NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
DECEMBER
31, 2016
Note
1. Summary of Significant Accounting Policies
In
these notes, the terms “MFC” and “Company” mean Microwave Filter Company, Inc. and its subsidiary companies.
The
following condensed balance sheet as of September 30, 2016, which has been derived from audited financial statements, and the
unaudited interim condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and note disclosures normally included in annual financial statements
prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to those rules and
regulations, although the company believes that the disclosures made are adequate to make the information not misleading. In the
opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation
have been included. The operating results for the three month period ended December 31, 2016 are not necessarily indicative of
the results that may be expected for the year ended September 30, 2017. For further information, refer to the consolidated financial
statements and notes thereto included in the Company’s Annual Report on Form 10K for the year ended September 30, 2016.
Note
2. Industry Segment Data
The
Company’s primary business segment involves the operations of Microwave Filter Company, Inc. which designs, develops, manufactures
and sells electronic filters, both for radio and microwave frequencies, to help process signal distribution and to prevent unwanted
signals from disrupting transmit or receive operations. Markets served include cable television, television and radio broadcast,
satellite broadcast, mobile radio, commercial communications and defense electronics.
Note
3. Inventories
Inventories
are stated at the lower of cost determined on the first-in, first-out method or market.
Inventories
net of the reserve for obsolescence consisted of the following:
|
|
December
31, 2016
|
|
September
30, 2016
|
|
|
|
|
|
Raw materials and stock
parts
|
|
$
|
319,208
|
|
|
$
|
324,749
|
|
Work-in-process
|
|
|
16,003
|
|
|
|
54,716
|
|
Finished goods
|
|
|
86,182
|
|
|
|
69,282
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
421,393
|
|
|
$
|
448,747
|
|
The
Company’s reserve for obsolescence equaled $435,528 at December 31, 2016 and September 30, 2016. The Company provides for
a valuation reserve for certain inventory that is deemed to be obsolete, of excess quantity or otherwise impaired.
Note
4. Income Taxes
The
Company accounts for income taxes under FASB ASC 740-10. Deferred tax assets and liabilities are based on the difference between
the financial statement and tax basis of assets and liabilities as measured by the enacted tax rates which are anticipated to
be in effect when these differences reverse. The deferred tax provision is the result of the net change in the deferred tax assets
and liabilities. A valuation allowance is established when it is necessary to reduce deferred tax assets to amounts expected to
be realized. The Company has provided a full valuation allowance against its deferred tax assets.
FASB
ASC 740-10 clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements and prescribes
a recognition threshold and measurement attributes for financial statement disclosure of tax positions taken or expected to be
taken on a tax return. Additionally, it provides guidance on derecognition, classification, interest and penalties, accounting
in interim periods, disclosure and transition. The Company determined it has no uncertain tax positions and therefore no amounts
are recorded.
Note
5. Legal Matters
None.
Note
6. Fair Value of Financial Instruments
The
carrying values of the Company’s cash and cash equivalents, accounts receivable and accounts payable approximate fair value
because of the short maturity of those instruments.
The
Company currently does not trade in or utilize derivative financial instruments.
Note
7. Significant Customers
Sales
to one Original Equipment Manufacturer (“OEM”) customer represented approximately 43% of total sales for the three
months ended December 31, 2016 compared to approximately 30% of total sales for the three months ended December 31, 2015. This
one customer has represented approximately 28%, 33%, and 25% of total sales for the fiscal years ending September 30, 2016, 2015
and 2014, respectively. These sales are in connection with a multiyear program in which the Company is a subcontractor. A loss
of this customer or programs related to this customer could materially impact the Company.
Note
8. Notes Payable
On
July 2, 2013, the Company entered into a Ten Year Term Loan with KeyBank National Association in the amount of Five Hundred Thousand
and No/100 Dollars ($500,000.00). The amount of all advances outstanding together with accrued interest thereon shall be due and
payable on July 2, 2023 (“Maturity”). The Company shall pay interest on the outstanding principal balance of this
Note at the rate per annum equal to 4.5%. The net proceeds from the Term Loan will be available to provide working capital as
needed. The total amount outstanding as of December 31, 2016 and September 30, 2016 was $354,175 and $365,650 respectively. Interest
accrued as of December 31, 2016 and September 30, 2016 was $1,283 and $1,280 respectively.
The
Company has secured this Note by: (a) a Mortgage, Assignment of Rents, Security Agreement and Fixture Filing which creates a 1
st
lien on real property situated in the Town of Dewitt, County of Onondaga, and State of New York and known as 6743 Kinne
Street, East Syracuse, New York; (b) a General Assignment of Rents and Leases; (c) an Environmental Compliance and Indemnification;
and (d) such other security as may now or hereafter be given to Lender as collateral for the loan.
Note
9. Earnings Per Share
The
Company presents basic earnings per share (“EPS”), computed based on the weighted average number of common shares
outstanding for the period, and when applicable diluted EPS, which gives the effect to all dilutive potential shares outstanding
(i.e. options) during the period after restatement for any stock dividends. There were no dividends declared during the quarters
ending December 31, 2016 and 2015. Income (loss) used in the EPS calculation is net income (loss) for each period. There were
no dilutive potential shares outstanding for the periods ending December 31, 2016 and 2015.
Note
10. Recent Accounting Pronouncements
Management
has reviewed the most recent accounting pronouncements issued by the various authoritative standard setting bodies:
Update
2015-11-
Inventory (Topic 330): Simplifying the Measurement of Inventory,
is effective for fiscal years beginning after
December 15, 2016, including interim periods within those fiscal years. Under the new standard, businesses that use the first-in,
first-out (FIFO) or average cost method are required to measure inventory at the lower of cost or net realizable value (“NRV”),
as defined, instead of at the lower of cost or market value. Management feels the updated standard, to be adopted on a prospective
basis, would not represent a material impact to the Company’s financial statements.
Update
2015-17
- Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes
addresses the requirement to reclassify
all current deferred income tax assets and liabilities on the balance sheet as non-current assets and liabilities, and is effective
for financial statements issued for annual periods beginning after December 15, 2016, and interim periods within those annual
periods, with early adoption permitted. As explained in Note 4, the Company has provided a full valuation allowance against its
deferred tax assets, and thus there will be no impact from the adoption of this updated standard in the current year or on the
balance sheet of any of the periods presented.
Update
2015-14-
Revenue from Contracts with Customers (Topic 606)
: affects any entity that either enters into contracts with customers
to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within
the scope of other standards (for example, insurance contracts or lease contracts). The core principle of the guidance is that
an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects
the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance is applicable
to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period.
Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting
periods within that reporting period. Management plans to evaluate the applicability and impact of the adoption of this standards
update over the coming year.
MICROWAVE FILTER COMPANY,
INC.
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Business Overview
Microwave Filter Company, Inc. operates primarily
in the United States and principally in one industry. The Company extends credit to business customers based upon ongoing credit
evaluations. Microwave Filter Company, Inc. designs, develops, manufactures and sells electronic filters, both for radio and microwave
frequencies, to help process signal distribution and to prevent unwanted signals from disrupting transmit or receive operations.
Markets served include cable television, television and radio broadcast, satellite broadcast, mobile radio, commercial communications
and defense electronics.
Critical Accounting Policies
The Company’s condensed consolidated
financial statements are based on the application of United States generally accepted accounting principles (GAAP). GAAP requires
the use of estimates, assumptions, judgments and subjective interpretations of accounting principles that have an impact on the
assets, liabilities, revenue and expense amounts reported. The Company believes its use of estimates and underlying accounting
assumptions adhere to GAAP and are consistently applied. Valuations based on estimates are reviewed for reasonableness and adequacy
on a consistent basis throughout the Company. Primary areas where financial information of the Company is subject to the use of
estimates, assumptions and the application of judgment include revenues, receivables, inventories, warranty reserves and taxes.
Note 1 to the consolidated financial statements in our Annual Report on Form 10-K for the fiscal year ended September 30, 2016
describes the significant accounting policies used in preparation of the condensed consolidated financial statements. The most
significant areas involving management judgments and estimates are described below and are considered by management to be critical
to understanding the financial condition and results of operations of the Company.
Revenues from product sales are recorded as
the products are shipped and title and risk of loss have passed to the customer, provided that no significant vendor or post-contract
support obligations remain and the collection of the related receivable is probable. Billings in advance of the Company’s
performance of such work are reflected as customer deposits in the accompanying condensed consolidated balance sheet.
Allowances for doubtful accounts are based
on estimates of losses related to customer receivable balances. The establishment of reserves requires the use of judgment and
assumptions regarding the potential for losses on receivable balances.
The Company’s inventories are stated
at the lower of cost determined on the first-in, first-out method or market. The Company uses certain estimates and judgments and
considers several factors including product demand and changes in technology to provide for excess and obsolescence reserves to
properly value inventory.
The Company established a warranty reserve
which provides for the estimated cost of product returns based upon historical experience and any known conditions or circumstances.
The warranty obligation is affected by product that does not meet specifications and performance requirements and any related costs
of addressing such matters. Products must be returned within one year of the date of purchase.
The Company accounts for income taxes under
FASB ASC 740-10. Deferred tax assets and liabilities are based on the difference between the financial statement and tax basis
of assets and liabilities as measured by the enacted tax rates which are anticipated to be in effect when these differences reverse.
The deferred tax provision is the result of the net change in the deferred tax assets and liabilities. A valuation allowance is
established when it is necessary to reduce deferred tax assets to amounts expected to be realized. The Company has provided a full
valuation allowance against its deferred tax assets.
RESULTS OF OPERATIONS
THREE MONTHS ENDED DECEMBER 31, 2016 vs. THREE
MONTHS ENDED DECEMBER 31, 2015
The following table sets forth the Company’s
net sales by major product group for the three months ended December 31, 2016 and 2015.
Product group
|
|
Fiscal 2017
|
|
|
Fiscal 2016
|
|
Microwave Filter (MFC):
|
|
|
|
|
|
|
|
|
RF/Microwave
|
|
$
|
449,044
|
|
|
$
|
329,696
|
|
Satellite
|
|
|
162,437
|
|
|
|
250,443
|
|
Cable TV
|
|
|
123,602
|
|
|
|
95,042
|
|
Broadcast TV
|
|
|
42,905
|
|
|
|
90,222
|
|
Niagara Scientific (NSI):
|
|
|
1,386
|
|
|
|
2,144
|
|
Total
|
|
$
|
779,374
|
|
|
$
|
767,547
|
|
|
|
|
|
|
|
|
|
|
Sales backlog at December 31
|
|
$
|
709,156
|
|
|
$
|
880,669
|
|
Net sales for the three months ended December
31, 2016 equaled $779,374, an increase of $11,827 or 1.5%, when compared to net sales of $767,547 for the three months ended December
31, 2015.
MFC’s RF/Microwave product sales increased
$119,348 or 36.2% to $449,044 for the three months ended December 31, 2016 when compared to RF/Microwave product sales of $329,696
during the same period last year. MFC’s RF/Microwave products are sold primarily to Original Equipment Manufacturers that
serve the mobile radio, commercial communications and defense electronics markets. Sales to one OEM customer increased $103,435
to $332,805 or approximately 43% of total sales for the three months ended December 31, 2016 compared to sales of $229,370 or approximately
30% of total sales for the three months ended December 31, 2015. These sales are in connection with a multiyear program in which
the Company is a subcontractor. The Company continues to invest in production engineering and infrastructure development to penetrate
OEM market segments as they become popular. MFC is concentrating its technical resources and product development efforts toward
potential high volume customers as part of a concentrated effort to provide substantial long-term growth. Over the last year, MFC,
in conjunction with various OEM’s, has developed and supplied prototypes as well as small production runs in support of new
programs being introduced to the marketplace. It is our belief that a continuation of this effort will help increase sales as well
as reinforcing MFC’s position as a quality manufacturer of RF filters and assemblies.
MFC’s
Satellite product sales decreased $88,006 or 35.1% to $162,437 for the three months ended December 31, 2016 when compared to Satellite
product sales of $250,443 during the same period last year. The decrease in sales can be attributed to a decrease in demand for
the Company’s filters which suppress strong out-of-band interference caused by military and civilian radar systems and other
sources. Although economic conditions do impact sales, management expects demand for these types of filters to continue with the
proliferation of earth stations world-wide and increased sources of interference.
MFC’s
Cable TV product sales increased $28,560 or 30.0% to $123,602 for the three months ended December 31, 2016 when compared to Cable
TV product sales of $95,042 during the same period last year. Management continues to project flat or a decrease in demand for
Cable TV products due to the shift from analog to digital television. Due to the inherent nature of digital modulation versus analog
modulation, fewer filters will be required. The Company has developed filters for digital television and there will still be requirements
for analog filters for limited applications in commercial and private cable systems.
MFC’s
Broadcast TV/Wireless Cable product sales decreased $47,317 or 52.4% to $42,905 for the three months ended December 31, 2016 when
compared to sales of $90,222 during the same period last year. The decrease in sales can primarily be attributed to a decrease
in sales of wireless diplexers which were sold to one international customer last year.
The Company’s international sales decreased
$133,240 or 70.0% to $56,970 for the three months ended December 31, 2016 when compared to international sales of $190,210 during
the same period last year. The decrease in international sales can primarily be attributed to a decrease in sales of the Company’s
filters which suppress strong out-of-band interference caused by military and civilian radar systems and other sources and a decrease
in sales of the Company’s wireless diplexers.
MFC’s sales order backlog equaled $709,156
at December 31, 2016 compared to sales order backlog of $880,669 at December 31, 2015. However, backlog is not necessarily indicative
of future sales. Accordingly, the Company does not believe that its backlog as of any particular date is representative of actual
sales for any succeeding period. Approximately 87% of the sales order backlog at December 31, 2016 is scheduled to ship by September
30, 2017.
Gross profit for the three months ended December
31, 2016 equaled $249,101, a decrease of $9,704 or 3.7%, when compared to gross profit of $258,805 for the three months ended December
31, 2015. As a percentage of sales, gross profit equaled 32.0% for the three months ended December 31, 2016 compared to 33.7% for
the three months ended December 31, 2015. The decrease in gross profit as a percentage of sales can be attributed to higher direct
material costs and higher direct labor costs as a percentage of sales primarily due to product sales mix.
Selling, general and administrative (SGA) expenses
for the three months ended December 31, 2016 equaled $338,751, a decrease of $20,413 or 5.7%, when compared to SGA expenses of
$359,164 for the three months ended December 31, 2015. The decrease can primarily be attributed to lower payroll and payroll related
expenses primarily due to the retirement of the Company’s CEO in January 2016. As a percentage of sales, SGA expenses decreased
to 43.5% for the three months ended December 31, 2016 compared to 46.8% for the three months ended December 31, 2015 primarily
due to the lower expenses this year when compared to the same period last year.
The Company recorded a loss from operations
of $89,650 for the three months ended December 31, 2016 compared to a loss from operations of $100,359 for the three months ended
December 31, 2015. The improvement can primarily be attributed to the lower SGA expenses this year when compared to the same period
last year.
Other income
(expense) was an expense of $3,549 for the three months ended December 31, 2016 compared to an expense of $2,992 for the for the
three months ended December 31, 2015 primarily due to interest expense of $4,120 offset by miscellaneous non-operating income of
$571 for the three months ended December 31, 2016 and interest expense of $4,636 offset by miscellaneous non-operating income of
$1,644 for the three months ended December 31, 2015. Miscellaneous non-operating income generally consists of sales of scrap material
and the forfeiture of non-refundable deposits and other incidental items.
The (benefit) provision for income taxes equaled
$0 for the three months ended December 31, 2016 and December 31, 2015. We have not recognized any (benefit) provision for income
taxes. Any benefit for losses has been subject to a valuation allowance since the realization of the deferred tax benefit is not
considered more likely than not. As required by FASB ASC 740, the Company has evaluated the positive and negative evidence bearing
upon the realization of its deferred tax assets. The Company has determined that, at this time, it is more likely than not that
the Company will not realize all of the benefits of federal and state deferred tax assets, and, as a result, a valuation allowance
was established.
Off-Balance Sheet Arrangements
At December 31, 2016 and 2015, the Company
did not have any unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or
special purpose entities, which might have been established for the purpose of facilitating off-balance sheet arrangements.
LIQUIDITY and CAPITAL RESOURCES
MFC defines liquidity as the ability to generate
adequate funds to meet its operating and capital needs. The Company’s primary source of liquidity has been funds provided
by operations.
|
|
December 31, 2016
|
|
|
September 30, 2016
|
|
|
|
|
|
|
|
|
Cash & cash equivalents
|
|
$
|
931,789
|
|
|
$
|
923,117
|
|
Working capital
|
|
$
|
1,310,544
|
|
|
$
|
1,438,068
|
|
Current ratio
|
|
|
4.66 to 1
|
|
|
|
5.20 to 1
|
|
Long-term debt
|
|
$
|
306,990
|
|
|
$
|
318,998
|
|
Cash and cash equivalents increased $8,672
to $931,789 at December 31, 2016 when compared to cash and cash equivalents of $923,117 at September 30, 2016. The increase was
a result of $61,783 in net cash provided by operating activities, $41,636 in net cash used for capital expenditures and $11,475
in net cash used for repayment of a note payable.
Net cash provided by operating activities can
fluctuate between periods as a result of differences in net income, the timing of the collection of accounts receivable, purchase
of inventory and payment of accounts payable. The decrease of $99,339 in accounts receivable at December 31, 2016 when compared
to September 30, 2016 can primarily be attributed to the timing of shipments and collections.
On July 2, 2013, the Company entered into a
Ten Year Term Loan with KeyBank National Association in the amount of Five Hundred Thousand and No/100 Dollars ($500,000.00). The
amount of all advances outstanding together with accrued interest thereon shall be due and payable on July 2, 2023 (“Maturity”).
The Company shall pay interest on the outstanding principal balance of this Note at the rate per annum equal to 4.5%. The net proceeds
from the Term Loan will be available to provide working capital as needed.
Management believes that its working capital
requirements for at least the next twelve months will be met by its existing cash balances, future cash flows from operations and
its current credit arrangements.
SAFE HARBOR STATEMENT UNDER THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
In an effort to provide investors a balanced
view of the Company’s current condition and future growth opportunities, this Quarterly Report on Form 10-Q includes comments
by the Company’s management about future performance. These statements which are not historical information are “forward-looking
statements” pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These, and other
forward-looking statements, are subject to business and economic risks and uncertainties that could cause actual results to differ
materially from those discussed. These risks and uncertainties include, but are not limited to: risks associated with demand for
and market acceptance of existing and newly developed products as to which the Company has made significant investments; general
economic and industry conditions; slower than anticipated penetration into the satellite communications, mobile radio and commercial
and defense electronics markets; competitive products and pricing pressures; increased pricing pressure from our customers; risks
relating to governmental regulatory actions in broadcast, communications and defense programs; as well as other risks and uncertainties,
including but not limited to those detailed from time to time in the Company’s Securities and Exchange Commission filings.
These forward-looking statements are made only as of the date hereof, and the Company undertakes no obligation to update or revise
the forward-looking statements, whether as a result of new information, future events or otherwise. You are encouraged to review
Microwave Filter Company’s 2016 Annual Report and Form 10-K for the fiscal year ended September 30, 2016 and other Securities
and Exchange Commission filings. Forward looking statements may be made directly in this document or “incorporated by reference”
from other documents. You can find many of these statements by looking for words like “believes,” “expects,”
“anticipates,” “estimates,” or similar expressions.