NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Business activities and summary of significant accounting
policies
Business activities
RF Industries, Ltd., together with its three
wholly-owned subsidiaries (collectively, hereinafter the “Company”), primarily engages in the design, manufacture,
and marketing of interconnect products and systems, including coaxial and specialty cables, fiber optic cables and connectors,
and electrical and electronic specialty cables. For internal operating and reporting purposes, and for marketing purposes, as of
the end of the fiscal year ended October 31, 2019, the Company classified its operations into the following four divisions/subsidiaries:
(i) The RF Connector and Cable Assembly division designs, manufactures and distributes coaxial connectors and cable assemblies
that are integrated with coaxial connectors; (ii) Cables Unlimited, Inc., the subsidiary that manufactures custom and standard
cable assemblies, complex hybrid fiber optic power solution cables, adapters, and electromechanical wiring harnesses for communication,
computer, LAN, automotive and medical equipment; (iii) Rel-Tech Electronics, Inc., the subsidiary that designs and manufacturers
cable assemblies and wiring harnesses for blue chip industrial, oilfield, instrumentation and military customers; and (iv) C Enterprises,
Inc., the subsidiary that designs and manufactures quality connectivity solutions to telecommunications and data communications
distributors. The Cables Unlimited and C Enterprises divisions are Corning Cables Systems CAH Connections SM Gold Program members
that are authorized to manufacture fiber optic cable assemblies that are backed by Corning Cables Systems’ extended warranty.
Use of estimates
The preparation of consolidated financial
statements in conformity with accounting principles generally accepted in the United States of America requires management to make
estimates and assumptions that affect certain reported amounts and disclosures. Actual results may differ from those estimates.
Principles of consolidation
The accompanying consolidated financial
statements include the accounts of RF Industries, Ltd., Cables Unlimited, Inc. (“Cables Unlimited”), Rel-Tech Electronics,
Inc. (“Rel-Tech”), and C Enterprises, Inc. (“C Enterprises”), wholly-owned subsidiaries of RF Industries,
Ltd. All intercompany balances and transactions have been eliminated in consolidation.
Cash equivalents
The Company considers all highly-liquid
investments with an original maturity of three months or less when purchased to be cash equivalents.
Revenue recognition
On November 1, 2018, the Company adopted
Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606), (“ASC 606”)
applying the modified retrospective method. The core principle of ASC 606 is that revenue should be recorded in an amount that
reflects the consideration to which we expect to be entitled in exchange for goods or services promised to customers. Under ASC
606, the Company follows a five-step model to: (1) identify the contract with our customer; (2) identify our performance obligations
in our contract; (3) determine the transaction price for our contract; (4) allocate the transaction price to our performance obligations;
and (5) recognize revenue when (or as) each performance obligation is satisfied. In accordance with this accounting principle,
the Company recognizes revenue using the output method at a point in time when finished goods have been transferred to the customer
and there are no other obligations to customers after the title of the goods have transferred. Title of goods are transferred based
on shipping terms for each customer – for shipments with terms of FOB Shipping Point, title is transferred upon shipment;
for shipments with terms of FOB Destination, title is transferred upon delivery.
Inventories
Inventories are stated at the lower
of cost or net realizable value, with cost determined using the weighted average cost of accounting. Cost includes materials,
labor, and manufacturing overhead related to the purchase and production of inventories. We regularly review inventory
quantities on hand, future purchase commitments with our suppliers, and the estimated utility of our inventory. If our review
indicates a reduction in utility below carrying value due to damage, physical deterioration, obsolescence, changes in price
levels, or other causes, we reduce our inventory to a new cost basis through a charge to cost of sales in the period in which
it occurs. The determination of market value and the estimated volume of demand used in the lower of cost or market analysis
requires significant judgment.
Property and equipment
Equipment, tooling and furniture are recorded
at cost and depreciated over their estimated useful lives (generally 3 to 5 years) using the straight-line method. Expenditures
for repairs and maintenance are charged to operations in the period incurred.
Goodwill
Goodwill is recorded when the purchase price
paid for an acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired. Goodwill
is not amortized, but is subject to impairment analysis at least once annually, which the Company performs in October, or more
frequently upon the occurrence of an event or when circumstances indicate that a reporting unit’s carrying amount is greater
than its fair value.
We assess whether a goodwill impairment
exists using both qualitative and quantitative assessments at the reporting level. Our qualitative assessment involves determining
whether events or circumstances exist that indicate it is more likely than not that the fair value of a reporting unit is less
than its carrying amount, including goodwill. If based on this qualitative assessment we determine it is not more likely than not
that the fair value of a reporting unit is less than its carrying amount, we will not perform a quantitative assessment.
If the qualitative assessment indicates
that it is more likely than not that the fair value of a reporting unit is less than its carrying amount or if we elect not to
perform a qualitative assessment, we perform a quantitative assessment, or two-step impairment test, to determine whether a goodwill
impairment exists at the reporting unit. The first step in our quantitative assessment identifies potential impairments by comparing
the estimated fair value of the reporting unit to its carrying value, including goodwill (“Step 1”). If the carrying
value exceeds estimated fair value, there is an indication of potential impairment and the second step is performed to measure
the amount of impairment (“Step 2”).
No instances of
goodwill impairment were identified as of October 31, 2019 and 2018.
On June 15, 2011, the Company completed
its acquisition of Cables Unlimited. Goodwill related to this acquisition is included within the Cables Unlimited reporting unit.
As of May 19, 2015, the Company completed its acquisition of the CompPro product line. Goodwill related to this acquisition is
included within the RF Connector and Cable Assembly Division. Effective June 1, 2015, the Company completed its acquisition of
Rel-Tech. Goodwill related to this acquisition is included within the Rel-Tech reporting unit. On March 15, 2019, the Company completed
its acquisition of C Enterprises; however, no goodwill resulted from this transaction.
Long-lived assets
The Company assesses property, plant and
equipment and intangible assets, which are considered definite-lived assets for impairment. Definite-lived assets are reviewed
when there is evidence that events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable.
The Company measures recoverability of these assets by comparing the carrying amounts to the future undiscounted cash flows the
assets are expected to generate. If property and equipment and intangible assets are considered to be impaired, the impairment
to be recognized equals the amount by which the carrying value of the asset exceeds its fair market value. The Company has made
no material adjustments to our long-lived assets in any of the years presented.
The Company amortizes its intangible assets
with definite useful lives over their estimated useful lives and reviews these assets for impairment.
In addition, the Company tests our trademarks
and indefinite-lived asset for impairment at least annually or more frequently if events or changes in circumstances indicate that
these assets may be impaired.
No instances of
impairment were identified as of October 31, 2019 or 2018.
Fair value measurement
The Company measures
at fair value certain financial assets and liabilities. U.S. GAAP specifies a hierarchy of valuation techniques based on whether
the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent
sources, while unobservable inputs reflect the Company's market assumptions. These two types of inputs have created the following
fair-value hierarchy:
Level 1— Quoted prices for
identical instruments in active markets;
Level 2— Quoted prices for
similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-derived
valuations in which all significant inputs and significant value drivers are observable in active markets; and
Level 3— Valuations derived
from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
As of October 31,
2019 and 2018, the carrying amounts reflected in the accompanying consolidated balance sheets for cash and cash equivalents, accounts
receivable, accounts payable, and accrued liabilities approximated their carrying value due to their short-term nature.
Intangible assets
Intangible assets consist of the following
as of October 31, 2019 and 2018 (in thousands):
|
|
2019
|
|
|
2018
|
|
Amortizable intangible assets:
|
|
|
|
|
|
|
|
|
Customer relationships (estimated lives 7 - 15 years)
|
|
$
|
2,879
|
|
|
$
|
2,879
|
|
Accumulated amortization
|
|
|
(1,884
|
)
|
|
|
(1,619
|
)
|
|
|
|
995
|
|
|
|
1,260
|
|
|
|
|
|
|
|
|
|
|
Patents (estimated life 14 years)
|
|
|
142
|
|
|
|
142
|
|
Accumulated amortization
|
|
|
(45
|
)
|
|
|
(35
|
)
|
|
|
|
97
|
|
|
|
107
|
|
|
|
|
|
|
|
|
|
|
Totals
|
|
$
|
1,092
|
|
|
$
|
1,367
|
|
|
|
|
|
|
|
|
|
|
Non-amortizable intangible assets:
|
|
|
|
|
|
|
|
|
Trademarks
|
|
$
|
657
|
|
|
$
|
657
|
|
Amortization expense
was $275,000 for the years ended October 31, 2019 and 2018. The weighted-average amortization period for the amortizable intangible
assets is 10.98 years.
There was no impairment
to trademarks for the years ended October 31, 2019 and 2018.
Estimated amortization
expense related to finite lived intangible assets is as follows (in thousands):
Year ending
|
|
|
|
|
October 31,
|
|
|
Amount
|
|
|
2020
|
|
|
$
|
275
|
|
|
2021
|
|
|
|
136
|
|
|
2022
|
|
|
|
89
|
|
|
2023
|
|
|
|
79
|
|
|
2024
|
|
|
|
79
|
|
|
Thereafter
|
|
|
|
434
|
|
|
Total
|
|
|
$
|
1,092
|
|
Advertising
The Company expenses the cost of advertising
and promotions as incurred. Advertising costs charged to operations were approximately $231,000 and $236,000 in 2019 and 2018,
respectively.
Research and development
Research and development costs are expensed
as incurred. The Company’s research and development expenses relate to its engineering activities, which consist of the design
and development of new products for specific customers, as well as the design and engineering of new or redesigned products for
the industry in general. During the years ended October 31, 2019 and 2018, the Company recognized $1,468,000 and $1,480,000 in
engineering expenses, respectively.
Income taxes
The Company accounts for income taxes under
the asset and liability method, based on the income tax laws and rates in the jurisdictions in which operations are conducted and
income is earned. This approach requires the recognition of deferred tax assets and liabilities for the expected future tax consequences
of temporary differences between the carrying amounts and the tax bases of assets and liabilities. Developing the provision (benefit)
for income taxes requires significant judgment and expertise in federal, international and state income tax laws, regulations and
strategies, including the determination of deferred tax assets and liabilities and, if necessary, any valuation allowances that
may be required for deferred tax assets. Valuation allowances are established when necessary to reduce deferred tax assets to the
amount expected to be realized. Management’s judgments and tax strategies are subject to audit by various taxing authorities.
The Company had adopted the provisions of
ASC 740-10, which clarifies the accounting for uncertain tax positions. ASC 740-10 requires that the Company recognize the impact
of a tax position in the financial statements if the position is not more likely than not to be sustained upon examination based
on the technical merits of the position. The Company’s recognizes interest and penalties related to certain uncertain tax
positions as a component of income tax expense and the accrued interest and penalties are included in deferred and income taxes
payable in the Company’s consolidated balance sheets. See Note 9 for more information on the Company’s accounting for uncertain tax positions.
Stock options
For stock option grants to employees, the
Company recognizes compensation expense based on the estimated fair value of the options at the date of grant. Stock-based employee
compensation expense is recognized on a straight-line basis over the requisite service period. The Company issues previously unissued
common shares upon the exercise of stock options.
For the fiscal years ended October 31, 2019
and 2018, charges related to stock-based compensation amounted to approximately $317,000 and $211,000, respectively. For the fiscal
years ended October 31, 2019 and 2018, all stock-based compensation is classified in selling and general and engineering expense.
Earnings per share
Basic earnings per share is calculated by
dividing net income applicable to common stockholders by the weighted average number of common shares outstanding during the period.
The calculation of diluted earnings per share is similar to that of basic earnings per share, except that the denominator is increased
to include the number of additional common shares that would have been outstanding if all potentially dilutive common shares, principally
those issuable upon the exercise of stock options, were issued and the treasury stock method had been applied during the period.
The greatest number of shares potentially issuable by the Company upon the exercise of stock options in any period for the years
ended October 31, 2019 and 2018, that were not included in the computation because they were anti-dilutive, totaled 124,097 and
133,220, respectively.
The following table summarizes the computation
of basic and diluted earnings per share:
|
|
2019
|
|
|
2018
|
|
Numerators:
|
|
|
|
|
|
|
|
|
Consolidated net income (A)
|
|
$
|
3,521,000
|
|
|
$
|
5,846,000
|
|
|
|
|
|
|
|
|
|
|
Denominators:
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding for basic earnings per share (B)
|
|
|
9,358,836
|
|
|
|
9,105,406
|
|
Add effects of potentially dilutive securities - assumed exercise of stock options
|
|
|
495,768
|
|
|
|
487,660
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding for diluted earnings per share (C)
|
|
|
9,854,604
|
|
|
|
9,593,066
|
|
|
|
|
|
|
|
|
|
|
Basic earnings per share (A)/(B)
|
|
$
|
0.38
|
|
|
$
|
0.64
|
|
|
|
|
|
|
|
|
|
|
Diluted earnings per share (A)/(C)
|
|
$
|
0.36
|
|
|
$
|
0.61
|
|
|
|
|
|
|
|
|
|
|
Recent accounting standards
Recently issued
accounting pronouncements not yet adopted:
In February 2016, the FASB issued Accounting Standards Update (ASU) No. 2016-02, Leases. This ASU requires
lessees to recognize lease assets and lease liabilities for those leases classified as operating leases under the current GAAP.
Recognition of these assets and liabilities will have a material impact to our consolidated balance sheets upon adoption.
Under ASU 2016-02, lessees and lessors are required to recognize and measure leases at the beginning of the earliest period presented
using a modified retrospective approach, which includes a number of optional practical expedients. We adopted the standard
as of November 1, 2019, the beginning of our fiscal 2020. We elected the package of practical expedients permitted under
the transition guidance with the new standard, which among other things, allows us to carryforward the historical lease classification.
We elected the policy which allows us to combine the nonlease components with its related lease components rather than separating,
and the policy election to keep leases with an initial term of 12 months or less off of the balance sheet. We will recognize
those lease payments in the Consolidated Statements of Operations on a straight-line basis over the lease term. We estimate
that the adoption of the standard will result in recognition of additional right-of-use assets and lease liabilities of approximately
$2.3 million and $2.4 million, respectively, as of November 1, 2019. We do not believe the standard will materially affect
our consolidated net earnings, nor do we believe the new standard will have a notable impact on our liquidity.
In January 2017, the FASB issued ASU No. 2017-04, Intangibles-Goodwill and Other, which simplifies the accounting for goodwill impairments by eliminating
step 2 from the goodwill impairment test. Instead, if “the carrying amount of a reporting unit exceeds its fair value, an
impairment loss shall be recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that
reporting unit.” The guidance is effective for fiscal years beginning after December 15, 2019. Early adoption is permitted.
The Company is currently evaluating the impact the adoption of this new standard will have on its Consolidated Financial Statements.
Recently
issued accounting pronouncements adopted:
In May 2014, the FASB issued ASC 606. This
guidance superseded Topic 605, Revenue Recognition, in addition to other industry-specific guidance. The new standard requires
a company to recognize revenue in a manner that depicts the transfer of promised goods or services to customers in an amount that
reflects the consideration to which the company expects to be entitled in exchange for those goods and services. In
August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with Customers: Deferral of the Effective Date, as a revision
to ASU 2014-09, which revised the effective date to fiscal years, and interim periods within those years, beginning after December
15, 2017. Early adoption was permitted but not prior to periods beginning after December 15, 2016 (i.e., the original adoption
date per ASU 2014-09). In March 2016, the FASB issued ASU 2016-08, Revenue from Contracts with Customers: Principal versus Agent
Considerations, which clarifies certain aspects of the principal-versus-agent guidance, including how an entity should identify
the unit of accounting for the principal versus agent evaluation and how it should apply the control principle to certain types
of arrangements, such as service transactions. The amendments also reframe the indicators to focus on evidence that an entity is
acting as a principal rather than as an agent. In April 2016, the FASB issued ASU 2016-10, Revenue from Contracts with Customers:
Identifying Performance Obligations and Licensing, which clarifies how an entity should evaluate the nature of its promise in granting
a license of intellectual property, which will determine whether it recognizes revenue over time or at a point in time. The amendments
also clarify when a promised good or service is separately identifiable (i.e., distinct within the context of the contract) and
allow entities to disregard items that are immaterial in the context of a contract. On November 1, 2018, the Company adopted ASC
606 applying the modified retrospective method. The Company has performed a review of ASC 606 as compared to its previous accounting
policies for our product revenue and did not identify any material impact to revenue recognized. Therefore, there was no adjustment
to retained earnings for a cumulative effect. The necessary changes to business processes and controls to effectively review and
account for any new contracts under this standard have been implemented.
Note 2 – Business Acquisition
On March 15, 2019, through C Enterprises,
Inc. (“C Enterprises”), its newly formed subsidiary, the Company purchased the business and assets of C Enterprises
L.P., a California based designer and manufacturer of quality connectivity solutions to telecommunications and data communications
distributors. In consideration for the C Enterprises business and assets, the Company paid $600,000 in cash and assumed certain
liabilities. The acquisition was determined not to be material and was accounted for in accordance with the acquisition method
of accounting, and the acquired assets and assumed liabilities were recorded by the Company at their estimated fair values in accordance
with ASC 805, Business Combinations. There were no intangible assets identified as part of the acquisition.
The results of C Enterprises’
operations subsequent to March 15, 2019 have been included in the results of the Custom Cabling Manufacturing and Assembly segment
(“Custom Cabling segment”) as well as in the Company’s consolidated statements of operations. Costs related to
the acquisition of C Enterprises were approximately $100,000 and have been expensed as incurred and categorized in selling and
general expenses. For the year ended October 31, 2019, C Enterprises, Inc. contributed $7.2 million of revenue.
The following
unaudited pro forma financial information presents the combined operating results of the Company and C Enterprises as if the acquisition
had occurred as of the beginning of the earliest period presented. Pro forma data is subject to various assumptions and estimates
and is presented for informational purposes only. This pro forma data does not purport to represent or be indicative of the consolidated
operating results that would have been reported had the transaction been completed as described herein, and the data should not
be taken as indicative of future consolidated operating results.
Pro forma financial information is presented
in the following table:
|
|
October 31,
2019
|
|
|
October 31,
2018
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
59,250
|
|
|
$
|
58,658
|
|
Net income
|
|
|
3,370
|
|
|
|
5,419
|
|
|
|
|
|
|
|
|
|
|
Earnings per share
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.36
|
|
|
$
|
0.60
|
|
Diluted
|
|
$
|
0.34
|
|
|
$
|
0.56
|
|
Note 3 - Discontinued operations
On October 31, 2018, the Company sold all
of the assets and liabilities of its subsidiary, Comnet Telecom Supply (“Comnet Telecom”). The Company and RAP Acquisition
Inc. (“RAP Acquisition”), a New Jersey corporation, entered into a stock purchase agreement under which RAP Acquisition
agreed to purchase 100% of the issued and outstanding shares of Comnet Telecom for a purchase price of $4,200,000 in cash. Comnet
Telecom is a New Jersey-based manufacturer and supplier of telecommunications and data products, including fiber optic cables,
cabling technologies, custom patch cord assemblies, data center consoles and other data center equipment. This division was one
of the three subsidiaries of the “Custom Cabling Manufacturing and Assembly” segment. Comnet Telecom was acquired
by the Company in January 2015 from Robert Portera, and has been a wholly-owned subsidiary of the Company since that time. Mr.
Portera served as the President of Comnet Telecom during the period that Comnet Telecom was owned by the Company, and is the founder
and principal of RAP Acquisition.
For the year ended October 31, 2018, the
Company recognized pretax loss of $221,000 from the discontinued operations of the Comnet Telecom division, and an income tax benefit
of $41,000. The major line items constituting the loss of discontinued operations of Comnet are as follows (in thousands):
|
|
2018
|
|
Major line items constituting pretax income
|
|
|
|
|
from discontinued operations:
|
|
|
|
|
Net sales
|
|
$
|
8,343
|
|
Cost of sales
|
|
|
(6,199
|
)
|
Gross profit
|
|
|
2,144
|
|
Selling, general and administrative expense
|
|
|
(1,569
|
)
|
Pretax income from discontinued operations
|
|
|
575
|
|
Pretax loss on sale of Comnet
|
|
|
(796
|
)
|
Total pretax income (loss) from discontinued operations
|
|
|
(221
|
)
|
Provision (benefit) for income taxes
|
|
|
(41
|
)
|
Income (loss) from discontinued operations
|
|
$
|
(180
|
)
|
Note 4 - Concentrations of credit risk
Financial instruments which potentially
subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents and accounts receivable. The
Company maintains its cash and cash equivalents with high-credit quality financial institutions. At October 31, 2019, the Company
had cash and cash equivalent balances in excess of federally insured limits in the amount of approximately $11.6 million.
Two customers, a distributor and a
wireless carrier, accounted for approximately 19% and 23% of the Company’s net sales for the fiscal year ended October 31,
2019. This distributor accounted for approximately 62% of the Company’s net sales for the year ended October 31, 2018.
The wireless carrier’s accounts receivable balance accounted for approximately 56% of the total net accounts
receivable balance at October 31, 2019. The distributor’s accounts receivable balance accounted for approximately 48%
of the total net accounts receivable balance at October 31, 2018. Although these customers have been on-going major customers
of the Company continuously in the past, the written agreement with these customers do not have any minimum purchase
obligations and they could stop buying the Company’s products at any time and for any reason. A reduction, delay or
cancellation of orders from these customers or the loss of these customers could significantly reduce the Company’s future
revenues and profits.
Note 5 - Inventories and major vendors
Inventories, consisting of materials, labor
and manufacturing overhead, are stated at the lower of cost or net realizable value. Cost has been determined using the weighted
average cost method. Inventories consist of the following (in thousands):
|
|
2019
|
|
|
2018
|
|
Raw materials and supplies
|
|
$
|
3,576
|
|
|
$
|
2,711
|
|
Work in process
|
|
|
791
|
|
|
|
603
|
|
Finished goods
|
|
|
3,878
|
|
|
|
3,799
|
|
|
|
|
|
|
|
|
|
|
Totals
|
|
$
|
8,245
|
|
|
$
|
7,113
|
|
Two vendors accounted
for 13% and 19% of inventory purchases during the fiscal year ended October 31, 2019, compared to one vendor who accounted for
40% of inventory purchases for the fiscal year ended October 31, 2018. The Company has arrangements with their vendors to purchase
product based on purchase orders periodically issued by the Company.
Note 6 - Other current assets
Other current assets consist of the following
(in thousands):
|
|
2019
|
|
|
2018
|
|
Prepaid taxes
|
|
$
|
-
|
|
|
$
|
335
|
|
Prepaid expense
|
|
|
346
|
|
|
|
228
|
|
Notes receivable, current portion
|
|
|
-
|
|
|
|
20
|
|
Other
|
|
|
339
|
|
|
|
245
|
|
|
|
|
|
|
|
|
|
|
Totals
|
|
$
|
685
|
|
|
$
|
828
|
|
Note 7 - Accrued expenses and other
long-term liabilities
Accrued expenses consist
of the following (in thousands):
|
|
2019
|
|
|
2018
|
|
Wages payable
|
|
$
|
1,591
|
|
|
$
|
1,705
|
|
Accrued receipts
|
|
|
1,683
|
|
|
|
1,271
|
|
Other current liabilities
|
|
|
379
|
|
|
|
401
|
|
|
|
|
|
|
|
|
|
|
Totals
|
|
$
|
3,653
|
|
|
$
|
3,377
|
|
Accrued receipts represent
purchased inventory for which invoices have not been received.
Note 8 - Segment information
The Company aggregates operating divisions
into operating segments which have similar economic characteristics primarily in the following areas: (1) the nature of the product
and services; (2) the nature of the production process; (3) the type or class of customer for their products and services; (4)
the methods used to distribute their products or services; and (5) if applicable, the nature of the regulatory environment. Based
upon this evaluation, as of October 31, 2019, the Company had two reportable segments – RF Connector and Cable Assembly (RF
Connector) and Custom Cabling Manufacturing and Assembly (Custom Cabling).
During fiscal 2019, the RF Connector segment
was comprised of one division, while the Custom Cabling segment was comprised of three divisions. The four divisions that
met the quantitative thresholds for segment reporting the were RF Connector and Cable Assembly division, Cables Unlimited, Rel-Tech,
and C Enterprises. While each segment had similar products and services, with one major exception, there was little overlapping
of these services to their customer base. In addition, sales or product and services for the RF Connector segment was primarily
through the distribution channel while the Custom Cabling sales was through a combination of distribution and direct to the end
customer.
Management identifies the Company’s
segments based on strategic business units that are, in turn, based along market lines. These strategic business units offer products
and services to different markets in accordance with their customer base and product usage. For segment reporting purposes, the
RF Connector and Cable Assembly division constitutes the RF Connector segment, and the Cables Unlimited, Rel-Tech, and C Enterprises
divisions constitute the Custom Cabling segment.
As reviewed by the Company’s chief
operating decision maker, the CEO, the Company evaluates the performance of each segment based on income or loss before income
taxes. The Company charges depreciation and amortization directly to each division within the segment. Accounts receivable, inventory,
property and equipment, goodwill and intangible assets are the only assets identified by segment. Except as discussed above, the
accounting policies for segment reporting are the same for the Company as a whole.
Substantially all of the Company’s
operations are conducted in the United States; however, the Company derives a portion of its revenue from export sales. The Company
attributes sales to geographic areas based on the location of the customers. The following table presents the sales of the Company
by geographic area for the years ended October 31, 2019 and 2018 (in thousands):
|
|
2019
|
|
|
2018
|
|
United States
|
|
$
|
54,365
|
|
|
$
|
49,534
|
|
Foreign Countries:
|
|
|
|
|
|
|
|
|
Canada
|
|
|
592
|
|
|
|
547
|
|
Mexico
|
|
|
109
|
|
|
|
39
|
|
All Other
|
|
|
259
|
|
|
|
76
|
|
|
|
|
960
|
|
|
|
662
|
|
Totals
|
|
$
|
55,325
|
|
|
$
|
50,196
|
|
Net sales, income
from continuing operations before provision for income taxes and other related segment information for the years ended October
31, 2019 and 2018 are as follows (in thousands):
|
|
RF Connector
|
|
|
Custom Cabling
|
|
|
|
|
|
|
|
|
|
and
|
|
|
Manufacturing and
|
|
|
|
|
|
|
|
2019
|
|
Cable Assembly
|
|
|
Assembly
|
|
|
Corporate
|
|
|
Total
|
|
Net sales
|
|
$
|
13,704
|
|
|
$
|
41,621
|
|
|
$
|
-
|
|
|
$
|
55,325
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing
operations before provision for income taxes
|
|
|
868
|
|
|
|
3,591
|
|
|
|
98
|
|
|
|
4,557
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
170
|
|
|
|
393
|
|
|
|
-
|
|
|
|
563
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
|
7,081
|
|
|
|
17,282
|
|
|
|
13,337
|
|
|
|
37,700
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales
|
|
$
|
11,846
|
|
|
$
|
38,350
|
|
|
$
|
-
|
|
|
$
|
50,196
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing
operations before provision for income taxes
|
|
|
107
|
|
|
|
7,340
|
|
|
|
47
|
|
|
|
7,494
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
172
|
|
|
|
341
|
|
|
|
-
|
|
|
|
513
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
|
6,529
|
|
|
|
8,763
|
|
|
|
17,210
|
|
|
|
32,502
|
|
Note 9 - Income tax provision
Reconciliation of provision (benefit) for
income taxes for the years ended October 31, 2019 and 2018 are as follows (in thousands):
|
|
2019
|
|
|
2018
|
|
Continuing operations
|
|
$
|
1,036
|
|
|
$
|
1,468
|
|
Discontinued operations
|
|
|
-
|
|
|
|
(41
|
)
|
Net income
|
|
$
|
1,036
|
|
|
$
|
1,427
|
|
The provision (benefit) for income taxes
for the fiscal years ended October 31, 2019 and 2018 consists of the following (in thousands):
|
|
|
2019
|
|
|
2018
|
|
Current:
|
|
|
|
|
|
|
|
|
|
Federal
|
|
|
$
|
859
|
|
|
$
|
1,344
|
|
State
|
|
|
|
220
|
|
|
|
236
|
|
|
|
|
|
1,079
|
|
|
|
1,580
|
|
|
|
|
|
|
|
|
|
|
|
Deferred:
|
|
|
|
|
|
|
|
|
|
Federal
|
|
|
|
(25
|
)
|
|
|
(112
|
)
|
State
|
|
|
|
(18
|
)
|
|
|
-
|
|
|
|
|
|
(43
|
)
|
|
|
(112
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
1,036
|
|
|
$
|
1,468
|
|
Income tax at the federal statutory rate
is reconciled to the Company’s actual net provision for income taxes as follows (in thousands, except percentages):
|
|
2019
|
|
|
2018
|
|
|
|
|
|
|
% of Pretax
|
|
|
|
|
|
% of Pretax
|
|
|
|
Amount
|
|
|
Income
|
|
|
Amount
|
|
|
Income
|
|
Income taxes at federal statutory rate
|
|
$
|
957
|
|
|
|
21.0
|
%
|
|
$
|
1,737
|
|
|
|
38.1
|
%
|
State tax provision, net of federal tax benefit
|
|
|
160
|
|
|
|
3.5
|
%
|
|
|
170
|
|
|
|
3.7
|
%
|
Nondeductible differences:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Rel-Tech earn-out
|
|
|
-
|
|
|
|
0.0
|
%
|
|
|
(6
|
)
|
|
|
-0.1
|
%
|
Qualified domestic production activities deduction
|
|
|
-
|
|
|
|
0.0
|
%
|
|
|
(141
|
)
|
|
|
-3.1
|
%
|
Stock options
|
|
|
21
|
|
|
|
0.5
|
%
|
|
|
(204
|
)
|
|
|
-4.5
|
%
|
Meals and entertainment
|
|
|
8
|
|
|
|
0.2
|
%
|
|
|
8
|
|
|
|
0.2
|
%
|
R&D credits
|
|
|
(119
|
)
|
|
|
-2.6
|
%
|
|
|
(111
|
)
|
|
|
-2.4
|
%
|
ASC 740-10 Liability
|
|
|
21
|
|
|
|
0.5
|
%
|
|
|
54
|
|
|
|
1.2
|
%
|
Tax Cut and Jobs Act
|
|
|
-
|
|
|
|
0.0
|
%
|
|
|
(34
|
)
|
|
|
-0.7
|
%
|
Other
|
|
|
(12
|
)
|
|
|
-0.3
|
%
|
|
|
(5
|
)
|
|
|
-0.1
|
%
|
|
|
$
|
1,036
|
|
|
|
22.8
|
%
|
|
$
|
1,468
|
|
|
|
32.3
|
%
|
The Company’s total deferred tax assets
and deferred tax liabilities at October 31, 2019 and 2018 are as follows (in thousands):
|
|
2019
|
|
|
2018
|
|
Deferred Tax Assets:
|
|
|
|
|
|
|
|
|
Reserves
|
|
$
|
172
|
|
|
$
|
276
|
|
Accrued vacation
|
|
|
97
|
|
|
|
116
|
|
Stock-based compensation awards
|
|
|
87
|
|
|
|
113
|
|
Uniform capitalization
|
|
|
64
|
|
|
|
78
|
|
Other
|
|
|
55
|
|
|
|
93
|
|
Total deferred tax assets
|
|
|
475
|
|
|
|
676
|
|
|
|
|
|
|
|
|
|
|
Deferred Tax Liabilities:
|
|
|
|
|
|
|
|
|
Amortization / intangible assets
|
|
|
(307
|
)
|
|
|
(544
|
)
|
Depreciation / equipment and furnishings
|
|
|
(125
|
)
|
|
|
(132
|
)
|
Total deferred tax liabilities
|
|
|
(432
|
)
|
|
|
(676
|
)
|
|
|
|
|
|
|
|
|
|
Total net deferred tax assets (liabilities)
|
|
$
|
43
|
|
|
$
|
-
|
|
On December 22, 2017, the U.S. President
signed the Tax Cuts and Jobs Act (the “Tax Act”). The Tax Act, among other things, lowered the U.S. corporate income
tax rate from 35% to 21% effective January 1, 2018. In December 2017, the SEC staff issued Staff Accounting Bulletin No. 118, Income
Tax Accounting Implications of the Tax Cuts and Jobs Act (SAB 118), which allowed us to record provisional amounts during a measurement
period not to extend beyond one year of the enactment date. As a result, we previously recorded a provisional estimate of the effect
of the Tax Act in our financial statements. In the first quarter of 2019, we completed our analysis to determine the effect of
the Tax Act and recorded no additional adjustments as of December 22, 2018.
Deferred income tax assets and liabilities
are recorded for differences between the financial statement and tax basis of the assets and liabilities that will result in taxable
or deductible amounts in the future based on enacted laws and rates applicable to the periods in which the differences are expected
to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected
to be realized. The Company has evaluated the available evidence supporting the realization of its gross deferred tax assets, including
the amount and timing of future taxable income, and has determined it is more likely than not that the assets will be realized
in future tax years.
The provision for income taxes from continuing
operations was $1.0 million or 22.7% and $1.5 million or 19.6% of income before income taxes for fiscal 2019 and 2018, respectively.
The increase in the effective income tax rate from year to year is primarily driven by the elimination of the benefit from the
domestic production activities deduction, the one-time benefit recorded in the prior year related to the reduction in the Company’s
deferred tax liability due to the change in the federal tax rate, both as a result of the Tax Act, and the impact of share-based
compensation excess tax benefits recognized which vary from year to year depending on the Company’s share price in each period.
The Company recorded income from discontinued operations, net of tax, for fiscal 2018 as disclosed in Note 3.
The Company’s adjustments to its uncertain
tax positions in fiscal years ended October 31, 2019 and 2018 are as follows:
|
|
2019
|
|
|
2018
|
|
Balance, at beginning of year
|
|
$
|
59
|
|
|
$
|
-
|
|
Increase for tax positions related to the current year
|
|
|
23
|
|
|
|
24
|
|
Increase for tax positions related to prior years
|
|
|
3
|
|
|
|
29
|
|
Increase for interest and penalties
|
|
|
2
|
|
|
|
6
|
|
Statute of Limitations Expirations
|
|
|
(7
|
)
|
|
|
-
|
|
Balance, at end of year
|
|
$
|
80
|
|
|
$
|
59
|
|
The Company had gross unrecognized tax benefits
of $72,000 and $53,000 attributable to its U.S. federal and California research tax credits as of October 31, 2019 and 2018, respectively.
During fiscal 2019, the increase in the Company’s gross unrecognized tax benefit was primarily related to claiming additional
federal and California research tax credits. The uncertain tax benefit is recorded as income taxes payable in the Company’s
consolidated balance sheet.
The Company recognizes interest and penalties
related to uncertain tax positions in income tax expense. The Company recognized expense of approximately $2,000 and $6,000 during
the years ended October 31, 2019 and 2018, respectively.
The Company believes
that an adequate provision has been made for any adjustments that may result from tax examinations. However, it is possible that
certain changes may occur within the next twelve months, but the Company does not anticipate that its accrual for uncertain tax
positions will change by a material amount over the next twelve-month period.
The Company is subject
to taxation in the United States and state jurisdictions. The Company’s tax years for October 31, 2015 and forward are subject
to examination by the United States and October 31, 2014 and forward with state tax authorities.
Note 10 - Stock options
Incentive and non-qualified stock option plans
On March 9, 2010, the Company’s Board
of Directors adopted the RF Industries, Ltd. 2010 Stock Incentive Plan (the “2010 Plan”). In June 2010, the Company’s
stockholders approved the 2010 Plan by vote as required by NASDAQ. An aggregate of 1,000,000 shares of common stock was set aside
and reserved for issuance under the 2010 Plan. The Company’s stockholders approved the issuance of an additional 500,000
shares of common stock at its annual meeting held on September 5, 2014, another 500,000 shares of common stock at its annual meeting
held September 4, 2015 and another 1,000,000 shares of common stock at its annual meeting held September 8, 2017. As of October
31, 2019, 1,405,741 shares of common stock were remaining for future grants of stock options under the 2010 Plan.
Additional disclosures related to stock option plans
On December 13, 2017, the Company granted
80,000 incentive stock options to an employee. These options vested 8,000 shares on the date of grant, and the balance vests as
to 8,000 shares per year thereafter on each of the next nine anniversaries of December 13, 2017, and expire ten years from date
of grant. On December 3, 2018, the Company granted each of two employees 25,000 incentive stock options. These options vested 5,000
each on the date of grant, and the balance vests as to 5,000 shares each per year thereafter on each of the next four anniversaries
of December 3, 2018, and expire ten years from the date of grant. On December 3, 2018, the Company also granted one employee 10,000
incentive stock options. These options vested 2,000 shares on the date of grant, and the balance vests as to 2,000 shares per year
thereafter on each of the next four anniversaries of December 3, 2018, and expire ten years from the date of grant. On March 8,
2019, the Company granted one employee 25,000 incentive stock options. These options vested 5,000 on the date of grant, and the
balance vests as to 5,000 shares per year thereafter on each of the next four anniversaries of March 8, 2019, and expire ten years
from the date of grant. No other options were granted to Company employees during fiscal 2019.
The fair value of each option granted in
2019 and 2018 was estimated on the grant date using the Black-Scholes option pricing model with the following assumptions:
|
|
2019
|
|
|
2018
|
|
Weighted average volatility
|
|
|
55.42
|
%
|
|
|
46.83
|
%
|
Expected dividends
|
|
|
0.98
|
%
|
|
|
3.28
|
%
|
Expected term (in years)
|
|
|
5.9
|
|
|
|
4.5
|
|
Risk-free interest rate
|
|
|
2.86
|
%
|
|
|
1.87
|
%
|
Weighted average fair value of options granted during the year
|
|
$
|
3.98
|
|
|
$
|
0.82
|
|
Weighted average fair value of options vested during the year
|
|
$
|
6.03
|
|
|
$
|
2.64
|
|
Expected volatilities are based on historical
volatility of the Company’s stock price and other factors. The Company used the historical method to calculate the expected
life of the 2019 option grants. The expected life represents the period of time that options granted are expected to be outstanding.
The risk-free rate is based on the U.S. Treasury rate with a maturity date corresponding to the options’ expected life. The
dividend yield is based upon the historical dividend yield.
Additional information regarding all of
the Company's outstanding stock options at October 31, 2019 and 2018 and changes in outstanding stock options in 2019 and 2018
follows:
|
|
2019
|
|
|
2018
|
|
|
|
Shares or
|
|
|
Weighted
|
|
|
Shares or
|
|
|
Weighted
|
|
|
|
Price Per
|
|
|
Average
|
|
|
Price Per
|
|
|
Average
|
|
|
|
Share
|
|
|
Exercise Price
|
|
|
Share
|
|
|
Exercise Price
|
|
Outstanding at beginning of year
|
|
|
942,366
|
|
|
$
|
3.09
|
|
|
|
1,159,771
|
|
|
$
|
3.19
|
|
Options granted
|
|
|
124,097
|
|
|
$
|
8.16
|
|
|
|
269,635
|
|
|
$
|
2.44
|
|
Options exercised
|
|
|
(171,066
|
)
|
|
$
|
3.86
|
|
|
|
(418,955
|
)
|
|
$
|
2.66
|
|
Options canceled or expired
|
|
|
(5,250
|
)
|
|
$
|
6.82
|
|
|
|
(68,085
|
)
|
|
$
|
4.98
|
|
Options outstanding at end of year
|
|
|
890,147
|
|
|
$
|
3.62
|
|
|
|
942,366
|
|
|
$
|
3.09
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options exercisable at end of year
|
|
|
599,981
|
|
|
$
|
3.25
|
|
|
|
675,033
|
|
|
$
|
3.01
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options vested and expected to vest at end of year
|
|
|
889,088
|
|
|
$
|
3.63
|
|
|
|
940,144
|
|
|
$
|
3.09
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Option price range at end of year
|
|
|
$1.90 - $8.69
|
|
|
|
|
|
|
|
$1.90 - $5.88
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Aggregate intrinsic value of options exercised during year
|
|
$
|
317,827
|
|
|
|
|
|
|
$
|
1,207,148
|
|
|
|
|
|
Weighted average remaining contractual life of options outstanding
as of October 31, 2019: 4.16 years
Weighted average remaining contractual life of options exercisable
as of October 31, 2019: 2.62 years
Weighted average remaining contractual life of options vested
and expected to vest as of October 31, 2019: 4.15 years
Aggregate intrinsic value of options outstanding at October
31, 2019: $2,340,000
Aggregate intrinsic value of options exercisable at October
31, 2019: $1,735,000
Aggregate intrinsic value of options vested and expected to
vest at October 31, 2019: $2,330,000
As of October 31, 2019, $439,000 of expense
with respect to nonvested share-based arrangements has yet to be recognized, which is expected to be recognized over a weighted
average period of 5.25 years.
Non-employee directors receive $50,000 annually,
which is paid one-half in cash and one-half through the grant of non-qualified stock options to purchase shares of the Company’s
common stock. During the quarter ended January 31, 2019, the Company granted each of its five non-employee directors 7,203 non-qualified
stock options. The options have an exercise price of $8.07 per share. The number of stock options granted to each director was
determined by dividing $25,000 by the fair value of a stock option grant using the Black-Scholes model ($3.471 per share). These
options vest ratably over fiscal year 2019 and expire five years from the date of grant. Effective November 1, 2018, in addition
to the compensation received for serving on the Board of Directors, the Chairman of each committee of the Board will receive $15,000
per year in cash for services rendered as Chairman. On June 7, 2019, a new director joined the Board. The Company granted the new
director 3,082 non-qualified stock options with an exercise price of $7.50 per share. The number of stock options granted to this
director was determined by dividing $10,000 of compensation (prorated for the period as an active director) by the fair value of
a stock option grant using the Black-Scholes model ($3.245 per share). These options vest ratably over fiscal year 2019 and expire
five years from the date of grant. No other non-qualified stock options were granted during the fiscal year ended October 31, 2019.
Note 11 - Retirement plan
The Company has a 401(K) plan available
to its employees. For the years ended October 31, 2019 and 2018, the Company contributed and recognized as an expense $181,000
and $159,000, respectively, which amount represented 3% of eligible employee earnings under its Safe Harbor Non-elective Employer
Contribution Plan.
Note 12 - Related party transactions
On June 15, 2011, the Company purchased
Cables Unlimited, Inc., a New York corporation, from Darren Clark, the sole shareholder of Cables Unlimited, Inc. In connection
with the purchase of Cables Unlimited, the Company entered into a lease for the New York facilities from which Cables Unlimited
conducts its operations. Cables Unlimited’s monthly rent expense under the lease is $13,000 per month, plus payments of all
utilities, janitorial expenses, routine maintenance costs, and costs of insurance for Cables Unlimited’s business operations
and equipment. During the fiscal year ended October 31, 2019, the Company paid the landlord a total of $156,000 under the lease.
The owner and landlord of the facility is a company controlled by Darren Clark, the former owner of Cables Unlimited and the current
President of this subsidiary of the Company.
On October 31, 2018, the Company sold its
Comnet Telecom Supply, Inc.(“Comnet”) subsidiary to RAP Acquisition, Inc. for $4.2 million in cash. RAP Acquisition,
Inc. is an affiliate of Robert A. Portera, the founder of Comnet and its President.
Note 13 - Cash dividend and declared
dividends
The Company paid quarterly dividends of
$0.02 per share during fiscal year 2019 for a total of $748,000. The Company paid quarterly dividends of $0.02 per share during
fiscal year 2018 for a total of $730,000.
Note 14 - Commitments
For the year ended October 31, 2019, the
Company leased its facilities in San Diego, California, Yaphank, New York, Milford, Connecticut and Vista, California under non-cancelable
operating leases. Deferred rent, included in accrued expenses and other long-term liabilities, was $102,000 as of October 31, 2019
and $93,000 as of October 31, 2018. The San Diego and Vista leases also require the payment of the Company's pro rata share of
the real estate taxes and insurance, maintenance and other operating expenses related to the facilities.
Rent expense under all operating leases
totaled approximately $853,000 and $546,000 in 2019 and 2018, respectively.
Minimum lease payments under these non-cancelable
operating leases in each of the years subsequent to October 31, 2019 are as follows (in thousands):
Year ending
|
|
|
|
|
October 31,
|
|
|
Amount
|
|
2020
|
|
|
$
|
829
|
|
2021
|
|
|
|
744
|
|
2022
|
|
|
|
465
|
|
2023
|
|
|
|
155
|
|
2024
|
|
|
|
-
|
|
Total
|
|
|
$
|
2,193
|
|
Note 15 - Subsequent events
On November 4, 2019, the Company
purchased 100% of the voting equity interest of Schroff Technologies International, Inc. (“Schrofftech”), a
Rhode Island- based manufacturer and marketer of intelligent thermal control systems used by telecommunications companies
across the U.S. and Canada, and shrouds for small cell integration and installation. The Company paid $4,000,000 in cash at
the closing, of which $900,000 was deposited into two separate escrow accounts for a period of one year and two years,
respectively, as security for any indemnification claims the Company may have against the seller. In addition to the cash
paid at the closing, the Company agreed to pay up to an additional $2,400,000 as an earn-out payment if Schrofftech achieves
certain adjusted earnings before interest, taxes, depreciation and amortization ("EBITDA") targets during the two-year period
following the closing. The acquisition is in line with the Company’s business strategy to diversify products and
solution offerings and customer base.
On November 27, 2019, the Company entered
into an agreement for a line of credit (“LOC”) in the amount of $5.0 million. Amounts outstanding under the LOC shall
bear interest at a rate of 2.0% plus LIBOR Daily Floating Rate (“base interest rate”), with interest payable on the
last day of each month. Borrowings under the LOC are secured by a security interest in certain assets of the Company. The LOC contains
certain loan covenants as described in the agreement. Failure to maintain the loan covenants shall constitute an event of default
resulting in all outstanding amounts of principal and interest becoming immediately due and payable.
On
December 13, 2019, the Board of Directors of the Company declared a quarterly dividend of $0.02 per share payable on January 15,
2020 to stockholders of record on December 31, 2019.