Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
The discussion below contains certain forward-looking statements including, but not limited to, among others, statements concerning future revenues and future business plans. Forward-looking statements include statements in which we use words such as “expect”, “believe”, “anticipate”, “intend”, “project”, “estimate”, “should”, “could”, “may”, “plan”, “potential”, “predict”, “project”, “will”, “would” and similar expressions. Although we believe the expectations reflected in such forward-looking statements are based on reasonable assumptions, the forward-looking statements are subject to significant risks and uncertainties, and thus we cannot assure you that these expectations will prove to have been correct, and actual results may vary from those contained in such forward-looking statements. We discuss many of these risks and uncertainties in Item 1A under the heading “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended September 30, 2020, and in this Form 10-Q. Factors that may cause such variances include, but are not limited to, our dependence on a small number of customers for a significant portion of our revenue, our high dependence on contracts with the U.S. federal government, our reliance in certain circumstances on single sources for supply of key product components, intense competition in the market segments in which we operate, the recent changes in the U.S. Tax laws, and the impact of the novel coronavirus (COVID-19) on our business, results of operations and financial condition. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Also, forward-looking statements represent our estimates and assumptions only as of the date of this document. Except as required by law, we do not undertake any obligation to publicly update or revise any forward-looking statements contained in this report, whether as a result of new information, future events or otherwise. This management’s discussion and analysis of financial condition and results of operations should be read in conjunction with our financial statements and the related notes included elsewhere in this filing and in our Annual Report on Form 10-K for the fiscal year ended September 30, 2020.
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. 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 on-going basis, we evaluate our estimates, including those related to uncollectible receivables, inventory valuation, impairment assessment of intangibles, income taxes, deferred compensation and retirement plans, as well as estimated selling prices used for revenue recognition and contingencies. We base our estimates on historical performance and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. A description of our critical accounting policies is contained in our Annual Report on Form 10-K for the fiscal year ended September 30, 2020 in the “Critical Accounting Policies” section contained in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Observations on effects of novel coronavirus
On March 11, 2020, the World Health Organization characterized the novel coronavirus outbreak as a pandemic. The outbreak has and continues to adversely affect the economies of the U.S., U.K., and other international markets and economies in which we operate. As a result of the World Health Organization characterizing the COVID-19 outbreak as a pandemic, national, state, and local governments have and continue to take actions such as declaring a state of emergency, implementing social distancing and other guidelines, and shutting down and/or limiting the opening or operation of certain businesses which are not considered essential.
In these times of pandemic, our top priorities are to protect the health, well-being, and safety of our employees and partners, while still focusing on the key drivers of our business. To that end, and to insure we continue to operate safety and cautiously while also meeting our public health responsibilities, the Company has adopted flexible business practices including allowing most employees to work remotely in all locations. Our revenue decreased significantly for the three and six months ended March 31, 2021 due to the pandemic. This is largely the result of customers reducing their budgets. The pandemic has also had an adverse effect on our ability to transact one-on-one business.
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We recognize the pandemic has created a dynamic and uncertain situation in the national economy, and we continue to closely monitor the latest information to make timely, informed business decisions and public disclosures regarding the potential impact of pandemic on our operations. Despite reduced infection rates and ever-increasing vaccination rates in the United States, many nations and certain pockets within the United States are still battling various strains/variants of the novel coronavirus, creating ongoing uncertainties as to when economies will return to business as usual and what that will look like, what regulatory measures or voluntary actions will be further implemented to limit the spread of COVID-19 and the duration of such measures, the extent, severity and impact of any further spread of COVID-19 variants or resurgence of COVID-19 in a given geographic region after it has hit its “peak,” and the extent to which herd immunity will be achieved through the vaccination process. In summary, the scope of this pandemic and its effects are unprecedented, and we cannot at this time make a reasonable estimate on the extent or duration of the impacts on our business.
Results of Operations
Overview of the three months ended March 31, 2021
Our revenues decreased by approximately $2.8 million, or 17%, to $14.1 million for the three months ended March 31, 2021 as compared to $16.9 million for the three months ended March 31, 2020. The decrease in revenue is the result of a decrease of $2.2 million in our TS segment combined with a $0.6 million decrease in our HPP segment. Our gross margin percentage increased to 31% of revenues for the three months ended March 31, 2021 from 27% for the three months ended March 31, 2020. The increase is attributed to the TS segment. For the three months ended March 31, 2021 there was an operating loss of $0.1 million compared to an operating loss of $0.1 million for the three months ended March 31, 2020, primarily as a result of decreased sales offset with a higher gross margin as a percentage of revenue. Other income, (expense) net decreased approximately $0.6 million for the three months ended March 31, 2021 to approximately none as compared to income of $0.6 million for the three months ended March 31, 2020. This is primarily due to an increase in foreign exchange loss of $0.6 million for the three months ended March 31, 2021 from the prior year. An income tax expense of $723 thousand was recorded for the three months ended March 31, 2021 compared to an income tax expense of $1.2 million in the same period of 2020. The income tax expense for the three months ended March 31, 2021 is primarily driven by an increase in the valuation allowance against deferred tax assets in the period, offset by a benefit recorded for a change in tax law, allowing for the immediate deduction of covered expenses incurred through the Paycheck Protection Program. The deferred tax asset change is a non-cash item.
The following table details our results of operations in dollars and as a percentage of sales for the three months ended March 31, 2021 and 2020:
%
%
March 31, 2021
of sales
March 31, 2020
of sales
(Dollar amounts in thousands)
Sales
$
14,088
100
%
$
16,883
100
%
Costs and expenses:
Cost of sales
9,720
69
%
12,400
74
%
Engineering and development
762
5
%
716
4
%
Selling, general and administrative
3,727
26
%
3,910
23
%
Total costs and expenses
14,209
101
%
17,026
101
%
Operating loss
(121)
(1)
%
(143)
(1)
%
Other income, (expense) net
(3)
—
%
580
3
%
Income (loss) before income taxes
(124)
(1)
%
437
2
%
Income tax expense
723
5
%
1,169
7
%
Net loss
$
(847)
(6)
%
$
(732)
(5)
%
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Revenues
Our revenues decreased by approximately $2.8 million to $14.1 million for the three months ended March 31, 2021 as compared to $16.9 million of revenues for the prior year period. TS segment revenues decreased by $2.2 million and HPP segment revenues decreased by approximately $0.6 million.
TS segment revenue change was as follows for the three months ended March 31, 2021 and March 31, 2020:
Decrease
2021
2020
$
%
(Dollar amounts in thousands)
Products
$
10,259
$
12,224
$
(1,965)
(16)
%
Services
2,941
3,184
(243)
(8)
%
Total
$
13,200
$
15,408
$
(2,208)
(14)
%
The decrease in TS segment product revenues of $2.0 million during the period is attributable to the U.S. division and is primarily the result of decreased sales to several major customers during the period due to companies continuing budget freezes or reductions. Service revenue for the three months ended March 31, 2021 decreased $0.2 million from the prior year. The changes in service revenue include decreased internal and third party service revenue of $0.7 million, partially offset with increased third party maintenance revenues of $0.4 million primarily related to sales of security and cloud based software as well as maintenance (all recorded as net revenue), and increased managed services revenue of $0.1 million.
HPP segment revenue change was as follows for the three months ended March 31, 2021 and 2020:
Decrease
2021
2020
$
%
(Dollar amounts in thousands)
Products
$
716
$
922
$
(206)
(22)
%
Services
172
553
(381)
(69)
%
Total
$
888
$
1,475
$
(587)
(40)
%
The HPP product revenues decreased by $0.2 million for the three months ended March 31, 2021 as compared to prior year, primarily as a result of a $0.2 million decrease in Myricom product sales. The HPP services revenues decreased $0.4 million for the three months ended March 31, 2021 from prior year primarily due to decreased royalties on high-speed processing boards related to the E2D program.
Our revenues by geographic area, which is based on the customer location to which the products were shipped or services rendered, were as follows for the three months ended March 31, 2021 and March 31, 2020:
Increase (decrease)
2021
%
2020
%
$
%
(Dollar amounts in thousands)
Americas
$
13,033
92
%
$
16,143
95
%
$
(3,110)
(19)
%
Europe
779
6
%
619
4
%
160
26
%
Asia
276
2
%
121
1
%
155
128
%
Totals
$
14,088
100
%
$
16,883
100
%
$
(2,795)
(17)
%
The $3.1 million decrease in revenue to the Americas is primarily the result of decreased sales by our TS segment division of $2.3 million combined with a decrease in the HPP segment of $0.8 million. The $0.2 million increase in revenue to Europe is primarily the result of increased sales by our U.S. division of $0.1 million combined with a $0.1 million increase from the HPP segment. The revenue to Asia increased $0.2 million is primarily the result of an increase from the HPP segment.
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Gross Margins
Our gross margin ("GM") decreased by approximately $0.1 million to $4.4 million for the three months ended March 31, 2021 as compared to a gross margin of approximately $4.5 million for the prior year. The GM as a percentage of revenue increased to 31% for the three months ended March 31, 2021, from 27%. The increase in GM as a percentage of revenue is attributed to the TS segment.
2021
2020
Increase (decrease)
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
TS
$
3,885
29
%
$
3,656
24
%
$
229
5
%
HPP
483
54
%
827
56
%
(344)
(2)
%
Total
$
4,368
31
%
$
4,483
27
%
$
(115)
4
%
The impact of product mix within our TS segment on gross margin for the three months ended March 31, 2021 and 2020 was as follows:
2021
2020
Increase (decrease)
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
Products
$
2,095
20
%
$
1,814
15
%
$
281
5
%
Services
1,790
61
%
1,842
58
%
(52)
3
%
Total
$
3,885
29
%
$
3,656
24
%
$
229
5
%
The overall TS segment GM as a percentage of sales increased to 29% for the three month period ended March 31, 2021 compared to 24% for the prior year. GM as a percentage of product sales increased to 20% for the three months ended March 31, 2021 from 15% for the prior year. This is primarily due to significant pricing discounts given to the U.S. division from several manufacturers that were not given in the prior year. GM as a percentage of service sales increased to 61% for the three months ended March 31, 2021 from 58% for the prior year period. This is primarily due to increased sales of third party maintenance revenues of $0.3 million primarily related to sales of security and cloud based software as well as maintenance (all recorded as net revenue) and increased sales of managed services compared to the prior year.
The impact of product mix within our HPP segment on gross margin for the three months ended March 31, 2021 and 2020 was as follows:
2021
2020
Increase (Decrease)
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
Products
$
326
46
%
$
299
32
%
$
27
14
%
Services
157
91
%
528
95
%
(371)
(4)
%
Total
$
483
54
%
$
827
56
%
$
(344)
(2)
%
The overall HPP segment GM as a percentage of sales decreased to 54% for the three months ended March 31, 2021 from 56% for the three months ended March 31, 2020. This 2% decrease is attributed to decreased GM from decreased services revenue including a $0.3 million decrease of royalty revenues, which is nearly all margin. Product GM as a percentage of revenue increased by 14% for the six months ended March 31, 2021 from prior year due to product mix and a reduction in manufacturing overhead expenses.
Operating Expenses
Engineering and Development Expenses
The engineering and development expenses incurred by our HPP segment increased by approximately $0.1 million for the three months ended March 31, 2021 to $0.8 million from $0.7 million for the prior year. The current period
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expenses were primarily for product engineering expenses incurred in connection with the continued development of the ARIA SDS cyber security products.
Selling, General and Administrative Expenses
The following table details our selling, general and administrative (“SG&A”) expense by operating segment for the three months ended March 31, 2021 and 2020:
For the three months ended March 31,
% of
% of
$ Decrease
% Decrease
2021
Total
2020
Total
(Dollar amounts in thousands)
By Operating Segment:
TS segment
$
2,667
72
%
$
2,775
71
%
$
(108)
(4)
%
HPP segment
1,060
28
%
1,135
29
%
(75)
(7)
%
Total
$
3,727
100
%
$
3,910
100
%
$
(183)
(5)
%
SG&A expenses overall decreased $0.2 million for the three months ended March 31, 2021 as compared to the prior year. The $0.1 million decrease in TS segment SG&A expenses compared to the same prior year period is primarily the result of a $0.1 million decrease of payroll. The HPP segment SG&A expenses decreased $0.1 million for the three months ended March 31, 2021 as compared to the prior year due to decreased travel and stock compensation expense.
Other Income/Expenses
The following table details other income (expense) for the three months ended March 31, 2021 and 2020:
For the three months ended
Increase
March 31, 2021
March 31, 2020
(Decrease)
(Amounts in thousands)
Interest expense
$
(75)
$
(55)
$
(20)
Interest income
133
163
(30)
Foreign exchange (loss) gain
(154)
479
(633)
Other income (expense), net
93
(7)
100
Total other income (expense), net
$
(3)
$
580
$
(583)
The $583 thousand decrease in total other income (expense), net for the three months ended March 31, 2021 as compared to the prior year is primarily driven by an increase in foreign exchange loss of $633 thousand. The U.K. division has significant bank accounts with U.S. dollars and Euros. In consolidation, U.S. dollars and Euros are remeasured into the functional currency, British Pounds, of our U.K. subsidiary. This non-cash remeasurement is included in foreign exchange gain or loss on the income statement and the foreign exchange loss is primarily from a Euro and U.S. Dollar bank account. The US dollar and Euro weakened relative to the British Pound for the three months ended March 31, 2021, which caused the foreign exchange loss.
The interest income decrease of $30 thousand for the three months ended March 31, 2021 as compared to the prior year is primarily related to agreements that have payment terms in excess of one year (see Note 6 in Item 1 to this Quarterly Report on Form 10-Q) from the TS-US segment.
Income Taxes
The income tax expense for the three months ended March 31, 2021 is primarily driven by an increase in the valuation allowance against deferred tax assets in the period, offset by a benefit recorded for a change in tax law, allowing for the immediate deduction of covered expenses incurred through the Paycheck Protection Program. The deferred tax asset change is a non-cash item. The income tax expense for the three months ended March 31, 2020 reflected the recording
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of a valuation allowance against deferred tax assets during the quarter, offset by the anticipated tax benefit from the carryback of net operating losses.
We have in general historically calculated the provision for income taxes during interim reporting periods by applying an estimate of the annual effective tax rate for the full calendar year to ordinary income or loss for the reporting period. However, we used a discrete effective tax rate method to calculate income taxes for the quarter ended March 31, 2021 because we determined that our ordinary income or loss cannot be reliably estimated and small changes in estimated ordinary income would result in significant changes in the estimated annual effective tax rates.
Overview of the six months ended March 31, 2021
Our revenues decreased by approximately $8.3 million, or 24%, to $25.5 million for the six months ended March 31, 2021 as compared to $33.7 million for the prior year. The decrease in overall revenue for the six months ended March 31, 2021 as compared to the prior year is primarily the result of an approximately $8.2 million decrease in our TS segment revenue. The is primarily due to decreased sales to several major customers in the U.S. division. Our overall gross margin percentage increased to 30% of revenue for the six months ended March 31, 2021 from 25% of revenue for the six months ended March 31, 2020. Our operating loss increased by approximately $0.2 million resulting in an operating loss of $0.7 million for the six months ended March 31, 2021 as compared to operating loss of $0.5 million for prior year period, primarily as a result of decreased product revenues, which was partially offset by overall increased gross margin as a percentage of revenue. Other income, (expense) net increased by $1.4 million primarily due the gain on forgiveness of the Payroll Protection Program loans, partially offset by an increase in foreign exchange loss of $0.8 million. An income tax expense of $833 thousand was recorded for the six months ended March 31, 2021 compared to an income tax expense of $1.1 million in the same period of 2020. The income tax expense for the six months ended March 31, 2021 is primarily driven by an increase in the valuation allowance against deferred tax assets in the period, offset by a benefit recorded for a change in tax law, allowing for the immediate deduction of covered expenses incurred through the Paycheck Protection Program. The deferred tax asset change is a non-cash item.
The following table details our results of operations in dollars and as a percentage of sales for the six months ended March 31, 2021 and 2020:
%
%
March 31, 2021
of sales
March 31, 2020
of sales
(Dollar amounts in thousands)
Sales
$
25,476
100
%
$
33,741
100
%
Costs and expenses:
Cost of sales
17,730
70
%
25,227
75
%
Engineering and development
1,491
6
%
1,388
4
%
Selling, general and administrative
6,913
27
%
7,671
23
%
Total costs and expenses
26,134
103
%
34,286
102
%
Operating loss
(658)
(3)
%
(545)
(2)
%
Other income, (expense) net
1,795
7
%
372
1
%
Income (loss) before income taxes
1,137
4
%
(173)
(1)
%
Income tax expense
833
3
%
1,099
3
%
Net income (loss)
$
304
1
%
$
(1,272)
2
%
Revenues
Our total revenues decreased by approximately $8.3 million to $25.5 million for the six months ended March 31, 2021 as compared to $33.7 million of revenues for the prior year.
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TS segment revenue change was as follows for the six months ended March 31, 2021 and 2020:
Decrease
2021
2020
$
%
(Dollar amounts in thousands)
Products
$
17,491
$
25,016
$
(7,525)
(30)
%
Services
5,541
6,209
(668)
(11)
%
Total
$
23,032
$
31,225
$
(8,193)
(26)
%
The decrease in TS segment product revenues of $7.5 million for the six months ended March 31, 2021 as compared to the prior year period is the result of a decrease of $8.4 million in our U.S. division, partially offset with a $0.9 million increase in our U.K. division. The $8.4 million decrease in the U.S. division product revenues is the result of decreased sales to several major customers. The $0.9 million increase in the U.K. division product revenue is due to sales to one customer that did not occur in the prior year. The decrease in TS segment service revenues of $0.7 million for the six months ended March 31, 2021 as compared to the prior year period is attributable to the U.S. division and is primarily the result of a decrease of a $1.3 million decrease in internal and third party service revenues, partially offset by an increase of $0.5 million in third party maintenance revenue primarily related to sales of security and cloud based software as well as maintenance (all recorded as net revenue) and a $0.1 million increase in managed service contract revenues.
HPP segment revenue change was as follows for the six months ended March 31, 2021 and 2020:
Increase (decrease)
2021
2020
$
%
(Dollar amounts in thousands)
Products
$
1,892
$
1,689
$
203
12
%
Services
552
827
(275)
(33)
%
Total
$
2,444
$
2,516
$
(72)
(3)
%
The HPP product revenue increase of $0.2 million for the six months ended March 31, 2021 as compared to the prior year is primarily due to increased Multicomputer sales of approximately $0.4 million, partially offset with a decrease of $0.2 million from Myricom product sales. The decrease in HPP services revenues of approximately $0.3 million is primarily the result of a decrease in repair revenue.
Our revenues by geographic area, which is based on the customer location to which the products were shipped or services rendered, were as follows for the six months ended March 31, 2021 and 2020:
Increase (decrease)
2021
%
2020
%
$
%
(Dollar amounts in thousands)
Americas
$
22,783
90
%
$
32,268
95
%
$
(9,485)
(29)
%
Europe
2,320
9
%
1,282
4
%
1,038
81
%
Asia
373
1
%
191
1
%
182
95
%
Totals
$
25,476
100
%
$
33,741
100
%
$
(8,265)
(24)
%
The $9.5 million decrease in the Americas revenues for the six months ended March 31, 2021 as compared to the same prior year period is primarily due to decreased revenue by our TS U.S. division of $9.2 million and decreased revenue by our HPP segment of $0.3 million. The $1.0 million increase in Europe revenue for the six month period ended March 31, 2021 as compared to the prior year is primarily due to increased sales by our TS U.K. division of $0.8 million, increased sales by our TS U.S. division of $0.1 million, and increased sales in our HPP segment of $0.1 million. The $0.2 million increase in Asia revenue for the six month period March 31, 2021 as compared to the prior year is primarily due to increased sales by our HPP segment.
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Gross Margins
Our gross margin ("GM") decreased by $0.8 million to $7.7 million for the six months ended March 31, 2021 as compared to a gross margin of approximately $8.5 million for the prior year. However, the GM as a percentage of revenue increased to 30% for the six months ended March 31, 2021 from 25% for the prior year.
2021
2020
Increase (Decrease)
(Dollar amounts in thousands)
GM$
GM%
GM$
GM%
GM$
GM%
TS
$
6,321
27
%
$
7,180
23
%
$
(859)
4
%
HPP
1,425
58
%
1,334
53
%
91
5
%
Total
$
7,746
30
%
$
8,514
25
%
$
(768)
5
%
The impact of product mix within our TS segment on gross margin for the six months ended March 31, 2021 and 2020 is as follows:
2021
2020
Increase (decrease)
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
Products
$
2,980
17
%
$
3,492
14
%
$
(512)
3
%
Services
3,341
60
%
3,688
59
%
(347)
1
%
Total
$
6,321
27
%
$
7,180
23
%
$
(859)
4
%
The overall TS segment GM as a percentage of sales increased to 27% for the six months ended March 31, 2021 from 23% for the same prior year period. The 3% increase in GM on product as a percentage of product sales is primarily due to significant pricing discounts given to the U.S. division from several manufacturers that were not given in the prior year. The 1% increase in GM on services as a percentage of services sales is due to increased volume of managed services and increased third party maintenance revenues primarily related to sales of security and cloud based software as well as maintenance (all recorded as net revenue).
The impact of product mix within our HPP segment on gross margin for the six months ended March 31, 2021 and 2020 is as follows:
2021
2020
Increase (Decrease)
(Dollar amounts in thousands)
GM$
GM%
GM$
GM%
GM$
GM%
Products
$
901
48
%
$
576
34
%
$
325
14
%
Services
524
95
%
758
92
%
(234)
3
%
Total
$
1,425
58
%
$
1,334
53
%
$
91
5
%
The overall HPP segment GM as a percentage of sales increased to 58% for the period from 53% in the prior year period. The 5% increase in total GM as a percentage of sales in the HPP segment is primarily attributed to product mix in both product and service revenue combined with a reduction in manufacturing overhead expenses.
Operating Expenses
Engineering and Development Expenses
Engineering and development expenses increased by $0.1 million to $1.5 million for the six months ended March 31, 2021 as compared to the prior year. The current period expenses were primarily for product engineering expenses incurred in connection with continued development of the ARIA SDS cyber security products.
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Selling, General and Administrative Expenses
The following table details our selling, general and administrative (“SG&A”) expense by operating segment for the six months ended March 31, 2021 and 2020:
For the six months ended March 31,
% of
% of
$ Decrease
% Decrease
2021
Total
2020
Total
(Dollar amounts in thousands)
By Operating Segment:
TS segment
$
4,786
69
%
$
5,438
71
%
$
(652)
(12)
%
HPP segment
2,127
31
%
2,233
29
%
(106)
(5)
%
Total
$
6,913
100
%
$
7,671
100
%
$
(758)
(10)
%
SG&A expenses decreased by approximately $0.8 million, or 10%, for the six months ended March 31, 2021 as compared to the prior year. The $0.7 million decrease in TS segment expenses is primarily attributed to decreased payroll, variable compensation expenses, and travel. The HPP segment $0.1 million decrease, or 5%, for the six months ended March 31, 2021 as compared to the prior year is primarily due to decreased stock compensation and travel expenses.
Other Income/Expenses
The following table details other income (expense) for the six months ended March 31, 2021 and 2020:
For the six months ended
$ Increase
March 31, 2021
March 31, 2020
(Decrease)
(Amounts in thousands)
Interest expense
$
(113)
$
(112)
$
(1)
Interest income
231
336
(105)
Foreign exchange (loss) gain
(621)
144
(765)
Gain on debt forgiveness
2,196
—
2,196
Other income, net
102
4
98
Total other income (expense), net
$
1,795
$
372
$
1,423
The $1.4 million increase to total other income (expense), net for the six months ended March 31, 2021 as compared to the prior year is primarily driven by a gain on debt forgiveness of $2.2 million, partially offset by an increase in foreign exchange loss of $0.8 million. The U.K. division has significant bank accounts with U.S. dollars and Euros. In consolidation, U.S. dollars and Euros are remeasured into the functional currency, British Pounds, of our U.K. subsidiary. This non-cash remeasurement is included in foreign exchange gain or loss on the income statement and the foreign exchange loss is primarily from a Euro and U.S. Dollar bank account. The US dollar and Euro weakened relative to the British Pound for the six months ended March 31, 2021, which caused the foreign exchange loss.
The decrease in interest income of $105 thousand is primarily related to agreements that have payment terms in excess of one year (see Note 6) from the TS-US segment.
Income Taxes
The income tax expense of $833 thousand for the six months ended March 31, 2021 is primarily driven by an increase in the valuation allowance against deferred tax assets in the period, offset by a benefit recorded for a change in tax law, allowing for the immediate deduction of covered expenses incurred through the Paycheck Protection Program. The deferred tax asset change is a non-cash item. The income tax expense for the three months ended March 31, 2020 reflected the recording of a valuation allowance against deferred tax assets during the quarter, offset by the anticipated tax benefit from the carryback of net operating losses.
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We have in general historically calculated the provision for income taxes during interim reporting periods by applying an estimate of the annual effective tax rate for the full calendar year to ordinary income or loss for the reporting period. However, we used a discrete effective tax rate method to calculate income taxes for the quarter ended March 31, 2021 because we determined that our ordinary income or loss cannot be reliably estimated and small changes in estimated ordinary income would result in significant changes in the estimated annual effective tax rates.
Liquidity and Capital Resources
Our primary source of liquidity is our cash and cash equivalents, which increased by $1.1 million to $20.4 million as of March 31, 2021 from $19.3 million as of September 30, 2020.
Our significant sources of cash for six months ended March 31, 2021 included an increase in accounts payable and accrued expenses of $1.7 million, a decrease in inventories of $1.0 million, and an increase in deferred revenue of $0.5 million.
Our significant uses of cash for the six months ended March 31, 2021 are primarily related to the HPP division engineering and development costs of $1.5 million causing the operating loss.
Our cash held by our foreign subsidiary in the United Kingdom totaled approximately $9.9 million as of March 31, 2021 consisted of 0.8 million Euros, 0.3 million British Pounds, and 8.4 million U.S. Dollars. This cash is included in our total cash and cash equivalents reported within the financial statements.
As of March 31, 2021 and September 30, 2020, the Company maintained a line of credit with a capacity of up to $15.0 million for inventory accessible to both the HPP and TS segments. This line of credit also includes availability of a limited cash withdrawal of up to $1.0 million. An amount of $13.8 million and $13.4 million were available as of March 31, 2021 and September 30, 2020, respectively. As of March 31, 2021 and September 30, 2020 there were no cash withdrawals outstanding.
During the second quarter of fiscal year 2021 we entered into two multi-year agreements that involved us selling goods and services in which we were an agent and therefore recorded net revenue for the transactions. These agreements combined involved us receiving approximately $9.0 million over four years and us making payments of around $8.7 million over four years with similar dates to when we would be receiving payments.
If cash generated from operations is insufficient to satisfy working capital requirements, we may need to access funds through bank loans or other means. If we are unable to secure additional financing, we may not be able to complete development or enhancement of products, take advantage of future opportunities, respond to competition, retain key employees, or continue to effectively operate our business.
On April 17, 2020, the Company and Modcomp, Inc., its wholly owned subsidiary each received a loan (“SBA Loans”) in the form of a promissory note from Paragon Bank in the amounts of $827,000 and $1,353,600, respectively under the Paycheck Protection Program, which was established under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) administered by the U.S. Small Business Administration. The SBA loans had a two-year term and carried an annual fixed interest rate of 1%. The SBA Loans were forgiven in full by the SBA in the first quarter of fiscal year 2021.
Based on our current plans and business conditions, management believes that the Company’s available cash and cash equivalents, the cash received from the SBA loans, the cash generated from operations, and availability on our line of credit will be sufficient to provide for the Company’s working capital and capital expenditure requirements for at least 12 months from the date of this filing.
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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.