N
OTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS
(Unaudited)
December 31, 2018
Note 1. Presentation and Summary of Significant Accounting
Policies
Basis of Presentation
The
accompanying unaudited
condensed consolidated balance sheets as of
December 31, 2018 and June 30, 2018, the condensed consolidated
statements of operations for the three and six months ended
December 31
, 2018 and 2017,
and condensed consolidated statements of cash flows for the six
months ended
December 31
, 2018 and
2017,
should
be read in conjunction with
the
audited financial
statements
and notes
thereto
as of and for the
year ended June 30, 2018 included in the
Dynatronics Corporation and
subsidiaries (
the “Company”)
Annual Report on Form 10-K (
“Annual Report”) filed with the
U.S.
Securities and Exchange
Commission (
the
“SEC”) on September 27, 2018. The accompanying
financial statements have
been
prepared by us in
accordance with accounting principles generally accepted in the
United States (“GAAP”) for interim financial
information and in accordance with
the instructions to Form 10-Q and
Article 10 of Regulation S-X.
Accordingly, certain
information and
footnote
disclosures normally included in financial
statements prepared in accordance with
GAAP
have
been condensed or omitted
. In
the opinion of
the
Company's
management,
the accompanying condensed
consolidated financial statements for the periods presented
reflect
all
adjustments,
consisting of
only
normal
,
recurring
adjustments,
necessary
to
fairly
state our
financial position, results of operations and
cash flows.
The
December 31
, 2018 condensed consolidated balance sheet was
derived from audited financial statements, but does not include all
GAAP disclosures. The unaudited condensed consolidated financial
statements for the interim periods
are not necessarily indicative of
results
for the
full year
.
The preparation
of
these unaudited condensed
consolidated
financial
statements
requires
the Company's
management to make estimates and
judgments
that affect the
amounts reported in
the financial statements and the
accompanying notes. The
Company’s actual results may differ from these estimates
under different assumptions or conditions
.
Research
and Development Costs
Research
and development ("R&D") costs are expensed as incurred. R&D
expense for the three and six months ended
December 31
, 2018 totaled
$14,453 and $25,759, respectively.
R&D expense for
the three and six months ended
December 31
, 2017 totaled
$553,487 and $805,336, respectively.
R&D expense is
included in selling, general, and administrative expenses in the
condensed consolidated statement of operations.
Reclassification
Certain
amounts in the prior year's condensed consolidated statement of
operations have been reclassified for comparative purposes to
conform to the presentation in the current year's condensed
consolidated statement of operations.
Recent
Accounting Pronouncements
In
August 2018, the SEC adopted a final rule under SEC Release No.
33-10532,
Disclosure Update and
Simplification
that amends certain disclosure requirements
that were redundant, duplicative, overlapping, outdated or
superseded. The amendments also expanded the disclosure
requirements on the analysis of shareholders’ equity for
interim financial statements, in which registrants must now analyze
changes in shareholders’ equity, in the form of
reconciliation, for the current and comparative year-to-date
periods, with subtotals for each interim period. This final rule
was effective on November 5, 2018. The Company has adopted all
relevant disclosure requirements, with the exception of the
shareholders’ equity interim disclosures, which is allowed to
be adopted in a future interim period. The Company will include a
consolidated statement of shareholders’ equity with its
interim financial statements beginning with the fiscal quarter
ending March 31, 2019. The Company does not anticipate that the
adoption of these SEC amendments will have a material effect on the
Company’s financial position, results of operations, cash
flows or shareholders’ equity.
In February 2016, the
Financial Accounting Standards Board
("
FASB") issued ASU No. 2016-02, Leases (Topic 842,)
a new guidance on leases. This guidance replaces the prior lease
accounting guidance in its entirety. The underlying principle of
the new standard is the recognition of lease assets and lease
liabilities by lessees for substantially all leases, with an
exception for leases with terms of less than twelve months. The
standard also requires additional quantitative and qualitative
disclosures. The guidance is effective for interim and annual
reporting periods beginning after December 15, 2018, and early
adoption is permitted. The standard requires a modified
retrospective approach, which includes several optional practical
expedients. Accordingly, the standard is effective for the Company
on July 1, 2019. The Company is currently evaluating the impact
that this guidance will have on the consolidated financial
statements.
In May 2014, the FASB issued ASU 2014-09,
Revenue from Contracts with Customer
s
(Topic 606). This authoritative accounting guidance related to
revenue from contracts with customers. This guidance is a
comprehensive new revenue recognition model that requires a company
to recognize revenue to depict the transfer of goods or services to
a customer at an amount that reflects the consideration it expects
to receive in exchange for those goods or services. This guidance
is effective for annual reporting periods beginning after December
15, 2017. Companies may use either a full retrospective or a
modified retrospective approach to adopt this guidance. The
Compan
y adopted this
updated accounting guidance beginning July 1, 2018, using the
modified retrospective method. This adoption did not have a
material impact on the Company’s consolidated financial
statements other than additional disclosures (see Note 10)
as the timing of revenue recognition under the new standard is not
materially different from our previous revenue recognition policy.
Based on our analysis of open contracts as of July 1, 2018, the
cumulative effect of applying the new standard was not
material.
Note 2. Acquisitions
Bird & Cronin
On
October 2, 2017, the Company, through its wholly-owned subsidiary
Bird & Cronin, LLC, completed the purchase of substantially all
the assets of Bird & Cronin, Inc. (“Bird &
Cronin”), a manufacturer and distributor of orthopedic soft
goods and specialty patient care products.
The purchase price
is subject to an earn-out payment ranging from $500,000 to
$1,500,000, based on sales in fiscal year 2019.
T
he
amount recognized for the earn-out liability was $875,000 as of
June 30, 2018.
The amount
recognized for the earn-out liability was decreased by $375,000 to
$500,000 as of December 31, 2018.
The change in the fair
value of the earn-out liability is included in other income in the
accompanying condensed consolidated statements of operations. The
earn-out liability is combined with the acquisition holdback in the
accompanying condensed consolidated balance
sheets.
A
holdback of cash totaling
$647,291
and
184,560 shares of common stock was retained for purposes of
satisfying adjustments to the purchase price.
On October 2,
2018, the Company released to Bird & Cronin cash of $162,845
and 54,572 shares of common stock pursuant to the holdback
provisions of the purchase agreement.
In addition, the
Company canceled 37,708 shares of common stock held back for the
benefit of Bird & Cronin, pursuant to the settlement of working
capital adjustments as provided in the purchase
agreement.
As of
December 31, 2018, the remaining earn-out liability and holdbacks
of $966,667 are payable, contingent upon the terms set forth in the
purchase agreement, as follows:
April 2,
2019
|
$
466,667
|
August 15,
2019
|
500,000
|
Acquisition
holdback and earn-out liability
|
$
966,667
|
Hausmann
On
April 3, 2017, the Company, through its wholly-owned subsidiary
Hausmann Enterprises, LLC, completed the purchase of substantially
all the assets of Hausmann Industries, Inc.
(“Hausmann”), a manufacturer of physical therapy
rehabilitation equipment.
The purchase price
included a holdback of cash totaling $1,044,744 for purposes of
satisfying adjustments to the purchase price and indemnification
claims, if any. In the second and third fiscal quarters of 2018,
the Company released $44,744 and $250,000, respectively, of the
holdback to Hausmann. On October 3, 2018, the Company released the
remaining holdback amount totaling $750,000.
Note 3. Net (Loss) Income per Common Share
Net
(loss) income per common share is computed based on the
weighted-average number of common shares outstanding and, when
appropriate, dilutive potential common stock outstanding during the
period. Stock options, convertible preferred stock and warrants are
considered to be potential common stock. The computation of diluted
net income per common share does not assume exercise or conversion
of securities that would have an anti-dilutive effect.
Basic net (loss)
income per common share is the amount of net (loss) income for the
period available to each weighted-average share of common stock
outstanding during the reporting period. Diluted net (loss) income
per common share is the amount of net (loss) income for the period
available to each weighted-average share of common stock
outstanding during the reporting period and to each share of
potential common stock outstanding during the period, unless
inclusion of potential common stock would have an anti-dilutive
effect.
Certain
outstanding options, warrants and convertible preferred stock for
common shares are not included in the computation of diluted net
(loss) income per common share because they were anti-dilutive,
which for the three months ended December 31, 2018, and 2017,
totaled 11,884,803 and
13,838,859
,
respectively and for the six months ended December 31, 2018, and
2017, totaled
11,884,803
and
12,114,132
,
respectively.
Note
4.
Convertible
Preferred Stock and Common Stock Warrants
As of
December 31, 2018, the Company had issued and outstanding a total
of 2,000,000 shares of Series A 8% Convertible Preferred Stock
(“Series A Preferred”) and 1,459,000 shares of Series B
Convertible Preferred Stock ("Series B Preferred"). The Series A
Preferred and Series B Preferred are convertible into a total of
3,459,000 shares of common stock. Dividends payable on these
preferred shares accrue at the rate of 8% per year and are payable
quarterly in stock or cash at the option of the Company. The
Company generally pays the dividends on the preferred stock by
issuing shares of our common stock. The formula for paying this
dividend using common stock in lieu of cash can change the
effective yield on the dividend to more or less than 8% depending
on the market price of the common stock at the time of issuance. As
of
December
31
, 2018, there were also issued and outstanding 1,440,000
shares of Series C Non-Voting Convertible Preferred Stock
(“Series C Preferred”). The Series C Preferred shares
are non-voting, do not receive dividends, and have no liquidation
preferences or redemption rights.
Note 5. Comprehensive (Loss) Income
For the
three and six months ended December 31, 2018 and 2017,
comprehensive (loss) income was equal to the net (loss) income as
presented in the accompanying condensed consolidated statements of
operations.
Note 6. Inventories
Inventories
consisted of the following:
|
|
|
Raw
materials
|
$
5,390,658
|
$
6,216,150
|
Work in
process
|
580,397
|
625,830
|
Finished
goods
|
4,887,693
|
4,604,264
|
Inventory
obsolescence reserve
|
(423,244
)
|
(458,389
)
|
|
$
10,435,504
|
$
10,987,855
|
Note 7. Related-Party Transactions
The
Company leases office, manufacturing and warehouse facilities in
Detroit, Michigan, Hopkins, Minnesota, Northvale, New Jersey and
Eagan, Minnesota from employees, shareholders and entities
controlled by shareholders, who were previously principals of
businesses acquired by the Company. The combined expenses
associated with these related-party transactions totaled
$261,780
and $257,400
for the three months
ended December 31, 2018 and 2017, respectively, and
$523,560
and $
365,400
for
the six months ended December 31, 2018 and 2017,
respectively.
Note 8. Line of Credit
On March 31, 2017, the Company entered into an $8,000,000, loan and
security agreement with Bank of the West to provide asset-based
financing to the Company for funding acquisitions and for working
capital (“Line of Credit”)
. The Line of Credit
provided for revolving credit borrowings by the Company in an
amount up to the lesser of $8,000,000 or the calculated borrowing
base. The borrowing base is computed monthly and is equal to the
sum of stated percentages of eligible accounts receivable and
inventory, less a reserve. Amounts outstanding bear interest at
LIBOR plus 2.25%.
On
September 28, 2017, the Company modified the Line of Credit to
provide additional capital for funding the Bird & Cronin
acquisition and for operating capital. The Line of Credit, as
amended, provides for revolving credit borrowings by the Company in
an amount up to the lesser of $11,000,000 or the calculated
borrowing base.
On July 13, 2018,
the Company further amended the Line of Credit to modify the
maximum monthly consolidated leverage and a minimum monthly
consolidated fixed charge coverage ratio.
An additional
modification was executed on November 9, 2018, to extend the
maturity date to December 15, 2020.
Borrowings
on the Line of Credit were $
5,148,356
and
$6,286,037
as of December 31, 2018 and June 30, 2018, respectively. As of
December 31, 2018, there was approximately
$
2,233,000
available to
borrow.
Note 9. Accrued Payroll and Benefits Expense
As of
December 31, 2018 and June 30, 2018,
the
accrued payroll and benefits
expense
balance
included
$390,385
and
$473,146
,
respectively, of accrued severance expense. As of December 31, 2018
and June 30, 2018, long-term severance accrual included in other
liabilities was
$125,000
and
$258,145
,
respectively. Quarterly payments will be made in cash through March
31, 2020. The Company recognized
$27,196 and
$131,053
in severance expense during the three and six months ended
December 31, 2018, respectively. Severance expense is included in
selling, general, and administrative expenses.
Note 10. Revenue
On July 1, 2018, the Company adopted ASC 606,
Revenue from Contracts with Customers
,
which establishes principles for recognizing revenue and reporting
information about the nature, amount, timing and uncertainty of
revenue and cash flows arising from contracts with customers. The
guidance was applied using the modified retrospective transition
method. The adoption of this guidance had no material impact on the
amount and timing of revenue recognized, therefore, no adjustments
were recorded to the consolidated financial statements upon
adoption. For the three and six months ended December 31, 2018,
revenue recognized would not have differed materially had revenue
continued to be recognized under ASC 605.
Revenue is recognized when performance obligations under the terms
of a contract with a customer are satisfied which occurs upon the
transfer of control of a product. This occurs either upon shipment
or delivery of goods, depending on whether the contract is FOB
origin or FOB destination.
Revenue
is measured as the amount of consideration expected to be received
in exchange for transferring products to a
customer.
Contracts sometimes allow for forms of variable consideration
including rebates and incentives. In these cases, the Company
estimates the amount of consideration to which it will be entitled
in exchange for transferring products to customers utilizing the
most likely amount method. Rebates and incentives are estimated
based on contractual terms or historical experience and a liability
is maintained for rebates and incentives that have been earned but
are unpaid. As of December 31, 2018 and June 30, 2018, the rebate
liability was $168,000 and $0, respectively. The rebate liability
is included in accrued expenses
in the accompanying
condensed consolidated balance sheets
.
Revenue is reduced by estimates of potential future contractual
discounts including prompt payment discounts. Provisions for
contractual discounts are recorded as a reduction to revenue in the
period sales are recognized. Estimates are made of the contractual
discounts that will eventually be incurred. Contractual discounts
are estimated based on negotiated contracts and historical
experience. As of
December
31, 2018 and June 30, 2018
, the allowance for sales
discounts was $14,500 and $0, respectively.
The
allowance for sales discounts is included in trade accounts
receivable, less allowance for doubtful accounts
in the accompanying
condensed consolidated balance sheets
.
The Company made an accounting policy election to account for
shipping and handling activities as fulfillment activities. As
such, shipping and handling are not considered promised services to
our customers.
Costs for shipping
and handling of products to customers are recorded as cost of
sales.
The following table disaggregates revenue by major product
category:
|
Three Months Ended
December 31
|
Six Months Ended
December 31
|
|
|
|
|
|
Orthopedic
Soft Goods and Medical Supplies
|
$
7,425,979
|
$
7,894,739
|
$
15,118,094
|
$
10,090,527
|
Physical
Therapy and Rehabilitation Equipment
|
7,932,504
|
9,975,047
|
17,157,398
|
20,393,202
|
Other
|
81,483
|
211,547
|
230,309
|
395,575
|
|
$
15,439,966
|
$
18,081,333
|
$
32,505,801
|
$
30,879,304
|
NOTE 11. SUBSEQUENT EVENTS
In January 2019, the Company issued 74,731 shares of common stock
as payment of dividends totaling approximately $203,000 with
respect to the Series A Preferred and Series B Preferred that
accrued during the three months ended December 31,
2018.
C
AUTIONARY NOTE REGARDING
F
ORWARD-LOOKING
STATEMENTS
This report includes estimates, projections,
statements relating to our business plans, objectives, and expected
operating results that are “forward-looking statements”
within the meaning of the Private Securities Litigation Reform Act
of 1995, Section 27A of the Securities Act of 1933, and Section 21E
of the Securities Exchange Act of 1934. Forward-looking statements may
appear throughout this report, including the following section,
“Management’s Discussion and Analysis of Financial
Condition and Results of Operations.”
These
statements refer to our expectations, hopes, beliefs,
anticipations, commitments, intentions and strategies regarding the
future. They may be identified by the use of words or phrases such
as “believes,” “expects,”
“anticipates,” “should,”
“plans,” “estimates,”
“intends,” and “potential,” among others.
Forward-looking statements include, but are not limited to,
statements regarding product development, market acceptance,
financial performance, revenue and expense levels in the future and
the sufficiency of existing assets to fund future operations and
capital spending needs. Actual results could differ materially from
the anticipated results or other expectations expressed in such
forward-looking statements. The forward-looking statements
contained in this report are made as of the date of this report and
we assume no obligation to update them or to update the reasons why
actual results could differ from those projected in such
forward-looking statements, except as required by law.
We have
based our forward-looking statements on management’s current
expectations and projections about trends affecting our business
and industry and other future events. Although we do not make
forward-looking statements unless we believe we have a reasonable
basis for doing so, we cannot guarantee their accuracy.
Forward-looking statements are subject to substantial risks and
uncertainties that could cause our future business, financial
condition, results of operations or performance to differ
materially from our historical results or those expressed or
implied in any forward-looking statement contained in this report.
Some of the risks and uncertainties that may cause actual results
to differ from those expressed or implied in the forward-looking
statements are described in the section “Risk Factors”
included in Part I, Item 1A of our Annual Report on Form 10-K for
the fiscal year ended June 30, 2018, filed with the SEC, as well as
in our other public filings with the SEC. In addition, actual
results may differ as a result of additional risks and
uncertainties of which we are currently unaware or which we do not
currently view as material to our business.
You
should read this report in its entirety, together with the
documents that we file as exhibits to this report and the documents
that we incorporate by reference into this report, with the
understanding that our future results may be materially different
from what we currently expect. The forward-looking statements we
make speak only as of the date on which they are made. We expressly
disclaim any intent or obligation to update any forward-looking
statements after the date hereof to conform such statements to
actual results or to changes in our opinions or expectations,
except as required by applicable law or the rules of The Nasdaq
Stock Market, LLC. If we do update or correct any forward-looking
statements, investors should not conclude that we will make
additional updates or corrections.
We
qualify all of our forward-looking statements by these cautionary
statements.
I
tem 2. Management’s Discussion and
Analysis of Financial Condition and Results of
Operations
Y
ou should read the
following discussion and analysis
in conjunction with the Unaudited
Condensed Consolidated Financial Statements and Notes thereto that
are contained in this quarterly report, as well as
Management’s Discussion and Analysis of Financial Condition
and Results of Operations included in our Annual Report on Form
10-K for the year ended June 30, 2018, and our other filings,
including Current Reports on Form 8-K, that we have filed with the
SEC through the date of this report
.
We have rounded many numbers to the nearest
one thousand dollars in
the following
analysis. These numbers should be read as
approximate. All inter-company transactions have been
eliminated.
Our fiscal
year ends on
June 30. For
example, reference to fiscal year 2019 refers to the year ending
June 30, 2019.
This report
covers the three and six months ended December 31, 2018.
Results of operations for the
three and six months ended December 31, 2018 are not necessarily
indicative of the results that may be achieved for the full fiscal
year ending June 30,
2019.
Overview
Dynatronics
Corporation
(“Company,” “Dynatronics,”
“we”)
is a medical device company committed to
providing high-quality restorative products designed to accelerate
one to their optimal health. The Company designs, manufactures, and
sells a broad range of products for clinical use in physical
therapy, rehabilitation, pain management, and athletic training.
Through its distribution channels, Dynatronics markets and sells to
orthopedists, physical therapists, chiropractors, athletic
trainers, sports medicine practitioners, clinics, hospitals, and
consumers.
Results of Operations
Net Sales
Net
sales decreased $2,641,000, or 14.6%, to $15,440,000 for the
quarter ended
December
31, 2018
, compared to net sales of $18,081,000 for the
quarter ended December 31, 2017. The year-over-year decrease in net
sales was driven primarily by lower sales of physical therapy and
rehabilitation equipment of approximately $2,613,000. The lower
sales are reflective of general softness in demand in our direct
sales channel, transitions in our sales force, and our product
rationalization strategy.
Net
sales increased $1,626,000, or 5.3%, to $32,506,000 for the six
months ended
December
31, 2018
, compared to net sales of $30,879,000 for the six
months ended
December
31, 2017
. The year-over-year increase in net sales included
an increase of $5,974,000 attributable to the acquisition of Bird
& Cronin partially offset primarily by lower sales of physical
therapy and rehabilitation equipment and other revenue of
approximately $4,347,000 compared to the prior year period.
The
lower sales are relective of general softness in demand in our
direct sales channel,
transitions in our
sales force
, and our product rationalization
strategy.
Gross Profit
Gross profit for the
quarter ended
December 31, 2018
decreased
$1,090,000, or about
18.9%, to $4,680,000, or 30.3% of net sales
. By comparison, gross profit
for the
quarter ended
December
31, 2017
was
$5,770,000,
or 31.9% of net sales
.
Gross
profit for the quarter ended December 31, 2018 was adversely
affected primarily by: (1) lower sales which accounted for
approximately $788,000 in lower gross profit, and (2) reduced gross
margin percentage resulting in $302,000 lower gross profit. The
year-over-year decrease in gross margin percentage to 30.3% from
31.9% was due primarily to physical therapy and rehabilitation
equipment sales, which had a lower gross margin percentage in the
quarter ended December 31, 2018 due to a larger portion of our
products being sold through our third-party distribution partners
as we have experienced lower direct sales.
Gross profit for the
six months ended
December 31, 2018
increased
$118,000, or about
1.2%, to $10,227,000, or 31.5% of net sales
. By comparison, gross profit
for the six
months ended
December
31, 2017
was
$10,109,000, or 32.7% of net sales
.
The year-over-year increase in gross
profit included an increase of $2,026,000 attributable to the
acquisition of Bird & Cronin partially offset by: (1) lower
sales which accounted for approximately $1,388,000 in lower gross
profit, and (2) reduced gross margin percentage resulting in
$521,000 lower gross profit. The year-over-year decrease in gross
margin percentage to 31.5% from 32.7% was primarily due to physical
therapy and rehabilitation equipment sales, which had a lower gross
margin percentage in the six months ended December 31, 2018
due to a larger
portion of our products being sold through our third-party
distribution partners as we have experienced lower direct
sales.
Selling, General and Administrative Expenses
Selling, general
and administrative (“SG&A”) expenses decreased
$891,000, or 15.7%, to $4,773,000 for the quarter ended
December 31,
2018
, compared to $5,663,000 for the quarter ended
December 31,
2017
. Selling expenses represented $531,000 of the decrease
in SG&A expenses, primarily due to lower fixed sales management
salaries and expenses and reduced commissions on lower sales during
the quarter. General and administrative (“G&A”)
expenses increased $179,000 compared to the prior year period. The
primary components of the increase in G&A expenses included:
(1) $135,000 in other G&A expenses and (2) $129,000 in
increased salaries and benefits. Increased G&A expense in the
quarter ended December 31, 2018 was partially offset by a $85,000
decrease in acquisition expenses compared to the prior year period.
Research and development (“R&D”) expenses for the
quarter ended
December
31, 2018
decreased $539,000, or 97.4%, to $14,000 from
$553,000 in the quarter ended December 31, 2017
.
The decrease is primarily due to
the re-purposing of our engineering resources to operational
improvements
and $325,000 in
costs incurred on a project which was abandoned during the quarter
ended December 31, 2017
.
SG&A expenses
increased $531,000, or 5.5%, to $10,269,000 for the six months
ended December 31, 2018, compared to $9,738,000 for the six months
ended
December 31,
2017
. Selling expenses decreased $331,000 compared to the
prior year period which included
an increase of
$497,000 associated with the acquired Bird & Cronin operations,
offset by $828,000 in lower selling costs due primarily to
l
ower
fixed sales management salaries and expenses and reduced
commissions on lower
sales during the six months ended
December 31, 2018. G&A expenses increased $1,642,000 compared
to the prior year period.
The primary components of the
increase in G&A expenses included: (1) $1,231,000 added by the
acquired Bird & Cronin operations; (2) $124,000 in severance
expense; (3) $257,000 in other G&A expenses; and (4) $323,000
in increased salaries and benefits. Increased G&A expense in
the six months ended December 31, 2018 was partially offset by a
$293,000 decrease in acquisition expenses compared to the prior
year period. R&D expenses for the six months ended
December 31, 2018
decreased
$780,000, or 96.8%, to $26,000 from $805,000 in the six months
ended December 31, 2017
.
The decrease is primarily due to
the re-purposing of our engineering resources to operational
improvements and $325,000 in costs incurred on a project which was
abandoned during the six months ended December 31,
2017.
Net (Loss) Income Before Income Tax (Provision)
Benefit
Pre-tax loss for
the quarter ended December 31, 2018 was $237,000 compared to
pre-tax income of $14,000 for the quarter ended December 31, 2017.
The $251,000 decline in pre-tax income was primarily attributable
to the impact of (1) $1,090,000 decline in gross profit; and (2)
$38,000 in higher interest expense due to an increase in the
average balance of our line of credit and higher interest rates
partially offset by $891,000 in decreased SG&A expenses.
Pre-tax income for
the six months
ended
December 31,
2018
was $79,000 compared to $213,000 for the six
months ended December 31, 2017. The $134,000 decrease in pre-tax
income was attributable to the impact of (1) $531,000 in increased
SG&A expense; and
(2) $82,000 in
increased interest expense due to an increase in the average
balance of our line of credit and higher interest rates partially
offset by
(1) $118,000 improvement in gross profit;
and (2) $375,000 increase in other income due to the
change in the fair
value of the earn-out payment related to the Bird & Cronin
acquisition
.
Income Tax (Provision) Benefit
Income
tax provision was $204,000 for three and six months ended December
31, 2018, respectively.
This compares to
income tax provision of $0 for both the quarter and six months
ended December 31, 2017.
See
Liquidity and Capital Resources - Deferred
Income Taxes
below for more information.
Net (Loss) Income
Net
loss was
$441,000
for
the quarter ended December 31, 2018, compared to net income of
$14
,000
for the
quarter ended December 31, 2017. Net loss was $125,000 for the six
months ended December 31, 2018, compared to net income of $213,000
for the six months ended December 31, 2017. The reasons for the
change in net (loss) income are the same as those given under the
heading
Net (Loss) Income Before
Income Tax
and
Income Tax
(Provision) Benefit
.
Net Loss Attributable to Common Stockholders
Net
loss attributable to common stockholders decreased
$671,000 to $644,000
for the
quarter ended December 31, 2018, compared to net loss attributable
to common stockholders of $
1,315,000
for the quarter ended
December 31, 2017. The decrease in net loss attributable to common
stockholders for the quarter is due primarily to: (1) a $102,000
decrease in preferred stock dividends; and (2) a $1,024,000
decrease in deemed dividends and accretion of discounts partially
offset by
a $455,000 increase
in net loss
. On a per share basis, net loss attributable to
common stockholders was $
0.08
per share for the quarter
ended December 31, 2018, compared to $
0.23
per share for the quarter
ended December 31, 2017. Net loss attributable to common
stockholders decreased
$788,000 to $515,000
for the six
months ended December 31, 2018, compared to net loss attributable
to common stockholders of $
1,303,000
for the six months ended
December 31, 2017. The decrease in net loss attributable to common
stockholders for the six months is due primarily to
: (1) a $103,000
decrease in preferred stock dividends; and (2) a $1,024,000
decrease in deemed dividends and accretion of discounts partially
offset by
a $338,000 increase
in net loss.
On a per share basis, net loss
attributable to common stockholders was $
0.06
per share for the six months
ended December 31, 2018, compared to $
0.25
per share for the six months
ended December 31, 2017.
Liquidity and Capital
Resources
We have
historically financed operations through cash from operating
activities, available cash reserves, borrowings under a line of
credit facility (see,
Line of
Credit,
below) and proceeds from the sale of our equity
securities. During the quarter and six months ended December 31,
2018, we had positive cash flows from operating activities.
We
believe that our existing revenue stream, cash flows from operating
activities, current capital resources, and borrowing availability
under the line of credit provide sufficient liquidity to fund
operations through at least February 13, 2020.
Working
capital was
$6,242,00
0
as of December 31, 2018, compared to working capital of
$
6,837,000
as of June
30, 2018. The current ratio was
1.5
to 1 as of December 31, 2018
and
1.5 t
o 1 as of
June 30, 2018.
Cash and Cash Equivalents
Our
cash and cash equivalents position decreased
$1,173,000 to $524,000 a
s of
December 31, 2018, compared to
$1,696,000
as of June 30, 2018.
The primary source of cash in the six months ended December 31,
2018, was approximately $1,128,000 of net cash provided by
operating activities. The primary use of cash in the six months
ended December 31, 2018 was approximately $1,138,000 in net
payments on the line of credit and $913,000 in payments of
acquisition holdbacks.
Accounts Receivable
Trade
accounts receivable, net of allowance for doubtful accounts,
decreased approximately $
880,000, or 11.3%, to
$6,931
,000
as of December 31, 2018, from
$7,811,000 as
of June
30, 2018. Trade accounts receivable represents amounts due from our
customers including dealers and distributors, medical
practitioners, clinics, hospitals, colleges, universities and
sports teams. We believe that our estimate of the allowance for
doubtful accounts is adequate based on our historical experience
and relationships with our customers. Accounts receivable are
generally collected within approximately 40 days of
invoicing.
Inventories
Inventories, net of
reserves, decreased
$552,000
or 5.0%, to $10,436,000
as of December 31, 2018, compared to
$
10,988,000
as of June
30, 2018. Inventory levels fluctuate based on timing of large
inventory purchases from domestic and overseas suppliers as well as
variations in sales and production activities. We believe that our
allowance for inventory obsolescence is adequate based on our
analysis of inventory, sales trends, and historical
experience.
Accounts Payable
Accounts payable
decreased approximately
$322,000 or 9.4%, to $3,091,000
as
of December 31, 2018, from $
3,413,000
as of June 30, 2018.
The decrease
in accounts payable was driven primarily by a decrease in the
volume of purchases.
Line of Credit
Our
line of credit balance decreased
$1,138,000 to $5,148,000
as of
December 31, 2018, compared to
$6,286,000
as of June 30, 2018.
The decrease was driven primarily by a decrease in our cash balance
by approximately $1,173,000.
Debt
Long-term debt,
excluding current installments, decreased
$88,000 to $215,000
as of December
31, 2018, compared to
$303,000
as of June 30, 2018. Our
long-term debt is primarily comprised of the mortgage loan on our
office and manufacturing facility in Tennessee and also includes
loans related to equipment and a vehicle.
In
conjunction with the sale and leaseback of our corporate
headquarters in August 2014, we entered into a $3,800,000 lease for
a 15-year term with an investor group. That sale generated a profit
of $2,300,000 which was deferred and is being recognized monthly
over the life of the lease at $13,000 per month, or approximately
$150,000 per year. The building lease is recorded as a capital
lease with the related amortization being recorded on a straight
line basis over 15 years at approximately $252,000 per year. Lease
payments, currently approximately $27,000, are payable monthly and
increase annually by approximately 2% per year over the life of the
lease. Total accumulated amortization related to the leased
building is approximately $1,113,000 at December 31, 2018. Imputed
interest for the quarter ended December 31, 2018, was approximately
$42,000.
Deferred Income Taxes
A
valuation allowance is required when there is significant
uncertainty as to the realizability of deferred income tax assets.
The ability to realize deferred income tax assets is dependent upon
our ability to generate sufficient taxable income within the
carryforward periods provided for in the tax law for each
tax jurisdiction.
We
have determined that we do not meet the “more likely than
not” threshold that deferred income tax assets will be
realized. Accordingly, a valuation allowance is required. Any
reversal of the valuation allowance in future periods will
favorably impact our results of operations in the period of
reversal. As of December 31, 2018 and June 30, 2018, we recorded a
full valuation allowance against our net deferred income tax
assets.
As a result of a
temporary book to tax difference associated with the amortization
of goodwill for tax purposes, i
ncome tax expense is $204,000
for the three and six months ended December 31, 2018 and the
balance of a
related deferred tax liability is $204,000 as of December 31,
2018
.
Stock Repurchase Plans
We have
a stock repurchase plan available to us at the discretion of the
Board of Directors. Approximately $449,000 remained of this
authorization as of December 31, 2018. No purchases have been made
under this plan since September 28, 2011.
Off-Balance Sheet Arrangements
As of
December 31, 2018, we had no off-balance sheet
arrangements.
Critical Accounting Policies
The
preparation of our financial statements requires that we make
estimates and judgments. We base these on historical experience and
on other assumptions that we believe to be reasonable. Our critical
accounting policies are discussed in Item 7,
“Management’s Discussion and Analysis of Financial
Condition and Results of Operations” section of our Form 10-K
for the year ended June 30, 2018. There have been no material
changes to the critical accounting policies previously disclosed in
that report.