Gross profit for the
third quarter of fiscal
2017
was
$15.7 million
, compared to
$10.7 million
in the corresponding period last year. Gross margin in the
third quarter of fiscal
2017
, as a percentage of net sales,
increased
to
35.2%
compared to the
29.4%
reported in the corresponding quarter of fiscal
2016
. The gross margin percentage for the
third quarter of fiscal
2017
was higher primarily due to a more favorable product mix and improvements and efficiencies in both the process systems and automated inspection systems product lines. The gross margin percentage in the fourth quarter of fiscal
2017
is expected to decrease moderately as compared to the percentage in the
third quarter of fiscal
2017
.
Operating expenses of
$10.8 million
for the
third quarter of fiscal
2017
were
24.2%
of net sales compared to
$8.9 million
for the
third quarter of fiscal
2016
and
24.5%
of net sales. The increased operating expenses were primarily the result of increased net sales and related sales commission as well as increased personnel costs. Total operating expenses in the fourth quarter of fiscal 2017 are expected to decrease slightly over the expense levels in the
third quarter of fiscal
2017
.
Other expense for the
third quarter of fiscal
2017
was
$326,000
, compared to
$228,000
for the corresponding period in fiscal
2016
, and increased primarily due to increased foreign exchange losses in the
third quarter of fiscal
2017
as compared to the prior year's third fiscal quarter.
The
net earnings
for the quarter ended
June 30, 2017
were
$3.0 million
, or
$0.47
per diluted share. The
net earnings
for the corresponding period last year were
$1.0 million
, or
$0.16
per diluted share. The increase in
net earnings
in the
third quarter of fiscal
2017
compared to the
third quarter of fiscal
2016
was primarily the result of increased net sales and improved gross profit margins, partially offset by higher operating expenses.
For the
nine
months ended
June 30, 2017
and
2016
Net sales in the first
nine months
of fiscal
2017
increased
by
$9.8 million
, or
11%
, to
$99.4 million
compared to
$89.5 million
for the same period in fiscal
2016
. The
higher
net sales occurred most significantly in the European region. Net sales
increased
most significantly in the potato market. International sales for the more recent
nine
-month period were
60%
of net sales compared to
54%
for the
nine
-month period of fiscal
2016
.
Increases
in total net sales for the first
nine months
of fiscal
2017
compared to the same period in the prior year occurred most significantly in automated inspection systems sales which were
up
$8.1 million
or
30%
. The increase in automated inspection systems was in both belt-fed and chute-fed products and upgrade products. Process systems sales were
up
$1.0 million
or
2%
. Parts and service sales were
up
$0.8 million
or
4%
. Process systems represented
42%
of net sales in the first
nine months
of fiscal
2017
compared to
46%
of net sales in the first
nine months
of fiscal
2016
. Automated inspection systems sales represented
36%
of net sales in the first
nine months
of fiscal
2017
, compared to
31%
of net sales in the first
nine months
of fiscal
2016
. Parts and service sales were
22%
of net sales in the first
nine months
of fiscal
2017
compared to 23% in the first nine months of fiscal
2016
.
Orders for the first
nine months
of fiscal
2017
increased
$17.9 million
, or
19%
, to
$110.2 million
compared to orders of
$92.3 million
in the first
nine months
of fiscal
2016
. Orders for automated inspection systems
increased
$9.9 million
, or
35%
, to
$37.8 million
compared to
$27.9 million
in the first
nine months
of fiscal
2016
. Orders for automated inspection systems
increased
most significantly for upgrades, ADR and belt-fed product lines, partially offset by small decreases for chute-fed product lines. Orders for process systems
increased
$6.5 million
, or
15%
, to
$50.0 million
compared to
$43.5 million
in the first
nine months
of fiscal
2016
. Orders for process systems increased for most product lines. Orders for parts and service were
$22.4 million
,
up
$1.5 million
, or
7%
, from
$20.9 million
in the prior year. The overall
increase
in orders as compared to the prior year occurred particularly in the potato market. Orders were up most significantly in Europe, partially offset by a small decrease in North America.
Gross profit for the first
nine months
of fiscal
2017
was
$34.0 million
compared to
$26.1 million
in the corresponding period last year. Gross margin for the first
nine months
of fiscal
2017
, as a percentage of net sales, was
34.3%
as compared to
29.2%
reported for the same period of fiscal
2016
. The gross margin percentage for the first
nine months
of fiscal
2017
increased primarily
due to a more favorable product mix and improvements and efficiencies in both the process systems and automated inspection systems product lines.
Operating expenses of
$29.1 million
for the first
nine months
of fiscal
2017
were
29.3%
of net sales compared with
$27.4 million
, or
30.6%
, of net sales for the same period of fiscal
2016
. Operating expenses for the first
nine months
of fiscal
2017
were higher than the operating expenses for the first
nine months
of fiscal
2016
due primarily to increased net sales and related sales commission as well as increased personnel costs, partially offset by the non-recurrence of $0.7 million of restructuring charges incurred in the first quarter of fiscal 2016 and lower amortization charges.
Other expense for the first nine months of fiscal
2017
was
$647,000
compared to other expense of
$758,000
for the corresponding period in fiscal
2016
primarily due to lower interest expense and lower bank charges.
The income tax benefit for the first
nine months
of fiscal 2016 was increased by
$106,000
, related to expenditures in fiscal 2015, due to the retroactive renewal of the research and development tax credit which occurred during the first quarter of fiscal 2016.
The net earnings for the first
nine months
of fiscal
2017
were
$2.8 million
, or
$0.44
per diluted share. The net loss for the same period in fiscal
2016
was
$1.2 million
, or
$0.19
per diluted share. The net earnings for the first
nine months
of fiscal
2017
increased primarily due to higher net sales and higher gross profit, partially offset by higher operating expenses.
Liquidity and Capital Resources
In the first
nine months
of fiscal
2017
, net cash decreased by
$0.2 million
to
$10.3 million
on
June 30, 2017
from
$10.5 million
on
September 30, 2016
. Cash provided by operating activities was
$1.9 million
during the
nine months ended
June 30, 2017
. Investing activities consumed
$1.7 million
of cash. Financing activities used
$0.6 million
of cash.
Cash provided by operating activities during the
nine months ended
June 30, 2017
was
$1.9 million
. For the first
nine months
of fiscal
2017
, the net earnings were
$2.8 million
. Non-cash items included in the net earnings in the first
nine months
of fiscal
2017
, such as depreciation, amortization, deferred taxes and share-based compensation, were approximately $4.3 million. In the first
nine months
of fiscal
2017
, changes in non-cash working capital used $5.2 million of cash in operating activities. The major changes in current assets and liabilities using cash during the first
nine months
of fiscal
2017
were increases in inventory of $8.9 million due to the increased backlog and production, increases in accounts receivable of $3.4 million due to the increase in net sales and the timing of shipments and related collections, and an increase of $1.2 million in prepaid expenses due to the timing of payments. These uses were partially offset by increases in customer deposits of $0.7 million due to the increased backlog and timing of collections and shipments, and increases in accounts payable of $2.4 million due to increased production and the timing of payments, increases in accrued payroll liabilities of $2.3 million due to the timing of payments, $1.8 million of increases in other accrued liabilities primarily due to an increase in deferred income due to timing differences between invoicing and delivery of goods and services, and $0.9 million in increases in income tax payable due to increased net earnings and the timing of payments.
For the first
nine months
of fiscal
2016
, $1.5 million of cash was used in operating activities, comprised of a net loss of $1.2 million; non-cash items such as depreciation, amortization, deferred taxes and share-based compensation included in the net loss were $4.1 million; and changes in non-cash working capital used $4.4 million. The primary changes in the first
nine months
of fiscal
2017
as compared to the first
nine months
of fiscal
2016
were the increased net earnings and increases in cash provided by working capital. Significant changes in working capital included increased use of cash for inventory and prepaid expenses, and a decrease in cash used for accounts payable, accrual payroll, other liabilities, decreases in accounts receivable, and increased customer deposits.
Net cash used in investing activities was
$1.7 million
for the first
nine months
of fiscal
2017
compared to
$1.7 million
for the first
nine months
of fiscal
2016
. Cash used for investing activities in the fiscal
2017
period related entirely to capital expenditures.
Net cash used by financing activities during the first
nine months
of fiscal
2017
was
$630,000
, compared with net cash provided by financing activities of
$262,000
during the corresponding period in fiscal
2016
. Net cash used in financing activities during the first
nine months
of fiscal
2017
primarily resulted from
$447,000
of repayments of long-term debt, and
$214,000
of payroll taxes paid in connection with stock surrenders related to compensatory stock awards, partially offset by
$31,000
of proceeds from the issuance of common stock. Cash used in financing activities during the first
nine months
of fiscal
2016
resulted mainly from payments on long-term debt of
$534,000
and payroll taxes of
$255,000
paid in connection with stock surrenders related to compensatory stock awards, partially offset by
$37,000
of proceeds from the issuance of common stock, offset by a net $1.0 million provided by short-term borrowings.
Our domestic credit facility provides for a maximum of
$20.3 million
consisting of a
three-year term
loan of
$5.3 million
and revolving loans up to the lesser of
$15.0 million
or a borrowing base calculated based on the outstanding amount of our eligible accounts receivable and eligible inventory. The credit facility also provides for a credit sub-facility of up to
$4.0 million
for standby letters of credit. The credit facility matures on
July 19, 2018
. The revolving credit facility bears interest, at our option, at either the lender's base lending rate or
LIBOR
using a tiered structure depending on our achievement of a specified financial ratio. Our base lending rate option is the lender's base lending rate plus
0.75%
,
1.00%
or
1.25%
per annum. Our
LIBOR
option is
LIBOR
plus
2.25%
,
2.50%
or
2.75%
. At
June 30,
2017, the interest rate would have been 3.48% based on the lowest of the available alternative rates. The term loan bears interest, at our option, at either the lender's base lending rate plus
1.75%
or the one-, two-, or three-month
LIBOR
rate plus
3.25%
. We have also simultaneously entered into an interest rate swap agreement with the lender to fix the term loan interest rate at
6.20%
. The credit facility is secured by our receivables, equipment and fixtures, inventory, general intangibles, subsidiary stock, securities, investment property, financial assets, real property, and certain other assets. The credit facility contains covenants related to minimum liquidity levels and certain financial covenants that will be applicable only if we do not exceed certain calculated total unrestricted cash and credit availability or an event of default occurs. The credit facility permits capital expenditures to a certain level and contains customary default and acceleration provisions. The credit facility also restricts, above certain levels, acquisitions, incurrence of additional indebtedness, payment of dividends and lease expenditures. At
June 30, 2017
, we had no outstanding borrowings under the revolving line of credit and
$1.6 million
of outstanding standby letters of credit.
Our Belgian subsidiary has a credit accommodation with a commercial bank in Belgium. This credit accommodation totals
€2.7 million
(
$3.1 million
) and includes an operating line of
€800,000
(
$0.9 million
), a bank guarantee facility of
€500,000
(
$0.6 million
), and loan agreement provisions of
€1.4 million
(
$1.6 million
). The operating line and bank guarantee facility are secured by all of the subsidiary's current assets. The Belgian operating line bears interest at the bank's prime rate plus
1.25%
. At
June 30, 2017
, the interest rate was
9.75%
. At
June 30, 2017
, the subsidiary had no borrowings under the operating line. At
June 30, 2017
, the subsidiary had a loan outstanding under the loan agreement provisions totaling
€67,000
(
$76,000
). The fixed interest rate on this loan was
3.98%
. The loan matures in
November 2017
. At
June 30, 2017
, the subsidiary had
no
bank guarantees outstanding under the bank guarantee facility.
Our continuing contractual obligations and commercial commitments existing on
June 30, 2017
are as follows:
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments due by period (in thousands)
|
Contractual Obligations
(1)
|
|
Total
|
|
Less than 1 year
|
|
1 – 3 years
|
|
4 – 5 years
|
|
After 5 years
|
Long-term debt
|
|
$
|
4,698
|
|
|
$
|
429
|
|
|
$
|
4,269
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Interest on long-term debt
(2)
|
|
321
|
|
|
277
|
|
|
44
|
|
|
—
|
|
|
—
|
|
Operating leases
|
|
4,704
|
|
|
1,351
|
|
|
2,112
|
|
|
785
|
|
|
456
|
|
Total contractual cash obligations
|
|
$
|
9,723
|
|
|
$
|
2,057
|
|
|
$
|
6,425
|
|
|
$
|
785
|
|
|
$
|
456
|
|
|
|
(1)
|
We also have $86,000 of contractual obligations related to uncertain tax positions for which the timing and amount of payment cannot be reasonably estimated due to the nature of the uncertainties and the unpredictability of jurisdictional examinations in relation to the statute of limitations.
|
|
|
(2)
|
Includes the effect of the interest-rate swap agreement that fixed the interest rate at
6.20%
.
|
We anticipate that current cash balances, ongoing cash flows from operations, and borrowing capacity under currently available operating credit lines will be sufficient to fund our operating needs for the foreseeable future. At
June 30, 2017
, we had standby letters of credit totaling
$1.6 million
, which includes secured bank guarantees under our domestic credit facility. If we fail to meet our contractual obligations, these bank guarantees and letters of credit may become our liabilities. We have no off-balance sheet arrangements or transactions, or arrangements or relationships with “special purpose entities.”