Item
1 – Condensed Financial Statements
CONDENSED
BALANCE SHEETS
|
|
June
30,
|
|
|
December
31,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
(Unaudited)
|
|
|
|
(Note
1)
|
|
ASSETS
|
|
|
|
|
|
|
|
|
Current
Assets:
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
1,032,098
|
|
|
$
|
1,430,877
|
|
Accounts
receivable, net of allowance for doubtful accounts of $150,000 as of June 30, 2018 and December 31, 2017
|
|
|
5,390,545
|
|
|
|
5,379,821
|
|
Contract
assets
|
|
|
115,180,455
|
|
|
|
111,158,551
|
|
Prepaid
expenses and other current assets
|
|
|
2,697,349
|
|
|
|
2,413,187
|
|
|
|
|
|
|
|
|
|
|
Total
current assets
|
|
|
124,300,447
|
|
|
|
120,382,436
|
|
|
|
|
|
|
|
|
|
|
Property
and equipment, net
|
|
|
2,581,006
|
|
|
|
2,046,942
|
|
Deferred
income taxes, net
|
|
|
811,318
|
|
|
|
1,566,818
|
|
Other
assets
|
|
|
156,214
|
|
|
|
188,303
|
|
Total
Assets
|
|
$
|
127,848,985
|
|
|
$
|
124,184,499
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND SHAREHOLDERS’ EQUITY
|
|
|
|
|
|
|
|
|
Current
Liabilities:
|
|
|
|
|
|
|
|
|
Accounts
payable
|
|
$
|
12,248,936
|
|
|
$
|
15,129,872
|
|
Accrued
expenses
|
|
|
1,173,284
|
|
|
|
1,911,421
|
|
Contract
liabilities
|
|
|
583,580
|
|
|
|
246,330
|
|
Current
portion of long-term debt
|
|
|
2,370,013
|
|
|
|
2,009,000
|
|
Line
of credit
|
|
|
27,338,685
|
|
|
|
22,838,685
|
|
Income
tax payable
|
|
|
—
|
|
|
|
109,327
|
|
|
|
|
|
|
|
|
|
|
Total
current liabilities
|
|
|
43,714,498
|
|
|
|
42,244,635
|
|
|
|
|
|
|
|
|
|
|
Long-term
debt, net of current portion
|
|
|
6,220,229
|
|
|
|
7,019,468
|
|
Other
liabilities
|
|
|
566,506
|
|
|
|
607,063
|
|
|
|
|
|
|
|
|
|
|
Total
Liabilities
|
|
|
50,501,233
|
|
|
|
49,871,166
|
|
|
|
|
|
|
|
|
|
|
Shareholders’
Equity:
|
|
|
|
|
|
|
|
|
Common
stock - $.001 par value; authorized 50,000,000 shares, 8,938,491 and 8,864,319 shares, respectively, issued and outstanding
|
|
|
8,935
|
|
|
|
8,863
|
|
Additional
paid-in capital
|
|
|
54,276,175
|
|
|
|
53,770,618
|
|
Retained
earnings
|
|
|
23,062,642
|
|
|
|
20,548,652
|
|
|
|
|
|
|
|
|
|
|
Accumulated
other comprehensive loss
|
|
|
—
|
|
|
|
(14,800
|
)
|
|
|
|
|
|
|
|
|
|
Total
Shareholders’ Equity
|
|
|
77,347,752
|
|
|
|
74,313,333
|
|
|
|
|
|
|
|
|
|
|
Total
Liabilities and Shareholders’ Equity
|
|
$
|
127,848,985
|
|
|
$
|
124,184,499
|
|
See
Notes to Condensed Financial Statements
CONDENSED
STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
|
|
For
the Three Months Ended
|
|
|
For
the Six Months Ended
|
|
|
|
June
30,
|
|
|
June
30,
|
|
|
|
2018
|
|
|
2017
|
|
|
2018
|
|
|
2017
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
20,261,239
|
|
|
$
|
16,731,951
|
|
|
$
|
38,452,862
|
|
|
$
|
36,764,652
|
|
Cost
of revenue
|
|
|
15,676,421
|
|
|
|
13,048,203
|
|
|
|
29,818,176
|
|
|
|
28,543,390
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
profit
|
|
|
4,584,818
|
|
|
|
3,683,748
|
|
|
|
8,634,686
|
|
|
|
8,221,262
|
|
Selling,
general and administrative expenses
|
|
|
2,557,759
|
|
|
|
2,002,198
|
|
|
|
4,607,599
|
|
|
|
4,166,076
|
|
Income
from operations
|
|
|
2,027,059
|
|
|
|
1,681,550
|
|
|
|
4,027,087
|
|
|
|
4,055,186
|
|
Interest
expense
|
|
|
416,834
|
|
|
|
465,903
|
|
|
|
864,097
|
|
|
|
856,238
|
|
Income
before provision for income taxes
|
|
|
1,610,225
|
|
|
|
1,215,647
|
|
|
|
3,162,990
|
|
|
|
3,198,948
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision
for income taxes
|
|
|
353,000
|
|
|
|
450,000
|
|
|
|
649,000
|
|
|
|
1,184,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income
|
|
|
1,257,225
|
|
|
|
765,647
|
|
|
|
2,513,990
|
|
|
|
2,014,948
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
comprehensive income (loss), net of tax – change in unrealized (gain) loss on interest rate swap
|
|
|
20,600
|
|
|
|
(1,000
|
)
|
|
|
14,800
|
|
|
|
4,200
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
income
|
|
$
|
1,277,825
|
|
|
$
|
764,647
|
|
|
$
|
2,528,790
|
|
|
$
|
2,019,148
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
per common share – basic
|
|
$
|
0.14
|
|
|
$
|
0.09
|
|
|
$
|
0.28
|
|
|
$
|
0.23
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
per common share – diluted
|
|
$
|
0.14
|
|
|
$
|
0.09
|
|
|
$
|
0.28
|
|
|
$
|
0.23
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares
used in computing income per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
8,938,331
|
|
|
|
8,832,478
|
|
|
|
8,913,394
|
|
|
|
8,806,942
|
|
Diluted
|
|
|
8,980,155
|
|
|
|
8,865,055
|
|
|
|
8,953,321
|
|
|
|
8,840,309
|
|
See
Notes to Condensed Financial Statements
CONDENSED
STATEMENTS OF SHAREHOLDERS’ EQUITY (UNAUDITED)
|
|
Common
Stock
Shares
|
|
|
Amount
|
|
|
Additional
Paid-in
Capital
|
|
|
Retained
Earnings
|
|
|
Accumulated
Other
Comprehensive
Loss
|
|
|
Total
Shareholders’
Equity
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at January 1, 2017
|
|
|
8,739,836
|
|
|
$
|
8,738
|
|
|
$
|
52,824,950
|
|
|
$
|
14,781,018
|
|
|
$
|
(9,000
|
)
|
|
$
|
67,605,706
|
|
Net
income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
2,014,948
|
|
|
|
—
|
|
|
|
2,014,948
|
|
Change
in unrealized loss from interest rate swap
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
4,200
|
|
|
|
4,200
|
|
Stock-based
compensation expense
|
|
|
92,813
|
|
|
|
95
|
|
|
|
696,910
|
|
|
|
—
|
|
|
|
—
|
|
|
|
697,005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at June 30, 2017
|
|
|
8,832,649
|
|
|
$
|
8,833
|
|
|
$
|
53,521,860
|
|
|
$
|
16,795,966
|
|
|
$
|
(4,800
|
)
|
|
$
|
70,321,859
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at January 1, 2018
|
|
|
8,864,319
|
|
|
$
|
8,863
|
|
|
$
|
53,770,618
|
|
|
$
|
20,548,652
|
|
|
$
|
(14,800
|
)
|
|
$
|
74,313,333
|
|
Net
income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
2,513,990
|
|
|
|
—
|
|
|
|
2,513,990
|
|
Change
in unrealized loss from interest rate swap
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
14,800
|
|
|
|
14,800
|
|
Common
stock issued as employee compensation
|
|
|
5,130
|
|
|
|
5
|
|
|
|
45,908
|
|
|
|
—
|
|
|
|
—
|
|
|
|
45,913
|
|
Stock-based
compensation expense
|
|
|
69,042
|
|
|
|
67
|
|
|
|
459,649
|
|
|
|
—
|
|
|
|
—
|
|
|
|
459,716
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at June 30, 2018
|
|
|
8,938,491
|
|
|
$
|
8,935
|
|
|
$
|
54,276,175
|
|
|
$
|
23,062,642
|
|
|
$
|
—
|
|
|
$
|
77,347,752
|
|
See
Notes to Condensed Financial Statements
CONDENSED
STATEMENTS OF CASH FLOWS (UNAUDITED)
|
|
|
|
|
|
|
For
the Six Months Ended June 30,
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
|
|
|
|
Cash
flows from operating activities:
|
|
|
|
|
|
|
|
|
Net
income
|
|
$
|
2,513,990
|
|
|
$
|
2,014,948
|
|
Adjustments
to reconcile net income to net cash used in operating activities:
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
333,276
|
|
|
|
302,032
|
|
Debt
issuance costs
|
|
|
42,785
|
|
|
|
42,786
|
|
Deferred
rent
|
|
|
(35,384
|
)
|
|
|
(15,340
|
)
|
Loss
on disposal of fixed asset
|
|
|
—
|
|
|
|
21,010
|
|
Stock-based
compensation
|
|
|
459,716
|
|
|
|
697,005
|
|
Common
stock issued as employee compensation
|
|
|
45,913
|
|
|
|
—
|
|
Adjustment
for maturity of interest rate swap
|
|
|
20,600
|
|
|
|
—
|
|
Deferred
income taxes
|
|
|
755,500
|
|
|
|
1,155,532
|
|
Changes
in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
(Increase)
decrease in accounts receivable
|
|
|
(10,724
|
)
|
|
|
2,174,184
|
|
Increase
in contract assets
|
|
|
(4,021,904
|
)
|
|
|
(2,113,884
|
)
|
Increase
in prepaid expenses and other assets
|
|
|
(284,162
|
)
|
|
|
(340,026
|
)
|
Decrease
in accounts payable and accrued expenses
|
|
|
(3,619,073
|
)
|
|
|
(4,972,453
|
)
|
Increase
(decrease) in contract liabilities
|
|
|
337,250
|
|
|
|
(80,078
|
)
|
Decrease
in other liabilities
|
|
|
(10,976
|
)
|
|
|
—
|
|
Decrease
in income taxes payable
|
|
|
(109,327
|
)
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
Net
cash used in operating activities
|
|
|
(3,582,520
|
)
|
|
|
(1,114,284
|
)
|
|
|
|
|
|
|
|
|
|
Cash
flows used in investing activities:
|
|
|
|
|
|
|
|
|
Purchase
of property and equipment
|
|
|
(369,738
|
)
|
|
|
(147,957
|
)
|
Proceeds
from sale of fixed asset
|
|
|
—
|
|
|
|
42,480
|
|
|
|
|
|
|
|
|
|
|
Net
cash used in investing activities
|
|
|
(369,738
|
)
|
|
|
(105,477
|
)
|
|
|
|
|
|
|
|
|
|
Cash
flows from financing activities:
|
|
|
|
|
|
|
|
|
Payments
on long-term debt
|
|
|
(946,521
|
)
|
|
|
(504,528
|
)
|
Proceeds
from line of credit
|
|
|
4,500,000
|
|
|
|
3,000,000
|
|
Payments
on line of credit
|
|
|
—
|
|
|
|
(1,200,000
|
)
|
|
|
|
|
|
|
|
|
|
Net
cash provided by financing activities
|
|
|
3,553,479
|
|
|
|
1,295,472
|
|
|
|
|
|
|
|
|
|
|
Net
increase (decrease) in cash
|
|
|
(398,779
|
)
|
|
|
75,711
|
|
Cash
at beginning of period
|
|
|
1,430,877
|
|
|
|
1,039,586
|
|
|
|
|
|
|
|
|
|
|
Cash
at end of period
|
|
$
|
1,032,098
|
|
|
$
|
1,115,297
|
|
|
|
|
|
|
|
|
|
|
Supplemental
disclosures of cash flow information:
|
|
|
|
|
|
|
|
|
Equipment
acquired under capital lease
|
|
$
|
497,602
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
Noncash
investing and financing activities:
|
|
|
|
|
|
|
|
|
Cash
paid during the period for:
|
|
|
|
|
|
|
|
|
Interest
|
|
$
|
1,047,457
|
|
|
$
|
795,151
|
|
Income
taxes
|
|
$
|
—
|
|
|
$
|
28,468
|
|
See
Notes to Condensed Financial Statements
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. INTERIM
FINANCIAL STATEMENTS
The
condensed financial statements of CPI Aerostructures, Inc. (the “Company”) as of June 30, 2018 and for the three and
six months ended June 30, 2018 and 2017 have been prepared pursuant to the rules and regulations of the Securities and Exchange
Commission (“SEC”). Certain information and note disclosures normally included in annual financial statements prepared
in accordance with accounting principles generally accepted in the United States of America 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.
The
condensed balance sheet at December 31, 2017 has been derived from the audited financial statements at that date, but does not
include all of the information and notes required by accounting principles generally accepted in the United States of America
for complete financial statements. All adjustments that, in the opinion of management, are necessary for a fair presentation for
the periods presented have been reflected. Such adjustments are of a normal, recurring nature. It is suggested that these condensed
financial statements be read in conjunction with the financial statements and notes thereto included in the Company’s Annual
Report on Form 10-K for the year ended December 31, 2017. The results of operations for interim periods are not necessarily indicative
of the operating results to be expected for the full year or any other interim period.
The
Company maintains its cash in two financial institutions. The balances are insured by the Federal Deposit Insurance Corporation. From
time to time, the Company’s balances may exceed these limits. As of June 30, 2018, the Company had $780,778 of
uninsured balances. The Company limits its credit risk by selecting financial institutions considered to be highly
creditworthy.
Effective
January 1, 2018, the Company adopted Accounting Standards Codification Topic 606,
Revenue from Contracts with Customers
(“ASC 606”) using the modified retrospective method for all of its contracts. ASC 606 requires sales and gross profit
to be recognized over the contract period as work is performed based on the relationship between actual costs incurred and total
estimated costs at the completion of the contract. Recognized revenues that will not be billed under the terms of the contract
until a later date are recorded as an asset captioned “Contract assets.” Contracts where billings to date have exceeded
recognized revenues are recorded as a liability captioned “Contract liabilities.” Changes to the original estimates
may be required during the life of the contract. Estimates are reviewed monthly and the effect of any change in the estimated
gross margin percentage for a contract is reflected in revenue in the period the change becomes known. ASC 606 involves considerable
use of estimates in determining revenues, costs and profits and in assigning the amounts to accounting periods. As a result, there
can be a significant disparity between earnings (both for accounting and tax purposes) as reported and actual cash received during
any reporting period. The Company continually evaluates all of the issues related to the assumptions, risks and uncertainties
inherent with the process; however, it cannot be assured that estimates will be accurate. If estimates are not accurate or a contract
is terminated, the Company is required to adjust revenue in later periods. Furthermore, even if estimates are accurate, there
may be a shortfall in cash flow and the Company may need to borrow money, or seek access to other forms of liquidity, to fund
its work in process or to pay taxes until the reported earnings materialize as actual cash receipts.
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED
)
When
changes are required for the estimated total revenue on a contract, these changes are recognized with an inception-to-date effect
in the current period. Also, when estimates of total costs to be incurred exceed estimates of total revenue to be earned, a provision
for the entire loss on the contract is recorded in the period in which the loss is determined.
Following
the adoption of ASC 606, the Company’s revenue recognition for all of its contracts remained materially consistent with
historical practice and there was no material impact in the six months ended June 30, 2018 condensed financial statements upon
adoption.
In
compliance with ASC 606, costs and estimated earnings in excess of billings on uncompleted contracts, on the December 31, 2017
condensed balance sheet, has been reclassified to contract assets. Additionally, billings in excess of costs and estimated earnings
on uncompleted contracts and contract losses, on the December 31, 2017 condensed balance sheet, have been combined and reclassified
to contract liabilities.
2.
aCCOUNTING
STANDARDS
Recently
Issued but not Adopted Accounting Pronouncements
In
February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
2016-02,
Leases (Topic 842).
The updated guidance requires lessees to recognize lease assets and lease liabilities for
most operating leases. In addition, the updated guidance requires that lessors separate lease and non-lease components in a contract
in accordance with the new revenue guidance in ASC 606. The updated guidance is effective for interim and annual periods beginning
after December 15, 2018. The Company is currently evaluating the effect on its financial statements.
3.
REVENUE
RECOGNITION
The
majority of the Company’s revenues are from long-term contracts with the U.S. government and commercial contractors. The
contracts with the U.S. government typically are subject to the Federal Acquisition Regulation (“FAR”) which provides
guidance on the types of costs that are allowable in establishing prices for goods and services provided under U.S. government
contracts. The pricing for commercial contractors are based on the specific negotiations with each customer.
The
Company accounts for a contract when it has approval and commitment from both parties, the rights of the parties are identified,
payment terms are identified, the contract has commercial substance and collectability of consideration is probable.
To
determine the proper revenue recognition method, the Company evaluates whether two or more contracts should be combined and accounted
for as one single contract and whether the combined or single contract should be accounted for as more than one performance obligation.
This evaluation requires significant judgment and the decision to combine a group of contracts or separate the combined or single
contract into multiple performance obligations could change the amount of revenue and profit recorded in a given period.
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
All
of the Company’s current long-term contracts have a single performance obligation as the promise to transfer the goods or
services are not separately identifiable from other promises in the contracts and, therefore, not distinct. The Company’s
contracts are often modified to account for changes in contract specifications and requirements. The Company considers contract
modifications to exist when the modification either creates new or changes the existing enforceable rights and obligations. All
of the Company’s contract modifications are for goods or services that are not distinct from the existing contract due to
the significant integration service provided in the context of the contract and are accounted for as if they were part of that
existing contract. The effect of a contract modification on the transaction price and the measure of progress for the performance
obligation to which it relates, is recognized as an adjustment to revenue (either as an increase in or a reduction of revenue)
on a cumulative catch-up basis.
Revenues
for the Company’s long-term contracts are recognized over time as the Company performs its obligations because of continuous
transfer of control to the customer. The continuous transfer of control to the customer is supported by clauses in contracts that
either allow the customer to unilaterally terminate the contract for convenience, pay the Company for costs incurred plus a reasonable
profit and the products and services have no alternative use or the customer controls the work in progress.
Because
of control transferring over time, revenue is recognized based on the extent of progress towards completion of the performance
obligation. The selection of the method to measure progress towards completion requires judgment and is based on the nature of
the products or services to be provided. The Company uses the cost-to-cost input method to measure of progress for its contracts
because it best depicts the transfer of assets to the customer which occurs as the Company incurs costs on its contracts.
In
applying the cost-to-cost input method, the Company compares the actual costs incurred relative to the total estimated costs to
determine its progress towards contract completion and to calculate the corresponding amount of estimated revenue and estimated
gross profit recognized. For any costs incurred that do not contribute to a performance obligation, the Company excludes such
costs from its input methods of revenue recognition as the amounts are not reflective in transferring control of the asset to
the customer. Costs to fulfill include labor, materials and subcontractors’ costs, other direct costs and an allocation
of indirect costs.
Changes
to the original estimates may be required during the life of the contract. Estimates are reviewed monthly and the effect of any
change in the estimated gross margin for a contract is reflected in revenue in the period the change becomes known. Contract estimates
involves considerable use of estimates in determining revenues, costs and profits and in assigning the amounts to accounting periods.
As a result, there can be a significant disparity between earnings (both for accounting and tax purposes) as reported and actual
cash received during any reporting period. The Company continually evaluates all of the issues related to the assumptions, risks
and uncertainties inherent with the application of the cost-to-cost input method; however, it cannot be assured that estimates
will be accurate. If estimates are not accurate or a contract is terminated, the Company is required to adjust revenue in later
periods. Furthermore, even if estimates are accurate, there may be a shortfall in cash flow and the Company may need to borrow
money, or seek access to other forms of liquidity, to fund its work in process or to pay taxes until the reported earnings materialize
as actual cash receipts.
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
For
the Company’s uncompleted contracts, contract assets include unbilled amounts and when the estimated revenues recognized
exceeds the amount billed to the customer and right to payment is not just subject to the passage of time. Amounts may not exceed
their net realizable value. Contract assets are classified as current. The Company’s contract liabilities consist of billings
in excess of estimated revenues recognized. Contract liabilities are classified as current. The Company’s contract assets
and liabilities are reported in a net position on a contract-by-contract basis at the end of each reporting period.
Revenue
recognized for the three and six months ended June 30, 2018 that was included in the contract liabilities at January 1, 2018 was
$294,023 and $147,753, respectively.
The
Company’s remaining performance obligations represents the transaction price of its long-term contracts for which work has
not been performed. As of June 30, 2018, the aggregate amount of transaction price allocated to the remaining performance obligations
was $62,596,133. The Company estimates that it expects to recognize approximately 70% of its remaining performance obligations
in 2018 and 30% revenue in 2019.
In
addition, the Company recognizes revenue for parts supplied for certain MRO contracts at a point in time following the transfer
of control to the customer, which typically occurs upon shipment or delivery depending on the terms of the underlying contract.
Revenue
from long-term contracts transferred to customers over time and revenue from MRO contracts transferred at a point in time accounted
for approximately 97% and 3%, respectively, for the six months ended June 30, 2018.
Revenue
by long-term contract type for the three and six months ended June 30, 2018 is as follows:
|
|
For
the Three
Months Ended
|
|
|
For
the Six
Months Ended
|
|
Government
subcontracts
|
|
$
|
10,573,932
|
|
|
$
|
18,711,658
|
|
Commercial
contracts
|
|
|
7,351,187
|
|
|
|
14,827,282
|
|
Prime
government contracts
|
|
|
2,336,120
|
|
|
|
4,913,922
|
|
|
|
$
|
20,261,239
|
|
|
$
|
38,452,862
|
|
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
4.
stock-based
compensation
The
Company accounts for stock-based compensation based on the fair value of the stock or stock-based instrument on the date of grant.
In
January 2018, the Company granted 58,578 restricted stock units (“RSUs”) to its board of directors as partial compensation
for the 2018 year. In January 2017, the Company granted 59,395 RSUs to its board of directors as partial compensation for the
2017 year. RSUs vest quarterly on a straight-line basis over a one-year period. The Company’s net income for the six months
ended June 30, 2018 and 2017 includes approximately $415,000 and $440,000, respectively, of non-cash compensation expense related
to the RSU grants to the board of directors. This expense is recorded as a component of selling, general and administrative expenses.
In
January 2018, the Company granted 5,130 shares of common stock to various employees. For the six months ended June 30, 2018, approximately
$10,000 of compensation expense is included in selling, general and administrative expenses and approximately $36,000 of compensation
expense is included in cost of revenue for this grant. In January 2017, the Company granted 5,550 shares of common stock
to various employees. For the six months ended June 30, 2017, approximately $13,300 of compensation expense is included in selling,
general and administrative expenses and approximately $37,500 of compensation expense is included in cost of revenue for this
grant.
In
March 2018, the Company granted 68,764 shares of common stock to various employees. In the event that any of these employees voluntarily
terminates their employment prior to certain dates, portions of the shares may be forfeited. In addition, if certain Company performance
criterion are not achieved, portions of these shares may be forfeited. These shares will be expensed during various periods through
March 2022 based upon the service and performance thresholds. For the six months ended June 30, 2018, approximately $105,300 of
compensation expense is included in selling, general and administrative expenses and approximately $22,300 of compensation expense
is included in cost of revenue for this grant.
In
March 2017, the Company granted 73,060 shares of common stock to various employees. In the event that any of these employees voluntarily
terminates their employment prior to certain dates, portions of the shares may be forfeited. In addition, if certain Company performance
criterion are not achieved, portions of these shares may be forfeited. These shares will be expensed during various periods through
March 2021 based upon the service and performance thresholds. For the six months ended June 30, 2017, approximately $197,400 of
compensation expense is included in selling, general and administrative expenses and approximately $41,600 of compensation expense
is included in cost of revenue for this grant.
In
March 2018, 12,330 and 9,130 of the shares granted in 2016 and 2017, respectively, were forfeited because the Company failed to
achieve certain performance criterion for the year ended December 31, 2017. In addition, on March 22, 2018, these employees returned
7,552 common shares, valued at approximately $62,000, to pay the employees’ withholding taxes.
In
March 2017, 12,330 of the shares granted in August of 2016 were forfeited because the Company failed to achieve certain performance
criterion for the year ended December 31, 2016. In addition, on March 9, 2017, these employees returned 4,525 common shares, valued
at approximately $33,000, to pay the employees’ withholding taxes.
A
summary of the status of the Company’s stock option plans as of June 30, 2018 and changes during the six months ended June
30, 2018 is as follows:
|
|
Options
|
|
|
Weighted
average
exercise
price
|
|
|
Weighted
average
remaining
contractual
term (in years)
|
|
|
Aggregate
intrinsic value
|
|
Outstanding
at beginning of period
|
|
|
80,249
|
|
|
$
|
11.05
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding
and vested at end of period
|
|
|
80,249
|
|
|
$
|
11.05
|
|
|
|
0.60
|
|
|
$
|
136,500
|
|
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
During
the six months ended June 30, 2018 and 2017, no stock options were granted or exercised.
5. Derivative
Instruments and Fair Value
Our
use of derivative instruments has been to hedge interest rates. These derivative contracts are entered into with a financial institution.
We do not use derivative instruments for trading purposes and we have procedures in place to monitor and control their use.
We
record these derivative financial instruments on the condensed balance sheets at fair value. For derivative instruments that are
designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative instrument is reported
as a component of other comprehensive income (loss) and reclassified into earnings in the same period or periods during which
the hedged transaction affects earnings.
Any
ineffective portion of the gain or loss on the derivative instrument for a cash flow hedge is recorded in the results of operations
immediately. For derivative instruments not designated as hedging instruments, the gain or loss is recognized in the results of
operations immediately.
In
May 2016, the Company entered into an interest rate swap with the objective of reducing its exposure to cash flow volatility arising
from interest rate fluctuations associated with certain debt. The notional amount, maturity date, and currency of this contract
match those of the underlying debt. The Company has designated this interest rate swap contract as a cash flow hedge. The Company
measures ineffectiveness by comparing the cumulative change in the forward contact with the cumulative change in the hedged item.
Fair
Value
At
June 30, 2018 and December 31, 2017, the fair values of cash, accounts receivable, accounts payable and accrued expenses approximated
their carrying values because of the short-term nature of these instruments.
|
|
June
30, 2018
|
|
|
|
Carrying
Amount
|
|
|
Fair
Value
|
|
Debt
|
|
|
|
|
|
|
Short-term
borrowings and long-term debt
|
|
$
|
35,944,972
|
|
|
$
|
35,944,972
|
|
|
|
December
31, 2017
|
|
|
|
Carrying
Amount
|
|
|
Fair
Value
|
|
Debt
|
|
|
|
|
|
|
Short-term
borrowings and long-term debt
|
|
$
|
31,893,894
|
|
|
$
|
31,893,894
|
|
We
estimated the fair value of debt using market quotes and calculations based on market rates.
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
The
following table presents the fair values of those financial liabilities measured on a recurring basis as of December 31, 2017:
|
|
|
|
|
Fair
Value Measurements December 31, 2017
|
|
Description
|
|
Total
|
|
|
Quoted
Prices
in Active
Markets for
Identical
Assets (Level 1)
|
|
|
Significant
Other
Observable
Inputs (Level 2)
|
|
|
Significant
Unobservable
Inputs (Level 3)
|
|
Interest
Rate Swap, net
|
|
$
|
18,781
|
|
|
|
—
|
|
|
$
|
18,781
|
|
|
|
—
|
|
Total
|
|
$
|
18,781
|
|
|
|
—
|
|
|
$
|
18,781
|
|
|
|
—
|
|
The
fair value of the Company’s interest rate swap was determined by comparing the fixed rate set at the inception of the transaction
to the “replacement swap rate,” which represents the market rate for an offsetting interest rate swap with the same
notional amounts and final maturity date. The market value is then determined by calculating the present value of the interest
differential between the contractual swap and the replacement swap.
As
of December 31, 2017, $18,781 was included in other liabilities related to the fair value of the Company’s interest rate
swap $15,000, net of tax of approximately $4,000, respectively, was included in accumulated other comprehensive loss.
During
the month of June, the interest rate swap matured and the Company realized a net gain of approximately $7,000.
6.
Contract assets and contract liabilities
Net
Contract assets (liabilities) consist of the following:
|
|
June
30, 2018
|
|
|
|
U.S.
|
|
|
|
|
|
|
|
|
|
Government
|
|
|
Commercial
|
|
|
Total
|
|
Contract
assets
|
|
$
|
53,171,382
|
|
|
$
|
62,009,073
|
|
|
$
|
115,180,455
|
|
Contract
liabilities
|
|
|
(535,366
|
)
|
|
|
(48,214
|
)
|
|
|
(583,580
|
)
|
Net
contract assets (liabilities)
|
|
$
|
52,636,016
|
|
|
$
|
61,960,859
|
|
|
$
|
114,596,875
|
|
|
|
|
December
31, 2017 (1)
|
|
|
|
U.S.
|
|
|
|
|
|
|
|
|
|
|
|
Government
|
|
|
Commercial
|
|
|
Total
|
|
Contract
assets
|
|
$
|
54,591,601
|
|
|
$
|
56,566,950
|
|
|
$
|
111,158,551
|
|
Contract
liabilities
|
|
|
(224,339
|
)
|
|
|
(21,991
|
)
|
|
|
(246,330
|
)
|
Net
contract assets (liabilities)
|
|
$
|
54,367,262
|
|
|
$
|
56,544,959
|
|
|
$
|
110,912,221
|
|
|
(1)
|
On
January 1, 2018, as a result of the adoption of ASC 606, the Company reclassified costs
and estimated earnings in excess of billings on uncompleted contracts to contract assets
and billings in excess of costs and estimated earnings on uncompleted contracts to contract
liabilities.
|
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
The
increase or decrease in the Company’s net contract assets (liabilities) from January 1, 2018 to June 30, 2018 was primarily
due to costs incurred on newer programs, like the Raytheon Next Generation Jammer Pod ($0.2 million increase) and the new design
of the HondaJet engine inlet ($1.6 million increase), for which the Company has not begun billing on a steady rate. Additionally,
we experienced some delays in shipping on the G650 program which increased contract assets by $3.8 million.
U.S.
government contracts includes contracts directly with the U.S. government and government subcontractors.
Revisions
in the estimated gross profits on contracts and contract amounts are made in the period in which the circumstances requiring the
revisions occur. During the six months ended June 30, 2018, the effect of such revisions in total estimated contract profits resulted
in a decrease to the total gross profit to be earned on the contracts of approximately $247,000 from that which would have been
reported had the revised estimates been used as the basis of recognition of contract profits in prior years. During the six months
ended June 30, 2017, the effect of such revisions was a decrease to total gross profit of approximately $1,171,000.
Although
management believes it has established adequate procedures for estimating costs to uncompleted open contracts, it is possible
that additional significant costs could occur on contracts prior to completion.
7. INCOME
PER COMMON SHARE
Basic
income per common share is computed using the weighted average number of common shares outstanding. Diluted income per common
share for the three and six months ended June 30, 2018 and 2017 is computed using the weighted average number of common shares
outstanding adjusted for the incremental shares attributed to outstanding options to purchase common stock, as well as unvested
RSUs. Incremental shares of 64,287 were used in the calculation of diluted income per common share in the three and six months
ended June 30, 2018. Incremental shares of 45,249 were not used in the calculation of diluted income per common share in the three
and six months ended June 30, 2018, as their exercise price was in excess of the Company’s average stock price for the respective
period and, accordingly, these shares are not assumed to be exercised for the diluted earnings per share calculation, as they
would be anti-dilutive. Incremental shares of 63,336 were used in the calculation of diluted income per common share in the three
and six months ended June 30, 2017. Incremental shares of 114,466 were not used in the calculation of diluted income per common
share in the three and six months ended June 30, 2017, as their exercise price was in excess of the Company’s average
stock price for the respective period and, accordingly, these shares are not assumed to be exercised for the diluted earnings
per share calculation, as they would be anti-dilutive.
8. LINE
OF CREDIT
On
March 24, 2016, the Company entered into a Credit Agreement with BankUnited, N.A. as the sole arranger, administrative agent and
collateral agent and Citizens Bank, N.A. (the “BankUnited Facility”). The BankUnited Facility provides for a revolving
credit loan commitment of $30 million (the “Revolving Loan”) and a $10 million term loan (“Term Loan”).
The Revolving Loan bears interest at a rate based upon a pricing grid, as defined in the agreement.
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
As
of June 30, 2018, the Company was not in compliance with the leverage ratio financial covenant contained in the BankUnited Facility,
as amended. We anticipate the leverage ratio covenant will be waived and amended by the provisions of the amendment
to the BankUnited Facility described in Note 12 to these condensed financial statements.
As
of June 30, 2018, the Company had $27.3 million outstanding under the Revolving Loan bearing interest at 5.25%.
The
BankUnited Facility is secured by all of the Company’s assets.
9. LONG-TERM
DEBT
In
May 2016, the Company entered into an interest rate swap with the objective of reducing its exposure to cash flow volatility arising
from interest rate fluctuations associated with certain debt. The notional amount, maturity date and currency of this contract
match those of the underlying debt. The Company has designated this interest rate swap contract as a cash flow hedge. The interest
rate swap ended in accordance with its terms as of June 1, 2018.
The
Company paid approximately $254,000 of debt issuance costs in connection with the BankUnited Facility of which approximately $48,000
is included in other assets and $16,000 is a reduction of long-term debt.
The
Term Loan had an initial amount of $10 million, payable in monthly installments, as defined in the agreement, which matures on
June 30, 2019.
The
maturities of long-term debt (excluding unamortized debt issuance costs) are as follows:
Twelve
months ending June 30,
|
|
|
|
|
2019
|
|
|
$
|
2,370,013
|
|
2020
|
|
|
|
5,883,190
|
|
2021
|
|
|
|
192,370
|
|
2022
|
|
|
|
91,749
|
|
Thereafter
|
|
|
|
68,965
|
|
|
|
|
$
|
8,606,287
|
|
In
addition to the Term Loan, included in long-term debt are capital leases and notes payable of $939,620 including a current portion
of $295,014.
10. MAJOR
CUSTOMERS
During
the six months ended June 30, 2018, the Company’s four largest commercial customers accounted for 27% 13%, 13% and 10% of
revenue. During the six months ended June 30, 2017, the Company’s three largest commercial customers accounted for 32%,
24% and 11% of revenue. In addition, during the six months ended June 30, 2018 and 2017, 13% and 6% of revenue, respectively,
was directly from the U.S. government.
At
June 30, 2018, 35%, 16%, 12% and 11% of contract assets were from the Company’s four largest commercial customers. At December
31, 2017, 32%, 20%, 12% and 10% of contract assets were from the Company’s four largest commercial customers.
At
June 30, 2018 and December 31, 2017, 3% and 4%, respectively, of contract assets were directly from the U.S. government.
At
June 30, 2018, 18%, 17%, 16%, 14% and 14% of our accounts receivable were from our five largest commercial customers. At December
31, 2017, 44%, 18% and 13% of accounts receivable were from our three largest commercial customers.
NOTES
TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
11.
Legal
Proceedings
On
March 21, 2018, the Company entered into a Stock Purchase Agreement (the “Agreement”) with Air Industries Group (“Air
Industries”), pursuant to which, subject to the satisfaction or waiver of certain conditions, the Company would purchase
from Air Industries all of the shares (the “Shares”) of Welding Metallurgy, Inc. (“WMI”), a wholly owned
subsidiary of Air Industries (the “Acquisition”). WMI is engaged in the manufacture of complex components and assemblies
for the defense and commercial aircraft industries.
Under
the terms of the Agreement, the Company would pay a purchase price for the Shares as follows: (i) $9.0 million in cash, subject
to adjustment based on the working capital of WMI at the closing of the Acquisition and (ii) up to an aggregate of $1.0 million,
in two payments of up to $500,000 each (the “Contingent Payments”) if WMI enters into certain long-term supply agreements.
The Contingent Payments are reduced if milestones for signing are not achieved.
On
July 5, 2018, we filed a complaint in the Supreme Court of the State of New York, County of New York, against Air Industries relating
to the Agreement. The complaint alleges that Air Industries willfully breached its contractual obligation to provide financial
information required to fulfill key conditions for closing under the Agreement. The Company is seeking, among other things, an
order of specific performance requiring Air Industries to comply with its obligations under the Agreement, monetary damages, and
attorneys’ fees and costs.
On
July 30, 2018, Air Industries filed its answer and counterclaims. Air Industries denied the allegations made by us in the complaint
and alleged that we breached the Agreement and the covenant of good faith and fair dealing. Air Industries is seeking a declaration
that the Agreement has terminated, along with monetary damages, attorneys’ fees, and costs.
On
July 31, 2018, we filed a motion for preliminary injunction against Air Industries. The motion argues that the failure by Air
Industries to provide financial data and other information necessary to close on the Acquisition will cause irreparable injury
to us. We are therefore seeking an order directing Air Industries to furnish us with all previously requested financial, operating,
and other data and information relating to WMI. The court issued an order to
show cause on August 1, 2018 and set August 13, 2018 as the hearing date with respect to the motion for preliminary
injunction. Air Industries has not yet responded to the motion for preliminary injunction.
For
a discussion of the risks and uncertainties associated with this litigation and with the acquisition of WMI, please see Part II,
Item 1A “Risk Factors” of this Quarterly Report on Form 10-Q. We remain committed to completing the Acquisition as
soon as practicable, however, because of the risks and uncertainties, we cannot conclude that the consummation of the Acquisition
is probable.
12. SUBSEQUENT
EVENTS
On
August 7, 2018, the Company obtained a commitment letter from BankUnited, N.A. with respect to amending the BankUnited Facility
to, among other things, extend the term of each of the Revolving Loan and the Term Loan for an additional year to June 30, 2020,
and to waive non-compliance with the leverage ratio financial covenant. The amendments to the BankUnited Facility are subject
to the lenders’ due diligence and the preparation and execution of formal documentation.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
The
following discussion should be read in conjunction with the Company’s condensed financial statements and notes thereto contained
in this report.
Forward
Looking Statements
When
used in this Form 10-Q and in future filings by us with the Securities and Exchange Commission, the words or phrases “will
likely result,” “management expects” or “we expect,” “will continue,” “is anticipated,”
“estimated” or similar expressions are intended to identify “forward-looking statements” within the meaning
of the Private Securities Litigation Reform Act of 1995. Readers are cautioned not to place undue reliance on any such forward-looking
statements, each of which speaks only as of the date made. Such statements are subject to certain risks and uncertainties that
could cause actual results to differ materially from historical earnings and those presently anticipated or projected. The risks
are included in Item 1A - Risk Factors of our Annual Report on Form 10-K for the year ended December 31, 2017 and Item 2 - Management’s
Discussion and Analysis of Financial Condition and Results of Operations included in this Form 10-Q. We have no obligation to
publicly release the result of any revisions which may be made to any forward-looking statements to reflect anticipated or unanticipated
events or circumstances occurring after the date of such statements.
Business
Operations
We
are a manufacturer of structural aircraft parts for fixed wing aircraft and helicopters in both the commercial and defense markets.
Within the global aerostructure supply chain, we are either a Tier 1 supplier to aircraft Original Equipment Manufacturers (“OEMs”)
or a Tier 2 subcontractor to major Tier 1 manufacturers. We also are a prime contractor to the U.S. Department of Defense, primarily
the Air Force. In conjunction with our assembly operations, we provide engineering, program management, supply chain management,
and Maintenance Repair & Overhaul (“MRO”) services.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Backlog
We
produce custom assemblies pursuant to long-term contracts and customer purchase orders. Backlog consists of aggregate values under
such contracts and purchase orders, excluding the portion previously included in operating revenues on the basis of percentage
of completion accounting, and including estimates of future contract price escalation. Substantially all of our backlog is subject
to termination at will and rescheduling, without significant penalty. Funds are often appropriated for programs or contracts on
a yearly or quarterly basis, even though the contract may call for performance that is expected to take a number of years. Therefore,
our funded backlog does not include the full value of our contracts. Our total backlog as of June 30, 2018 and December 31, 2017
was as follows:
Backlog
(Total)
|
|
June
30,
2018
|
|
|
December
31,
2017
|
|
Funded
|
|
$
|
69,908,000
|
|
|
$
|
71,059,000
|
|
Unfunded
|
|
|
290,300,000
|
|
|
|
317,667,000
|
|
Total
|
|
$
|
360,208,000
|
|
|
$
|
388,726,000
|
|
Approximately
79% of the total amount of our backlog at June 30, 2018 was attributable to government contracts. Our backlog attributable to
government contracts at June 30, 2018 and December 31, 2017 was as follows:
Backlog
(Government)
|
|
June
30,
2018
|
|
|
December
31,
2017
|
|
Funded
|
|
$
|
63,550,000
|
|
|
$
|
58,919,000
|
|
Unfunded
|
|
|
219,679,000
|
|
|
|
242,367,000
|
|
Total
|
|
$
|
283,229,000
|
|
|
$
|
301,286,000
|
|
Our
backlog attributable to commercial contracts at June 30, 2018 and December 31, 2017 was as follows:
Backlog
(Commercial)
|
|
June
30,
2018
|
|
|
December
31,
2017
|
|
Funded
|
|
$
|
6,358,000
|
|
|
$
|
12,140,000
|
|
Unfunded
|
|
|
70,621,000
|
|
|
|
75,300,000
|
|
Total
|
|
$
|
76,979,000
|
|
|
$
|
87,440,000
|
|
Our
unfunded backlog is primarily comprised of the long-term contracts for the G650, E-2D, F-16, T-38, F-35, HondaJet Light Business
Jet, Bell AH-1Z, Cessna Citation X+, Sikorsky S-92 and Embraer Phenom 300. These long-term contracts are expected to have yearly
orders, which will be funded in the future.
The
low level of funded backlog on commercial programs is the result of customers placing funded orders based upon expected lead time.
These programs are under long-term agreements with our customers, and as such, we are protected by termination liability provisions.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Critical
Accounting Policies
Revenue
Recognition
Effective
January 1, 2018, the Company adopted Accounting Standards Codification Topic 606,
Revenue from Contracts with Customers
(“ASC 606”) using the modified retrospective method for all of its contracts. ASC 606 requires sales and gross profit
to be recognized over the contract period as work is performed based on the relationship between actual costs incurred and total
estimated costs at the completion of the contract. Recognized revenues that will not be billed under the terms of the contract
until a later date are recorded as an asset captioned “Contract assets.” Contracts where billings to date have exceeded
recognized revenues are recorded as a liability captioned “Contract liabilities.” Changes to the original estimates
may be required during the life of the contract. Estimates are reviewed monthly and the effect of any change in the estimated
gross margin percentage for a contract is reflected in cost of sales in the period the change becomes known. ASC 606 involves
considerable use of estimates in determining revenues, costs and profits and in assigning the amounts to accounting periods. As
a result, there can be a significant disparity between earnings (both for accounting and tax purposes) as reported and actual
cash received during any reporting period. The Company continually evaluates all of the issues related to the assumptions, risks
and uncertainties inherent with the process; however, it cannot be assured that estimates will be accurate. If estimates are not
accurate or a contract is terminated, the Company is required to adjust revenue in later periods. Furthermore, even if estimates
are accurate, there may be a shortfall in cash flow and the Company may need to borrow money, or seek access to other forms of
liquidity, to fund its work in process or to pay taxes until the reported earnings materialize as actual cash receipts.
When
changes are required for the estimated total revenue on a contract, these changes are recognized with an inception-to-date effect
in the current period. Also, when estimates of total costs to be incurred exceed estimates of total revenue to be earned, a provision
for the entire loss on the contract is recorded in the period in which the loss is determined.
Following
the adoption of ASC 606, the Company’s revenue recognition for all of its contracts remained materially consistent with
historical practice and there was no impact in the six months ended June 30, 2018 condensed financial statements upon adoption.
In
compliance with ASC 606, costs and estimated earnings in excess of billings on uncompleted contracts, on the December 31, 2017
condensed balance sheet, has been reclassified to contract assets. Additionally, billings in excess of costs and estimated earnings
on uncompleted contracts and contract losses, on the December 31, 2017 condensed balance sheet, have been combined and reclassified
to contract liabilities.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Results
of Operations
Revenue
Revenue
for the three months ended June 30, 2018 was $20,261,239 compared to $16,731,951 for the same period last year, an increase of
$3,529,288 or 21.1%. This increase is predominantly the result of ramping up of the next generation jammer pod program and the
production of T-38 kits, offset by a normal cyclical decrease in revenue on the Company’s E-2D programs for both domestic
and foreign sales.
Revenue
for the six months ended June 30, 2018 was $38,452,862 compared to $36,764,652 for the same period last year, an increase of $1,688,210
or 4.6%. This increase is predominantly the result of ramping up of the next generation jammer pod program and the production
of T-38 kits, offset by a normal cyclical decrease in revenue on the Company’s E-2D programs for both domestic and foreign
sales.
Revenue
from government subcontracts was $10,573,932 for the three months ended June 30, 2018 compared to $9,753,613 for the three months
ended June 30, 2017, an increase of $820,319 or 8.4%. The increase in revenue is the result predominantly the result of ramping
up of the next generation jammer pod program, offset by a normal cyclical decrease in revenue on the Company’s E-2D programs
for both domestic and foreign sales.
Revenue
from government subcontracts was $18,711,658 for the six months ended June 30, 2018 compared to $22,252,082 for the six months
ended June 30, 2017, a decrease of $3,540,424 or 15.9%. The decrease in revenue is the result predominantly the result of a normal
cyclical decrease in revenue on the Company’s E-2D programs for both domestic and foreign sales, offset by the ramping up
of the next generation jammer pod program.
Revenue
from direct military was $2,336,120 for the three months ended June 30, 2018 compared to $258,992 for the three months ended June
30, 2017, an increase of $2,077,128. The increase in revenue is primarily driven by an increase in revenue from T-38 kits.
Revenue
from direct military was $4,913,922 for the six months ended June 30, 2018 compared to $405,980 for the six months ended June
30, 2017, an increase of $4,507,942. The increase in revenue is primarily driven by an increase in revenue from T-38 kits.
Revenue
from commercial subcontracts was $7,351,187 for the three months ended June 30, 2018 compared to $6,719,346 for the three months
ended June 30, 2017, an increase of $631,841 or 9.4%.
Revenue
from commercial subcontracts was $14,827,282 for the six months ended June 30, 2018 compared to $14,106,590 for the six months
ended June 30, 2017, an increase of $720,692 or 5.1%.
Inflation
historically has not had a material effect on our operations.
Cost
of sales
Cost
of sales for the three months ended June 30, 2018 and 2017 was $15,676,421 and $13,048,203, respectively, an increase of $2,628,218
or 20.1%, This increase is the result of the comparable increase in revenue.
Cost
of sales for the six months ended June 30, 2018 and 2017 was $29,818,176 and $28,543,390, respectively, an increase of $1,274,786
or 4.5%, This increase is the result of the comparable increase in revenue.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
The
components of the cost of sales were as follows:
|
|
Three
months ended
|
|
|
Six
months ended
|
|
|
|
June
30, 2018
|
|
|
June
30, 2017
|
|
|
June
30, 2018
|
|
|
June
30, 2017
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Procurement
|
|
$
|
10,299,378
|
|
|
$
|
8,064,051
|
|
|
$
|
18,944,987
|
|
|
$
|
17,904,113
|
|
Labor
|
|
|
1,589,576
|
|
|
|
1,712,025
|
|
|
|
3,247,295
|
|
|
|
3,586,568
|
|
Factory
overhead
|
|
|
3,687,518
|
|
|
|
3,534,619
|
|
|
|
7,628,882
|
|
|
|
7,787,706
|
|
Other
contract costs
|
|
|
99,949
|
|
|
|
(262,492
|
)
|
|
|
(2,988
|
)
|
|
|
(734,997
|
)
|
Cost
of Sales
|
|
$
|
15,676,421
|
|
|
$
|
13,048,203
|
|
|
$
|
29,818,176
|
|
|
$
|
28,543,390
|
|
Other
contract costs (credit) for the six months ended June 30, 2018 were $(2,988) compared to $(734,997), an increase of $732,009.
Other contract costs (credit) for the three months ended June 30, 2018 were $99,949 compared to $(262,492), an increase of $362,441.
Other contract costs relate to expenses recognized for changes in estimates and expenses predominately associated with loss contracts.
In both the six months ended June 30, 2018 and 2017, other contract costs are a credit, as we have incurred actual expenses on
our A-10 program that had been previously recognized as part of the change in estimate charge.
Procurement
for the six months ended June 30, 2018 was $18,944,987 compared to $17,904,113, an increase of $1,040,874 or 5.8%. This increase
is a result of a $2.6 million increase in procurement related to the production of T-38 kits, a $1.3 million increase in procurement
on the Bell AH-1Z cowl program and a $1.7 million increase in procurement on our Raytheon Pod program, as these are newer programs
and are beginning to transition into full production. This was offset by a $3.7 million decrease in procurement on our E-2D program,
as we are shipping parts from stock and lowering inventory on this program. Procurement for the three months ended June 30, 2018
was $10,299,378 compared to $8,064,051, an increase of $2,235,327 or 27.7%. The increase in procurement for the months ended June
30, 2018 was a result of the same programs as described above.
Labor
costs for the six months ended June 30, 2018 were $3,247,295 compared to $3,586,568, a decrease of $339,273 or 9.5%. Labor
costs for the three months ended June 30, 2018 were $1,589,576 compared to $1,712,025, a decrease of $122,449 or 7.2%. The
decrease is the result of more activity on kitting programs, such as T-38 and E-2D, as compared to assembly programs, which
require more direct labor.
Factory
overhead for the six months ended June 30, 2018 was $7,628,882 compared to $7,787,706, a decrease of $158,824 or 2.0%. Factory
overhead for the three months ended June 30, 2018 was $3,687,518 compared to $3,534,619, an increase of $152,899 or 4.3%. The
decrease in factory overhead is predominately the result in lower indirect payroll expense of approximately $200,000, as we have
reduced the number of indirect personnel.
Gross
Profit
Gross
profit for the six months ended June 30, 2018 was $8,634,686 compared to $8,221,262 for the six months ended June 30, 2017, an
increase of $413,424 or 5.0%, predominately the result of higher volume.
Gross
profit for the three months ended June 30, 2018 was $4,584,818 compared to $3,683,748 for the three months ended June 30, 2017,
an increase of $901,070 or 24.5%, predominately the result of higher volume.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Favorable/Unfavorable
Adjustments to Gross Profit (Loss)
During
the six months ended June 30, 2018 and 2017, circumstances required that we make changes in estimates to various contracts. Such
changes in estimates resulted in decreases in total gross profit as follows:
|
|
Six
months ended
|
|
|
|
June
30,
2018
|
|
|
June
30,
2017
|
|
Favorable
adjustments
|
|
$
|
266,000
|
|
|
$
|
212,000
|
|
Unfavorable
adjustments
|
|
|
(539,000
|
)
|
|
|
(1,839,000
|
)
|
Net
adjustments
|
|
$
|
(275,000
|
)
|
|
$
|
(1,627,000
|
)
|
During
the six months ended June 30, 2018, we had one contract which had approximately $376,000 of an unfavorable adjustment caused by
changing estimates on a long-term program, for which we are working with the customer to agree to contract extensions and are
adjusting our long-term margin estimates. Also, we had one contract that had a $117,000 unfavorable adjustment caused by excess
overhead and material costs incurred. In addition, we had one contract that had a $113,000 unfavorable adjustment caused by excess
overhead and material costs incurred. There were no other material changes favorable or unfavorable during the six months ended
June 30, 2018.
During
the six months ended June 30, 2017, we had two contracts which had approximately $659,000 and $436,000 of unfavorable adjustments
caused by changing estimates on a long-term program, for which we are working with the customer to agree to contract extensions.
Additionally, we had one contract that had a gap in production, as well as a smaller than expected order quantity. The gap in
production and low quantity has resulted in an unfavorable adjustment of approximately $475,000. There were no other material
changes favorable or unfavorable during the six months ended June 30, 2017.
Selling,
General and Administrative Expenses
Selling,
general and administrative expenses for the three months ended June 30, 2018 were $2,557,759 compared to $2,002,198 for the three
months ended June 30, 2017, an increase of $555,561, or 27.8%. This change was predominately the result of an increase of approximately
$332,000 in professional fees, an increase of $52,000 in salaries, an increase of $75,000 in accrued bonuses and an increase of
$65,000 in employee insurance/benefits. The increase in professional fees is the result of work performed on due diligence and
contract work on the potential acquisition of WMI. Additionally, legal services were provided for the Company’s amended
bank agreement. The increase in salaries was the result of hiring additional business development personnel to increase new business
wins. The increase in accrued bonus is the result of additional executives included in the bonus pool. The increase in employee
benefits is a result of increased costs related to increased healthcare rates.
Selling,
general and administrative expenses for the six months ended June 30, 2018 were $4,607,599 compared to $4,166,076 for the six
months ended June 30, 2017, an increase of $441,523 or 10.6%. This change was predominately the result of a increase of approximately
$224,000 in professional fees, an increase of $79,000 in salaries, an increase of $97,000 in employee insurance/benefits, and
an increase of $63,000 in consultants, offset by a decrease of $23,000 in office expenses.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Income
Before Provision for Income Taxes
Income
before provision for income taxes for the three months ended June 30, 2018 was $1,610,225 compared to $1,215,647 for the same
period last year, an increase of $394,578 or 32.5%, predominately the result of higher direct military revenue. Income before
provision for income taxes for the six months ended June 30, 2018 was $3,162,990 compared to $3,198,948 for the same period last
year, a decrease of $35,958 or 1.1%, predominately the result of higher selling, general and administrative expenses.
Provision
for Income Taxes
Provision
for income taxes was $353,000 and $649,000 for the three and six months ended June 30, 2018, respectively, compared to provision
for income taxes of $450,000 and $1,184,000 for the three and six months ended June 30, 2017, respectively. The effective tax
rate at June 30, 2018 and 2017 was 20% and 37%, respectively.
In
accordance with the Tax Cuts and Jobs Act that was enacted on December 22, 2017 (“U.S. Tax Reform”), corporate tax
rates were reduced from the historical rates and thus the effective tax rate has changed significantly during the quarter ended
June 30, 2018. The provision for income taxes for the interim quarters of 2017 were calculated under the old tax laws and as such
are not comparable to the 2018 effective rates. The impact of the U.S. Tax Reform is primarily from revaluing our U.S. deferred
tax assets and liabilities based on the rates at which they are expected to reverse in the future. Additionally, we have an AMT
tax credit which will lower our effective rate below the federal statutory rate. For U.S. federal purposes the corporate statutory
income tax rate was reduced from 35% to 21%, effective for our 2018 tax year. The provisional impact of the U.S. Tax Reform is
our current best estimate based on the preliminary review of the new law and is subject to revision based on our existing accounting
for income taxes policy as further information is gathered and interpretation and analysis of the tax legislation evolves. The
Securities and Exchange Commission has issued rules allowing for a measurement period of up to one year after the enactment date
of the U.S Tax Reform to finalize the recording of the related tax impacts. Any future changes to our provisional estimated impact
of the U.S Tax Reform will be included as an adjustment to the provision for income taxes.
Net
Income
Net
income for the three months ended June 30, 2018 was $1,257,225 or $0.14 per basic share, compared to $765,647 or $0.09 per basic
share, for the same period last year. Net income for the six months ended June 30, 2018 was $2,513,990 or $0.28 per basic share,
compared to $2,014,948 or $0.23 per basic share, for the same period last year. Diluted income per share was $0.14 for the three
months ended June 30, 2018 calculated utilizing 8,980,155 weighted average shares outstanding. Diluted income per share was $0.28
for the six months ended June 30, 2018 calculated utilizing 8,953,321 weighted average shares outstanding. Diluted income per
share was $0.09 for the three months ended June 30, 2017 calculated utilizing 8,865,055 weighted average shares outstanding. Diluted
income per share for the six months ended June 30, 2017 was $0.23, calculated utilizing 8,840,309 average shares outstanding as
adjusted for the dilutive effect of outstanding stock options and RSUs.
Liquidity
and Capital Resources
General
At
June 30, 2018, we had working capital of $80,585,949 compared to $78,137,801 at December 31, 2017, an increase of $2,448,148 or
3.1%.
Cash
Flow
A
large portion of our cash flow is used to pay for materials and processing costs associated with contracts that are in process
and which do not provide for progress payments. Costs for which we are not able to bill on a progress basis are components of
“Contract Assets” on our condensed balance sheets and represent the aggregate costs and related earnings for uncompleted
contracts for which the customer has not yet been billed. These costs and earnings are recovered upon shipment of products and
presentation of billings in accordance with contract terms.
Item
2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Because
our revenue recognition policy requires us to use estimates in determining revenue, costs and profits and in assigning the amounts
to accounting periods, there can be a significant disparity between earnings (both for accounting and tax purposes) as reported
and actual cash that we receive during any reporting period. Accordingly, it is possible that we may have a shortfall in our cash
flow and may need to borrow money, or to raise additional capital, until the reported earnings materialize into actual cash receipts.
At
June 30, 2018, we had a cash balance of $1,032,098 compared to $1,430,877 at December 31, 2017.
Our
contract assets increased by approximately $4.0 million during the six months ended June 30, 2018.
Several
of our programs require us to expend up-front costs that may have to be amortized over a portion of production units. In
the case of significant program delays and/or program cancellations, we could be required to bear impairment charges which may
be material, for costs that are not recoverable. Such charges and the loss of up-front costs could have a material
impact on our liquidity.
We
continue to work to obtain better payment terms with our customers, including accelerated progress payment arrangements, as well
as exploring alternative funding sources.
We
believe that our existing resources, together with the availability under our credit facility and the commitment that we have
from BankUnited, N.A. to extend our credit facility, will be sufficient to meet our current working capital needs for at least
12 months from the date of this filing.
Credit
Facilities
Credit
Agreement and Term Loan
On
March 21, 2016, the Company entered into a Credit Agreement with BankUnited, N.A. as the sole arranger, administrative agent and
collateral agent and Citizens Bank, N.A. (the “BankUnited Facility”). The BankUnited Facility provides for a revolving
credit loan commitment of $30 million (the “Revolving Loan”) and a $10 million term loan (“Term Loan”).
The Revolving Loan bears interest at a rate based upon a pricing grid, as defined in the agreement.
As
of June 30, 2018, the Company was not in compliance with the leverage ratio financial covenant contained in the BankUnited Facility,
as amended. We anticipate that the leverage ratio covenant will be waived and amended by the provisions of the amendment to the
BankUnited Facility described below.
As
of June 30, 2018, the Company had $27.3 million outstanding under the Revolving Loan bearing interest at 5.25%.
The
BankUnited Revolving Facility is secured by all of our assets.
The
Term Loan had an initial amount of $10 million, payable in monthly installments, as defined in the agreement, which matures on
March 31, 2019. The maturities of the Term Loan are included in the maturities of long-term debt.
In
May 2016, the Company entered into an interest rate swap with the objective of reducing its exposure to cash flow volatility arising
from interest rate fluctuations associated with certain debt. The notional amount, maturity date, and currency of this contract
match those of the underlying debt. The Company has designated this interest rate swap contract as a cash flow hedge.
On
August 7, 2018, the Company obtained a commitment letter from BankUnited, N.A. with respect to amending the BankUnited Facility
to, among other things, extend the term of each of the Revolving Loan and the Term Loan for an additional year to June 30, 2020,
and to waive non-compliance with the leverage ratio financial covenant. The amendments to the BankUnited Facility are subject
to the lenders’ due diligence and the preparation and execution of formal documentation.
Contractual
Obligations
For
information concerning our contractual obligations, see
Contractual Obligations
under Item 7. Management’s Discussion
and Analysis of Financial Condition and Results of Operations of our Annual Report on Form 10-K for the year ended December 31,
2017.