ITEM 2. MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The statements contained in this Quarterly
Report on Form 10-Q that are not purely historical are “forward-looking statements” within the meaning of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements relate to future events and typically address the Company’s
expected future business and financial performance. Words such as “plan,” “expect,” “aim,”
“believe,” “project,” “target,” “anticipate,” “intend,” “estimate,”
“will,” “should,” “could” and other words and terms of similar meaning, typically identify
these forward-looking statements. Forward-looking statements are based on certain assumptions and expectations of future events
and trends that are subject to risks and uncertainties. Actual results could differ from those projected in any forward-looking
statements because of the factors identified in and incorporated by reference from Part I, Item 1A, “Risk Factors,”
of our Annual Report on Form 10-K for the year ended September 30, 2020 and Part II, Item 1A. “Risk Factors” of this
Quarterly Report on Form 10-Q, as well as in other filings we make with the Securities and Exchange Commission, which should be
considered an integral part of Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and
Results of Operations.” All forward-looking statements included herein are made as the date of this Quarterly Report on Form
10-Q and we assume no obligation to update the forward-looking statements or to update the reasons why actual results could differ
from those projected in the forward-looking statements.
The following discussion and analysis of the
Company’s financial condition and results of operations as of and for the three and six months ended March 31, 2021 and 2020
should be read in conjunction with the financial statements and related notes in Item 1 of this report and our Annual Report
on Form 10-K for the year ended September 30, 2020.
OVERVIEW
General
Clearfield, Inc. (“Clearfield” or
the “Company”) designs, manufactures, and distributes fiber optic management, protection and delivery products for
communications networks. Our “fiber to the anywhere” platform serves the unique requirements of leading Broadband Service
Providers in the United States (“U.S.”), which include Community Broadband, MSO’s, and National Carriers, while
also serving the broadband needs of the International markets, primarily countries in the Caribbean, Canada, and Central and South
America. These customers are collectively included in Broadband Service Providers. The Company also provides contract manufacturing
services for its Legacy customers which include original equipment manufacturers (OEM) requiring copper and fiber cable assemblies
built to their specifications.
The Company has historically focused on the
unserved or underserved rural communities that receive voice, video and data services from independent telephone companies. By
aligning its in-house engineering and technical knowledge alongside its customers, the Company has been able to develop, customize
and enhance products from design through production. Final build and assembly of the Company’s products is completed at Clearfield’s
manufacturing facilities in Brooklyn Park, Minnesota, and Tijuana, Mexico, with manufacturing support from a network of domestic
and global manufacturing partners. Clearfield specializes in producing these products on both a quick-turn and scheduled delivery
basis. The Company deploys a hybrid sales model with some sales made directly to customers, some made through two-tier distribution
(channel) partners, sales agents and manufacturing representatives, and sales through original equipment suppliers who private
label their products.
Under U.S. federal and state guidance in response
to the COVID-19 pandemic, Clearfield’s operations are classified as part of the Cybersecurity and Infrastructure Security
Agency (“CISA”) critical infrastructure sector and similar categorization in Minnesota. In March 2020, we transitioned
our corporate employees at our Brooklyn Park headquarters to remote work arrangements and they currently continue remote work.
In accordance with the Centers for Disease Control and Prevention (“CDC”) and World Health Organization (“WHO”)
guidelines, we implemented and have continued health and safety measures for the production staff that remain onsite at our Brooklyn
Park facility. We have maintained our manufacturing capacity in Brooklyn Park with these personnel at near historic levels. Similarly,
we have implemented the recommended health and safety measures for the production staff that remains onsite at our Tijuana, Mexico
manufacturing facilities. Throughout the COVID-19 pandemic, the Company has closely monitored the operations and staffing levels
at its Brooklyn Park facility and its two manufacturing facilities in Tijuana, Mexico.
Due to the risks to timely supply of materials
to our facilities, we have taken multiple actions to ensure sufficient safety stock inventory levels at both our Minnesota and
Mexico facilities. Additionally, we made the decision to maximize the availability of all product lines at all three of our plants
by assuring that each location can manufacture across our broad product portfolio. These actions, combined with our historic practice
of dual sourcing most of our components, has positioned us to meet our obligations to customers and to fulfill our order backlog
going forward. However, in the event of serious border restrictions or border delays, component material shortages, supply chain
transportation delays, or other serious disruption in our supply chain, we may experience diminished or temporarily suspended operations,
longer lead times than typical for product deliveries, or temporarily suspended product deliveries, which would result in delayed
or reduced revenue from the affected orders in production and higher operating costs.
RESULTS OF OPERATIONS
Three months ended March 31, 2021 vS. three
months ended March 31, 2020
Net sales for the second quarter of fiscal 2021
ended March 31, 2021 were $29,692,000, an increase of approximately 45% or $9,283,000, from net sales of $20,409,000 for the second
quarter of fiscal 2020. Net sales to Broadband Service Providers were $28,934,000 in the second quarter of fiscal 2021 versus $19,642,000
in the same period of fiscal 2020. Among this group, the Company recorded $1,948,000 in International
sales for the second quarter of fiscal 2021 versus $919,000 in the same period of fiscal 2020. Net sales to Legacy customers were
$758,000 in the second quarter of fiscal 2021 versus $766,000 in the same period of fiscal 2020. The Company allocates sales from
external customers to geographic areas based on the location to which the product is transported. Accordingly, International sales
represented 7% and 5% of total net sales for the second quarter of fiscal 2021 and 2020, respectively.
The increase in net sales for the quarter ended
March 31, 2021 of $9,283,000 compared to the quarter ended March 31, 2020 was driven primarily by increased sales to Community
Broadband Service Providers, MSO and International customers of $8,296,000, $1,581,000, and $1,029,000, respectively. Offsetting
this was decreased sales to Tier 1 customers of $1,623,000. Net sales to Legacy customers remained relatively consistent over this
period. The increase to Community Broadband and MSO customers was due to continuing increased demand for fiber connectivity products
in response to COVID-19 driven by customers accelerating their purchasing decisions and deployment schedules of our fiber optic
solutions and the need for high-speed broadband required in the work from anywhere environment. The increase in International sales
was driven by government funding of deployments within those markets. The decrease in sales to Tier 1 customers is due to COVID-19
constraints limiting the deployment of fiber products into the access part of Tier 1 networks.
Revenue from customers is obtained from purchase
orders submitted from time to time, with a limited number of customers recently issuing purchase orders for longer time frames.
Accordingly, the Company’s ability to predict orders in future periods or trends affecting orders in future periods is limited.
The Company’s ability to predict revenue has become further limited by potential disruption to its supply chains or changes
in customer ordering patterns due to COVID-19, global supply chain issues and the impact of government programs. The Company’s
ability to recognize revenue in the future for customer orders will depend on the Company’s ability to manufacture and deliver
products to the customers and fulfill its other contractual obligations.
Cost of sales for
the second quarter of fiscal 2021 was $16,750,000, an increase of $4,493,000, or 37%, from $12,257,000 in the comparable period
of fiscal 2020. Gross profit percent was 43.6% of net sales in the second quarter of fiscal 2021, an increase from 39.9% of net
sales for the second quarter of fiscal 2020. Gross profit increased $4,790,000 or 59%, to $12,942,000 for the three months ended
March 31, 2021 from $8,151,000 in the comparable period in fiscal 2020. The increase in gross profit in the second quarter
of fiscal 2021 was due to increased volume of net sales described above while the increase in gross profit percent was primarily
due to a favorable product mix and cost reduction efforts across the Company’s product lines, including greater use of its
Mexico manufacturing plants and efficiencies realized from higher sales volumes. In the second quarter of fiscal 2021, the Company
did not experience any significant impacts on cost of sales due to COVID-19.
Selling, general and
administrative expenses increased $1,058,000, or 14%, to $8,490,000 in the second quarter fiscal 2021 from $7,431,000 for the fiscal
2020 second quarter. The increase in expense in the second quarter of fiscal 2021 consists primarily of increases of $1,405,000
in compensation expense due to additional headcount and increased wages and performance compensation accruals driven by higher
net sales, and increased stock compensation expense of $231,000, offset by a recovery of bad debt expense of $210,000 and a decrease
in travel and entertainment expenses of $335,000 due to COVID-19 restrictions. In the second quarter of fiscal 2021, other than
the travel and entertainment costs mentioned above, the Company did not experience any significant impacts on selling, general
and administrative expense due to COVID-19.
Income from operations for the quarter ended
March 31, 2021 was $4,451,000 compared to $720,000 for the comparable quarter of fiscal 2020, an increase of approximately 518%.
This increase is attributable to increased gross profit driven by higher sales, offset by higher selling, general and administrative
expenses.
Interest income for the quarter ended March
31, 2021 was $123,000 compared to $218,000 for the comparable quarter for fiscal 2020. The decrease is due to lower interest rates
earned on investments in the second quarter of fiscal 2021. We expect interest income to decline due to the prevailing lower interest
rates in the current economic environment.
We recorded a provision
for income taxes of $935,000 and $190,000 for the three months ended March 31, 2021 and 2020, respectively. We record our quarterly
provision for income taxes based on our estimated annual effective tax rate for the year. The increase in tax expense of $745,000
from the second quarter for fiscal 2020 is primarily due to increased income from operations. The
income tax expense rate for the second quarter of fiscal 2021 was 20.4%, relatively unchanged from 20.3% recorded in the second
quarter of fiscal 2020.
The Company’s net income for
the three months ended March 31, 2021 was $3,640,000, or $0.27 per basic and diluted share. The Company’s net income
for the three months ended March 31, 2020 was $748,000, or $0.05 per basic and diluted share.
Six months ended March
31, 2021 vS. six months ended March 31, 2020
Net sales for the six months ended March 31,
2021 were $56,784,000, an increase of 43%, or approximately $16,998,000, from net sales of $39,787,000 for the first six months
of fiscal 2020. Net sales to Broadband Service providers were $55,507,000 for the first six months of fiscal 2021, versus $37,798,000
in the same period of fiscal 2020. Among this group, the Company recorded $3,008,000 in International sales versus $2,055,000 in
the same period of fiscal 2020. Net sales to Legacy customers were $1,277,000 in the first six months of fiscal 2021 versus $1,990,000
in the same period of fiscal 2020. The Company allocates sales from external customers to geographic areas based on the location
to which the product is transported. Accordingly, International sales represented 5% of total net sales for the first six months
of fiscal 2021 and 2020.
The increase in net sales for the six months
ended March 31, 2021 of $16,998,000 compared to the six months ended March 31, 2020 is primarily attributable to an increase in
sales to Community Broadband, MSO and International customers of $16,490,000, $2,282,000 and $907,000, respectively. This was
offset by decreased sales to Tier 1 and Legacy customers of $1,999,000, and $683,000, respectively. The increase to Community
Broadband and MSO customers was due to increased demand in response to COVID-19 driven by customers accelerating their purchasing
decisions and deployment schedules of our fiber optic solutions and the need for high-speed broadband required in the work from
anywhere environment. The increase in International sales was driven by government funding of deployments within those markets.
The decrease in sales to Tier 1 customers is the result of COVID-19 constraints limiting the deployment of fiber products into
the access part of the network.
Cost of sales for
the six months ended March 31, 2021 was $32,473,000, an increase of $8,566,000, or 36%, from $23,908,000 in the comparable period
of fiscal 2020. Gross profit percent was 42.8% of net sales in the fiscal 2021 first six months, up from 39.9% for the comparable
six months in fiscal 2020. Gross profit increased $8,432,000, or 53%, to $24,311,000 for the six months ended March 31, 2021 from
$15,879,000 in the comparable period in fiscal 2020. The increase in gross profit in the six months ended March 31, 2021
was due to increased volume of net sales described above and a higher gross profit percent. The increase in gross profit percent
was primarily due to favorable product mix and cost reduction efforts across the Company’s product lines, including greater
use of its Mexico manufacturing plants and efficiencies realized from higher sales volumes. In the six months ended March 31, 2021,
the Company did not experience any significant impacts on cost of sales due to COVID-19.
Selling, general and
administrative expenses increased 9%, or $1,388,000, from $14,758,000 for the first six months of fiscal 2020 to $16,146,000 for
the first six months of fiscal 2021. The increase in the first six months of fiscal 2021 consists primarily of increases of $2,214,000
in compensation expense due to additional personnel along with increased wages and performance compensation accruals driven by
higher net sales, and increased stock compensation expense of $276,000, offset by a recovery of bad debt expense of $210,000 and
decreases in travel, entertainment and trade show expenses of $807,000 due to COVID-19 restrictions. In the six months ended March
31, 2021, other than the travel, entertainment and trade show costs mentioned above, the Company did not experience any significant
impacts on selling, general and administrative expense due to COVID-19.
Income from operations for the six months ended
March 31, 2021 was $8,165,000 compared to income from operations of $1,121,000 for the first six months of fiscal 2020, an increase
of $7,044,000, or 628%. This increase is primarily attributable to increased gross profit driven by higher sales, offset by increased
selling, general and administrative expenses.
Interest income for the six months ended March
31, 2021 was $257,000 compared to $441,000 for the comparable period for fiscal 2020. The decrease is due to lower interest rates
earned on investments in the second quarter of fiscal 2021. We expect interest income to decline due to the prevailing lower interest
rates in the current economic environment.
We recorded a provision
for income taxes of $1,619,000 and $313,000 for the six months ended March 31, 2021 and 2020, respectively. The increase in tax
expense of $1,306,000 from the six months ended March 31, 2020 is primarily due to increased income from operations. The decrease
in the income tax expense rate to 19.2% for the six months ended March 31, 2021 from 20.0% for the six months ended March 31, 2020
is primarily due to excess tax benefits from non-qualified stock options exercised during the six months ended March 31,
2021.
The Company’s net income for
the first six months of fiscal 2021 ended March 31, 2021 was $6,803,000, or $0.50 per basic and diluted share. The Company’s
net income for the first six months of fiscal 2020 ended March 31, 2020 was $1,249,000, or $0.09 per
basic and diluted share.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 2021, our principal source of
liquidity was our cash, cash equivalents and short-term investments. Those sources total $32,297,000 as of March 31, 2021 compared
to $27,032,000 as of September 30, 2020. Our excess cash is invested mainly in certificates of deposit backed by the FDIC, U.S.
Treasury securities and money market accounts. Investments considered long-term were $25,565,000 as of March 31, 2021, compared
to $25,143,000 as of September 30, 2020. We believe the combined balances of short-term cash and investments along with long-term
investments provide a more accurate indication of our available liquidity. At the end of the second quarter of fiscal 2021, our
cash, cash equivalents and short-term and long-term investments increased to $57.9 million compared to $54.4 million as of the
prior quarter end. We had no long-term debt obligations as of March 31, 2021 or September 30, 2020.
We believe our existing cash equivalents and
short-term investments, along with cash flow from operations, will be sufficient to meet our working capital and investment requirements
for beyond the next 12 months. The Company intends on utilizing its available cash and assets
primarily for its continued organic growth and potential future strategic transactions, as well as to mitigate the potential impacts
on the Company’s business due to COVID-19 or supply chain, logistics, and customer fulfillment risks.
Operating Activities
Net cash provided by operating activities totaled
$6,700,000 for the six months ended March 31, 2021. This was primarily due to net income of $6,803,000, non-cash expenses for depreciation
and amortization of $1,139,000, and stock-based compensation of $623,000 in addition to changes in operating assets and liabilities
providing cash. The primary changes in operating assets and liabilities using cash include an increase in accounts receivable of
$2,908,000, offset by increases in accounts payable and accrued expenses of $1,240,000. The increase in accounts receivable is
due to increased sales during the most recent quarter and the timing of payments from customers. Accounts receivable balances can
be influenced by the timing of shipments for customer projects and payment terms. Days sales outstanding, which measures how quickly
receivables are collected, increased five days to 40 days from September 30, 2020 to March 31, 2021. The increase in accounts payable
and accrued expenses is due to the timing of payments to vendors in the quarter and $2,373,000 of fiscal 2020 accrued bonus compensation
accruals paid in the first quarter of fiscal 2021.
Net cash provided by operating activities totaled
$2,296,000 for the six months ended March 31, 2020. This was primarily due to net income of $1,249,000, non-cash expenses for depreciation
and amortization of $1,211,000, and stock-based compensation of $329,000 in addition to changes in operating assets and liabilities
providing cash. Changes in operating assets and liabilities using cash include increases in inventory of $2,675,000 and accounts
payable, accrued expenses and deferred rent of $1,091,000, offset by a decrease in accounts receivable of $1,049,000. The increase
in inventory is a result of additional stocking levels to support the Company’s increased backlog, and additional safety
stock due to the uncertainty of the COVID-19 virus on the Company’s supply chain. Accounts receivable balances can be influenced
by the timing of shipments for customer projects and payment terms. Day’s sales outstanding, which measures how quickly receivables
are collected, increased one day to 36 days from September 30, 2019 to March 31, 2020.
Investing Activities
We invest our excess cash in money market accounts,
U.S. Treasury securities and bank CDs in denominations across numerous banks. We believe we obtain a competitive rate of return
given the economic climate along with the security provided by the FDIC on these investments. During the six months ended March
31, 2021, we used cash to purchase $6,448,000 of FDIC-backed securities and received $6,651,000 on CDs that matured. Purchases
of property, plant and equipment, mainly related to manufacturing equipment, consumed $682,000 of cash during the six months ended
March 31, 2021.
During the six months ended March 31, 2020,
we used cash to purchase $19,077,000 of both FDIC-backed and treasury securities and received $16,720,000 on CDs and treasuries
that matured. Purchases of property, plant and equipment, mainly related to manufacturing equipment, consumed $1,183,000 of cash
during the six months ended March 31, 2020.
Financing Activities
For the six months ended March 31, 2021, we
received $179,000 from employees’ participation and purchase of stock through our ESPP, we used $456,000 related to share
withholding for taxes associated with the issuance of common stock upon cashless exercise of stock options and used $54,000 to
pay for taxes as a result of employees’ vesting of restricted shares using share withholding. We did not repurchase common
stock under our share repurchase program in the six months ended March 31, 2021.
For the six months ended March 31, 2020, we
received $170,000 from employees’ participation and purchase of stock through our ESPP and used $6,000 to pay for taxes as
a result of employees’ vesting of restricted shares using share withholding. We used $429,000 to repurchase 41,796 shares
of our common stock under the share repurchase program in the six months ended March 31, 2020.
As of March 31, 2021 and March 31, 2020, we
had the authority to purchase approximately $4,981,000 in additional shares under the repurchase program announced on November
13, 2014 that was subsequently increased on April 25, 2017.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management utilizes its technical knowledge,
cumulative business experience, judgment and other factors in the selection and application of the Company’s accounting policies.
The accounting policies considered by management to be the most critical to the presentation of the financial statements because
they require the most difficult, subjective and complex judgments include revenue recognition, stock-based compensation, and valuation
of inventory, long-lived assets, finite lived intangible assets and goodwill.
These accounting policies are described in Item
7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the Company’s
Annual Report on Form 10-K for the year ended September 30, 2020. Management made no changes to the Company’s critical accounting
policies during the quarter ended March 31, 2021.
In applying its critical accounting policies,
management reassesses its estimates each reporting period based on available information. Changes in these estimates did not have
a significant impact on earnings for the quarter ended March 31, 2021.