ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This discussion and analysis contains statements of a forward-looking nature relating to future events or our future financial performance or financial condition. Such statements are only predictions and the actual events or results may differ materially from the results discussed in or implied by the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in “Part I. Item 1A. Risk Factors” as well as those discussed elsewhere in this report. The historical results set forth in this discussion and analyses are not necessarily indicative of trends with respect to any actual or projected future financial performance. This discussion and analysis should be read in conjunction with the financial statements and the related notes thereto included elsewhere in this report.
Overview
Amerityre engages in the research and development, manufacturing, and sale of polyurethane tires. We believe that we have developed unique polyurethane formulations that allow us to make products with superior performance characteristics, including abrasion resistance, energy efficiency and load-bearing capabilities, when compared to conventional rubber tires. We also believe that our manufacturing processes are more energy efficient than the traditional, rubber tire, manufacturing processes, in part because our polyurethane compounds do not require the multiple processing steps, extreme heat, and high pressure that are necessary to cure rubber. Using our polyurethane technologies, we believe tires can be produced which last longer, are less susceptible to failure and are friendlier to the environment.
We concentrate on three segments of the flat free tire market: light duty polyurethane foam tires, polyurethane elastomer industrial tires and agricultural tires. Our focus continues to be applications and markets where our advantages in product technology and tire performance give us an opportunity to obtain premium pricing. Our most recent activities in these areas are set forth below:
Light Duty Polyurethane Foam Tires
– The sale of polyurethane foam tires to original equipment manufacturers, distributors and dealers accounts for the majority of our revenue. We have the ability to produce a broad range of products for the light duty tire market. Our efforts in product development and marketing allow us to build customer relationships and expand sales with original equipment manufacturers and tire distributors. We continue to focus on creating unique product solutions for customers with specific tire performance requirements. During fiscal year 2018 we have seen increased demand for our golf cart and baggage cart tires, and we expect this trend to continue in future quarters.
Polyurethane Elastomer Industrial Tires
– During the fourth quarter of fiscal year 2016 we relaunched the forklift tire product line with select customers. The acceptance of our forklift tires in the marketplace continues to be much slower than expected, and we do not expect this to change in the near future. Our scissor lift tire has also experienced limited customer interest as OEMs have refused to adopt or endorse our tire, mainly due to higher profit margins on sales of existing rubber tire options versus our offerings. Despite higher demonstrated economics for end users using our scissor lift tires, we have found that the dealer network is reluctant to switch to our tires without an endorsement from the OEMs. These products contributed negligible revenue during the first quarter of fiscal year 2019. We intend to continue promotion of these products in our target markets to improve market acceptance and establish market share.
During the 4
th
quarter of fiscal year 2018, the Company developed a new elastomer formulation for use in several of its larger tire applications. This new Elastothane
TM
formulation provides higher static load bearing capability as well as higher abrasion resistance compared to our closed cell foam formulation. Several customers have purchased tire samples for field testing. We expect more customers to order tires made in this formulation as fiscal year 2019 progresses, with sales ramping up as more customers complete their evaluations. Target markets for this new formulation are personnel carrier tires (5.70 x 12), baggage cart tires (4.80 x 12), and various lawn mower tires.
Agricultural Tires
– Sales of agricultural tires continue to be negatively impacted by low farm income, the result of low commodity prices. With the recent introduction of tariffs by China on US farm products, the prospects for improved agricultural commodity pricing are not promising. We continue to look for opportunities to develop new products for this market segment, confident that the market will eventually recover and the value proposition our products offer will be recognized.
Due to the Company’s limited resources, tire projects which are contingent on additional significant development, such as automotive tires, have been put on hold and will be revisited at a later date. However, we believe investment in R&D for new and improved products is important to the continued turnaround in our overall business, and we will selectively invest in promising opportunities that fit in our current budget We expect our investments in our current R&D activities will prove to be a prudent use of our limited capital resources.
As described above, our product line covers diverse market segments which are unrelated in terms of customer base, product distribution, market demands and competition. Our sales team is comprised of our in-house sales department supplemented by three independent manufacturer representatives, whose experience is complementary to our product portfolio. The Company’s continued emphasis on proper product pricing and new marketing campaigns continue to drive more profitable sales. Our website has helped to educate the marketplace about our products as well as generate some online sales. We plan to continue to develop new content for the website to promote our products and their value proposition in our target markets. However, we expect that the challenging economic environment, worsened by the implementation of tariffs, will provide strong headwinds and negatively impact our drive towards consistent and increasing profitability. The current US administration’s emphasis on “Buy American Products” has not provided any significant new sales opportunities for us.
Since the initial introduction of our strategic initiative, called “Profitability as a Mindset”, in 2015, the Company has been successful in implementing improvements to business processes and systems despite limited availability of resources. This program has driven improvements to the bottom line and enabled the Company to remain competitive and financially stable despite a challenging environment for revenue growth. The focus of this program going forward will continue to emphasize development of new distribution channels while maintaining our cost control discipline. Increases in the price of raw materials and wheel rims, as well as the additional tariffs on imported materials, forced us to raise prices during the recent quarter. We plan to hold pricing level for the remainder of FY 2019 provided the current cost environment for raw materials does not worsen. However, until we see a more stabilized market environment related to trade policy it is very difficult to have visibility of what our raw material costs may be over the next 12 months.
Factors Affecting Results of Operations
Our operating expenses consisted primarily of the following:
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•
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Cost of sales, which consists primarily of raw materials, components and production of our products, including applied labor costs and benefits expenses, maintenance, facilities and other operating costs associated with the production of our products;
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•
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Selling, general and administrative expenses, which consist primarily of salaries, commissions and related benefits paid to our employees and related selling and administrative costs including professional fees;
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•
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Research and development expenses, which consist primarily of direct labor conducting research and development, equipment and materials used in new product development and product improvement using our technologies;
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•
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Consulting expenses, which consist primarily of amounts paid to third-parties for outside services;
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•
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Depreciation and amortization expenses which result from the depreciation of our property and equipment, including amortization of our intangible assets; and
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•
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Stock based compensation expense related to stock and stock option awards issued to employees and consultants for services performed for the Company.
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Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with United States generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an ongoing basis, we evaluate our estimates, including those related to uncollectible receivables, inventory valuation, deferred compensation and contingencies. We base our estimates on historical performance and on various other assumptions that we believe to be reasonable under the circumstances. These estimates allow us to make judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.
We believe the following accounting policies are our critical accounting policies because they are important to the portrayal of our financial condition and results of operations and they require critical management judgments and estimates about matters that may be uncertain. If actual results or events differ materially from those contemplated by us in making these estimates, our reported financial condition and results of operations for future periods could be materially affected.
Revenue Recognition
The majority of our revenue is derived from short-term sales contracts. We account for revenue in accordance with Accounting Standards Codification (“ASC”) Topic 606, “Revenue from Contracts with Customers”.
Revenue for our products is recognized at the time in which our performance obligation is satisfied which we have defined as “control” of the product by the customer. “Control” is defined as a customer having “rights/obligations of physical control over the product or has the rights and intention to control the product.” Based on the terms of our contracts, a customer’s “control” is based on analysis of the following; (i) when a customer arranges their own shipping, and once the product has left our dock, Amerityre recognizes revenue for the product. In effect by arranging their own shipping the customer is “taking control” of the product when it leaves our warehouse; or (ii) when a customer does not arrange their own shipping we cannot recognize revenue until it is delivered and the customer takes “control” of the product.
This establishes a “deferred revenue” event until such time as delivery of the product has been completed and we have proof from the shipper of the delivery (and change in control).
Deferred revenue was $6,462, inclusive of $1,114 of shipping and handling revenue (see below), as of September 30, 2018. Deferred revenue was $9,637, inclusive of $1,532 of shipping and handling revenue (see below), as of September 30, 2017.
Shipping and Handling
Shipping and Handling Fees require that freight costs charged to customers be classified as revenues. Freight expenses are included in costs of sales and are recognized as incurred. Due to our adoption of ASC 606 as discussed above, we defer the revenues of shipping and handling until the related revenue is also recognized.
The result of this accounting is a deferral of $1,114 as of September 30, 2018 and $1,532 as of September 30, 2017.
Valuation of Intangible Assets and Goodwill
Patent and trademark costs have been capitalized at September 30, 2018, totaling $487,633 with accumulated amortization of $360,743 for a net book value of $126,890. Patent and trademark costs capitalized at September 30, 2017, totaled $487,633 with accumulated amortization of $337,882 for a net book value of $149,751.
The patents which have been granted are being amortized over a period of 20 years. Patents which are pending or are being developed are not amortized. Amortization begins once the patents have been issued. As of September 30, 2018 and 2017, respectively, there were no pending patents. Annually, pending or expired patents are inventoried and analyzed, which resulted in the recognition of a loss on abandonment, expiration or retirement of patents and trademarks of $-0- for each of the periods ended September 30, 2018 and 2017, respectively.
Amortization expense for the years ended September 30, 2018 and 2017 was $5,715 and $6,201 respectively. The Company evaluates the recoverability of intangibles and reviews the amortization period on a continual basis utilizing the guidance of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 350,
Intangibles – Goodwill and Other
. We consider the following indicators, among others, when determining whether or not our patents are impaired:
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•
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any changes in the market relating to the patents that would decrease the life of the asset;
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•
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any adverse change in the extent or manner in which the patents are being used;
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•
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any significant adverse change in legal factors relating to the use of the patents;
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•
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current period operating or cash flow loss combined with our history of operating or cash flow losses;
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•
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future cash flow values based on the expectation of commercialization through licensing; and
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•
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current expectations that, more likely than not, the patents will be sold or otherwise disposed of significantly before the end of its previously estimated useful life.
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Inventory
Inventory is stated at the lower of cost (computed on a first-in, first-out basis) or market. The cost of finished goods includes the cost of raw material, direct and indirect labor, and other indirect manufacturing costs. The inventory consists of chemicals, finished goods produced in the Company’s plant and products purchased for resale.
Stock-Based Compensation
We account for stock-based compensation under the provisions of FASB ASC 718,
Compensation – Stock Compensation
. Our financial statements as of and for the fiscal years ended September 30, 2018 and 2017 reflect the impact of FASB ASC 718. Stock-based compensation expense recognized under FASB ASC 718 for the fiscal years ended September 30, 2018 and 2017 was $9,785 and $7,168, respectively, related to employee stock options and employee stock grants.
FASB ASC 718 requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in our Statement of Operations. Stock-based compensation expense recognized in our Statements of Operations for three months ended September 30, 2018 and 2017 assume all awards will vest; therefore no reduction has been made for estimated forfeitures.
Results of Operations
Our management reviews and analyzes several key performance indicators in order to manage our business and assess the quality and potential variability of our sales and cash flows. These key performance indicators include:
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Revenues, net of returns and trade discounts, which consists of product sales and services and is an indicator of our overall business growth and the success of our sales and marketing efforts;
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Gross profit, which is an indicator of both competitive pricing pressures and the cost of goods sold of our products and the mix of product and license fees, if any;
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Growth in our customer base, which is an indicator of the success of our sales efforts; and
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Distribution of sales across our products offered.
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The following summary table presents a comparison of our results of operations for the fiscal quarters ended September 30, 2018 and 2017 with respect to certain key financial measures. The comparisons illustrated in the table are discussed in greater detail below.
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Three Month Period Ended September 30,
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Percent Change
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(in 000’s)
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2018
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2017
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2018 vs. 2017
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Net revenues
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$
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827
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$
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926
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(10.7
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)%
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Cost of revenues
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(561
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)
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(652
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)
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(14.0
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)%
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Gross profit
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266
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274
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(2.9
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)%
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Research and development expenses
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(23
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)
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(58
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)
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(60.3
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)%
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Sales and marketing expense
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(51
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)
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(66
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)
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(22.7
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)%
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General and administrative expense
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(190
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)
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(195
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)
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(2.6
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)%
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Loss on asset abandonment
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-
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(17
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)
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100.0
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%
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Other income (expense)
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2
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(3
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)
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(166.7
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)%
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Net income (loss)
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4
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(64
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)
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(106.3
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)%
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Preferred stock dividend
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(25
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)
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(25
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)
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0.0
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%
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Net loss attributable to common shareholders
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$
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(21
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)
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$
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(89
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)
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(76.4
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)%
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Quarter Ended September 30, 201
8
Compared to September 30, 201
7
As disclosed in our June 30, 2018 Annual Report on Form 10-K, the first quarter of each of our fiscal years has traditionally been our weakest quarter. Despite significantly lower net revenues in the period ending September 30, 2018 versus the year prior, we were able to post net income of $4,000 for the quarter, compared to a loss of $64,000 for the period ending September 30, 2017.
Net Sales.
Net sales of $827,244 for the quarter ended September 30, 2018, represents a 10.7% decrease over net sales of $925,716 for the same period in 2017. These results were in line with expectations as decreased demand for polyurethane foam tires from a significant customer adversely impacted results. Our forecast for the remainder of Fiscal 2019 anticipates continued low farm income and depressed agricultural tire sales. We expect our polyurethane foam products to constitute the majority of our sales during the upcoming fiscal year.
Cost of Revenues.
Cost of revenues for the quarter ended September 30, 2018 was $561,012 or 67.8% of sales compared to $651,816 or 70.4% of sales for the same period in 2017. The higher gross margin was due to sales of higher margin products compared to the year earlier period. The loss of revenue experienced during the quarter compared to the previous year was mainly low margin products. The Company continues to maintain sufficient production capacity to meet anticipated customer demand without incurring a proportionate increase in overall production costs.
Gross Profit.
Gross profit for the quarter ended September 30, 2018 was $266,232 compared to $273,900 for the same period in 2017. Gross profit for the quarter ended September 30, 2018 decreased by $7,668 or 2.9% over the same period in 2017 due to lower gross sales as outlined in the discussion above, as well as the effect of our cost control programs. The September 30, 2018 gross profit reflects a 32.2% gross margin for product sales compared to a gross margin on product sales of 29.6% in 2017.
Research & Development Expenses (R&D).
Research and development expenses for the quarter ended September 30, 2018 were $23,073 compared to $58,141 for the same period in 2017. The difference between periods is the result of lower personnel costs in this department in 2018 when compared to 2017. We continue to focus on investment in product formulation research and new product development. The Company plans to continue investing in R&D as a key factor of our new product and business improvement initiatives.
Sales & Marketing Expenses.
Sales and marketing expenses for the quarter ended September 30, 2018 were $50,924 as compared to $65,735 for the same period in 2017. The difference between periods relates to lower sales commissions and reduction in trade show expense during the quarter, when compared to the same quarter in 2017.
General & Administrative Expenses
. General and administrative expenses for the quarter ended September 30, 2018 were $189,548 compared to $194,951 for the same period in 2017. We continue to control costs and find more efficient ways to run our business activities.
Other
Income
(
Expense
)
.
Other income for the quarter ended September 30, 2018 was $1,630 compared to other expense of $18,728 for the same period in 2017. Other expense in the prior year consists of a one-time loss on the abandonment of fixed assets in relation to a failed CRM implementation.
Net
Income (
Loss
)
. Net income for the quarter ended September 30, 2018 of $4,317 compared to a net loss of $63,655 for the same period in 2017, an increase in net income of $67,972.
Liquidity and Capital Resources
Our principal sources of liquidity consist of cash and payments received from our customers. We do not have any significant revolving credit arrangements. Historically, our expenses have exceeded our sales, resulting in operating losses. From time to time, we have obtained additional liquidity to fund our operations through the sale of shares of our common stock and the placement of short-term debt instruments. At the end of 2016, we were able to obtain term bank debt financing to finance critical manufacturing equipment and operating enhancements, the majority of which was placed in service in fiscal year 2017. Management continues to evaluate financing options but is choosing to delay financing at terms that subject the Company to high costs of debt and we are reluctant to raise money through stock sales at what we believe are highly dilutive share prices. Additionally, management has notified our preferred shareholder that we are suspending future payments of preferred cash dividend payments, so the Company can increase its working capital levels.
We have historically not succeeded in establishing favorable revolving short term financing such as lines of credit. In the quarter ended March 31, 2015, we entered into a short term receivable factoring agreement with a third party to sell our receivable invoices. This agreement enables us to sell individual customer invoices for faster cash flow to the Company as we deem needed. As of September 30, 2018, we have not needed to activate this financing option due to increased focus on adherence to established collection policies and proactive communication with repeat customers, including adjusting credit limits to allow for increased sales volume where warranted.
Cash Flows
The following table sets forth our cash flows for the quarters ended September 30, 2018 and 2017.
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Periods ended Sept. 30,
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(in 000’s)
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201
8
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201
7
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Net cash provided by/used by operating activities
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$
|
94
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$
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(32
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)
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Net cash used in investing activities
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-
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-
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Net cash used by financing activities
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(4
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)
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|
(6
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)
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Net increase (decrease) in cash during the period
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$
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90
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|
|
$
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(38
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)
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Net
Cash
Provided
by Operating Activities.
Our primary sources of operating cash during the quarter ended September 30, 2018 came from collections from customers on balances from June 30, 2018 and sales for the quarter. Our primary use of operating cash was an increase in prepaid and other current assets, specifically related to renewal of insurance policies, and use of inventory. Net cash provided by operating activities was $94,279 for the quarter ended September 30, 2018 compared to net cash used by operating activities of $31,700 for the same period in 2017.
Non-cash items include depreciation and amortization and stock based compensation. Our net income was $4,317 for the quarter ended September 30, 2018 compared to a net loss of $63,655 for the same period in 2017. The net income for the quarter ended September 30, 2018 included non-cash expenses for depreciation and amortization of $20,473 and stock-based compensation of $9,785 (both stock issued and options). As of September 30, 2017, depreciation and amortization was $23,559 and stock-based compensation (stock issued) totaled $7,168.
Net Cash Used by Financing Activities
. Net cash used by financing activities was $4,651 for the quarter ended September 30, 2018 and $6,088 for the same period in 2017. The primary use of cash for the quarter ended September 30, 2018 was payment toward the payment of notes payable of $4,651.
Contractual Obligations and Commitments
The following table summarizes our contractual cash obligations and other commercial commitments at September 30, 2018.
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Payments due by period
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Total
|
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Less than
1 year
|
|
|
1 to 3 years
|
|
|
3 to 5 years
|
|
|
After
5 years
|
|
|
|
|
|
|
|
|
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|
|
|
|
|
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|
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|
|
|
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|
Facility lease (1)
|
|
$
|
241,500
|
|
|
$
|
138,000
|
|
|
$
|
103,500
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
Bank debt (2)
|
|
|
61,928
|
|
|
|
21,349
|
|
|
|
40,579
|
|
|
|
-
|
|
|
|
-
|
|
|
Total contractual cash obligations
|
|
$
|
303,428
|
|
|
$
|
159,349
|
|
|
$
|
144,079
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
(1)
|
In May 2015, we negotiated a five (5) year extension of the lease on our executive office and manufacturing facility located at 1501 Industrial Road, Boulder City, Nevada. The property consists of a 49,200 square foot building. We currently occupy all 49,200, inclusive of approximately 5,500 square feet of office space, situated on approximately 4.15 acres. All other terms and conditions of the building lease remain in effect.
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(2)
|
In June and July 2016, in two separate bank promissory notes, we financed critical manufacturing and facility equipment and operating enhancements, the majority of which was placed in service in fiscal year 2017.
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Cash Position, Outstanding Indebtedness and Future Capital Requirements
At November 6, 2018, our total cash balance was $386,168, none of which is restricted; accounts receivables was $180,993; and inventory, net of reserves for slow moving or obsolete inventory, and other current assets was $818,211. Our total indebtedness was $574,721 and includes $453,412 in accounts payable and accrued expenses, $17,600 in current portion of long-term debt and $100,724 in long-term debt.
We have been working during the past year to improve our liquidity and access to capital resources. In order to fully execute the strategic business plan discussed during our shareholder meeting in November 2017, we required more capital resources. However, management decided that an equity financing at the market conditions at the time would be too dilutive and not in the best interests of our shareholders. We will continue to pursue potential opportunities to secure short-term loans, long-term bank financing, revolving lines of credit with banking institutions and equity based transactions with interested financial firms and strategic industry partners in our effort to improve the Company’s financial position and enhance shareholder value.
The Company currently does not have an existing revolving credit facility but we were able to obtain term bank debt financing at the end of 2016 to finance critical manufacturing equipment and operating enhancements the majority of which was placed in service in fiscal year 2017. We continue to work with our vendors to obtain extended credit terms and increase credit lines where needed. Additionally, we continue to focus on adherence to established collection policies and proactive communication with repeat customers, including adjusting credit limits to allow for increased sales volume where warranted.
We are intent on focusing on the sale and distribution of profitable product lines. Management continues to look for further financing facilities at affordable terms that will allow the Company to maintain sufficient raw material and finished goods inventory to capitalize on sales growth opportunities. We are limiting our capital expenditures to that required to maintain current manufacturing capability or support key business initiatives identified in our strategic sales plan. We continue to work to reduce our overall costs wherever possible.
To help address our cash resources which at times may be limited, we have held discussions with banks and other lenders regarding establishing a line of credit for short term cash needs, however at this time we have not succeeded in establishing such a line of credit. We have entered into a short term receivable factoring agreement with a third party to sell our receivable invoices. This agreement enables us to sell individual customer invoices for faster cash flow to the Company as we deem needed. As of September 30, 2018, we have not needed to activate this financing option as explained above.
Management continues to execute its strategic plan focusing on “Profitability as a Mindset”. The Company’s emphasis on proper product pricing and new marketing campaigns has driven more profitable sales. Improvement in results has continued and the Company has been successful in reducing its required breakeven sales level.
In assessing our liquidity, management reviews and analyzes our current cash, accounts receivable, accounts payable, capital expenditure commitments and other obligations. In connection with the preparation of our financial statements for the period ended September 30, 2018, we have analyzed our cash needs for the next twelve months. We have concluded that our available cash and accounts receivables are sufficient to meet our current minimum working capital, capital expenditure and other cash requirements for this period. However, to expand manufacturing and sales operations beyond the current level, additional capital may be required.
The Company has, on occasion, instituted initiatives to incentivize sales of slower moving inventory through promotional pricing. These programs will continue to be selectively utilized in the upcoming quarters to monetize inventory, promote individual product lines, and improve our cash flow.
As of November 9, 2018, the Company has approximately 701,000 shares authorized and available for issuance. Although we are reluctant to raise money through stock sales at what we believe are dilutive share prices, these authorized but unissued and unreserved shares of our common stock can be utilized if necessary to fund the expansion of our manufacturing operations or to obtain additional working capital.
Off-Balance Sheet Arrangements
We do not currently have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we do not engage in trading activities involving non-exchange traded contracts.