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, 2022. 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, changes in the U.S. Tax laws, continued disruptions in the supply chain and inflationary pressures, the impact of the Ukraine-Russian military conflict on global trade and financial markets, and the continuing 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, 2022.
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations are based upon our condensed 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, 2022 in the “Critical Accounting Policies” section contained in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations. Management believes there have been no significant changes for the six months ended March 31, 2023 to the items that we disclosed as our critical accounting estimates in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the fiscal year ended September 30, 2022.
Observations on effects of novel coronavirus and Russia/Ukraine Conflict
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.
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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 safely 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.
COVID-19 has adversely affected the distribution channel leading to significantly longer lead times when ordering product. Manufacturers are not producing as much product as prior to the pandemic due to disruptions, resulting in supply shortages. Additionally, recent global shipping delays have exacerbated this problem. The TS segment has many vendors it transacts with and supply shortages are pervasive with many of them. The HPP segment has and continues to experience shortages with their vendors as well. If we are unable to successfully resolve these disruptions and shortages, the timing and amount of our future results may be materially impacted. The HPP segment secured a $1.8 million contract for real-time networking monitoring for cyber attack detection in the first quarter of fiscal year 2022, but due to the delays by manufacturers the sale was recognized fully in revenue in the first quarter of fiscal year 2023 when we obtained the product from the manufacturers. Related to the supply shortage and potentially inflation, we have experienced price increases for our products, which we try to pass on to the customer.
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 the 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 its variants and the duration of any 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 is still uncertain. 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.
As of March 31, 2023, the Russian/Ukrainian military conflict has not had a direct significant impact on revenue as we do not have any recurring customers in either country. However, we do have customers and suppliers in surrounding regions which may be affected and further escalation of the Russian-Ukraine military conflict and geopolitical tensions related to such military conflict could adversely affect our business, financial condition and results of operations, by among other things, cyber attacks, supply disruptions, lower consumer demand, and changes to foreign exchange rates and financial markets. It is not possible at this time to predict the size of the impact or consequences of the conflict to the Company and our customers and suppliers.
Results of Operations
Overview of the three months ended March 31, 2023
Our sales increased by approximately $1.3 million, or 11%, to $13.3 million for the three months ended March 31, 2023 compared to $12.0 million for the three months ended March 31, 2022. Our gross margin percentage increased to 38% of sales for the three months ended March 31, 2023 compared to 35% for the three months ended March 31, 2022. For the three months ended March 31, 2023 there was an operating income of $237 thousand compared to a $24 thousand operating loss for the three months ended March 31, 2022. Other income, (expense) remained at $0.2 million for the three months ended March 31, 2023 and 2022. An income tax expense of $71 thousand was recorded for the three months ended March 31, 2023 compared to an income tax expense of $5 thousand in the same period in the prior year.
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The following table details our results of operations in dollars and as a percentage of sales for the three months ended March 31, 2023 and 2022:
%
%
March 31, 2023
of sales
March 31, 2022
of sales
(Dollar amounts in thousands)
Sales
$
13,269
100
%
$
11,981
100
%
Costs and expenses:
Cost of sales
8,279
62
%
7,781
65
%
Engineering and development
858
6
%
717
6
%
Selling, general and administrative
3,895
29
%
3,507
29
%
Total costs and expenses
13,032
97
%
12,005
100
%
Operating income (loss)
237
2
%
(24)
—
%
Other income (expense), net
155
1
%
185
2
%
Income before income taxes
392
3
%
161
2
%
Income tax expense
71
1
%
5
—
%
Net income
$
321
4
%
$
156
2
%
Sales
Our sales increased by approximately $1.3 million to $13.3 million for the three months ended March 31, 2023 compared to $12.0 million for the same prior year period. The increase in sales is the result of an increase of $1.0 million in our TS segment combined with a $0.3 million increase in our HPP segment.
TS segment sales change was as follows for the three months ended March 31, 2023 and 2022:
March 31,
Increase
2023
2022
$
%
(Dollar amounts in thousands)
Products
$
8,016
$
7,255
$
761
10
%
Services
3,777
3,583
194
5
%
Total
$
11,793
$
10,838
$
955
9
%
The increase in TS segment product sales of $0.8 million during the period was attributable to the U.S. division due to increased sales to several major customers. Service sales for the three months ended March 31, 2023 increased $0.2 million from the same prior year period, which was attributable to the U.S. division. The increase in service sales included increased managed services sales of $0.3 million and increased third party maintenance sales of $0.1 million, partially offset by decreased internal and third party service sales of $0.2 million.
HPP segment sales change was as follows for the three months ended March 31, 2023 and 2022:
March 31,
Increase
2023
2022
$
%
(Dollar amounts in thousands)
Products
$
972
$
962
$
10
1
%
Services
504
181
323
178
%
Total
$
1,476
$
1,143
$
333
29
%
The HPP product sales remained relatively flat for the three months ended March 31, 2023 compared to the same prior year period as a result of no significant changes in any product line’s revenue. The HPP services sales increased $0.3 million for the three months ended March 31, 2023 compared to the same prior year period as a result of increased repair revenue of $0.2 million and increased royalties on high-speed processing boards related to the E2D program of $0.1 million.
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Our sales 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, 2023 and 2022:
March 31,
Increase (decrease)
2023
%
2022
%
$
%
(Dollar amounts in thousands)
Americas
$
12,658
95
%
$
11,420
95
%
$
1,238
11
%
Europe
381
3
%
500
4
%
(119)
(24)
%
Asia
230
2
%
61
1
%
169
277
%
Totals
$
13,269
100
%
$
11,981
100
%
$
1,288
11
%
The $1.2 million increase in sales to the Americas was primarily the result of an increase in the TS segment’s U.S. division of $1.0 million combined with an increase in the HPP segment of $0.2 million. The $0.1 million decrease in sales to Europe was primarily the result of decreased sales by our HPP segment. The sales to Asia increased by $0.2 million primarily due to an increase in the HPP segment.
Gross Margins
Our gross margin ("GM") increased $0.8 million for the three months ended March 31, 2023 as compared to the same prior year period. The GM as a percentage of sales increased to 38% for the three months ended March 31, 2023 compared to the same prior year period of 35%.
March 31,
2023
2022
Increase
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
TS
$
3,995
34
%
$
3,680
34
%
$
315
—
%
HPP
995
67
%
520
45
%
475
22
%
Total
$
4,990
38
%
$
4,200
35
%
$
790
3
%
The impact of product mix within our TS segment on gross margin for the three months ended March 31, 2023 and 2022 was as follows:
March 31,
2023
2022
Increase
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
Products
$
1,775
22
%
$
1,570
22
%
$
205
—
%
Services
2,220
59
%
2,110
59
%
110
—
%
Total
$
3,995
34
%
$
3,680
34
%
$
315
—
%
The overall TS segment GM as a percentage of sales remained relatively flat at 34% for the three month period ended March 31, 2023 compared to 34% for the same prior year period. Both the U.S. and U.K. division did not have a variance in either product or service GM as a percentage of revenue. Many different types of products are sold by the TS division and the product GM as a percentage of revenue had no change from the same prior year period. The service GM as a percentage of revenue remained flat due to no significant changes in the types of service revenue and a small increase in volume.
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The impact of product mix within our HPP segment on gross margin for the three months ended March 31, 2023 and 2022 was as follows:
March 31,
2023
2022
Increase (decrease)
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
Products
$
633
65
%
$
383
40
%
$
250
25
%
Services
362
72
%
137
76
%
225
(4)
%
Total
$
995
67
%
$
520
45
%
$
475
22
%
The overall HPP segment GM as a percentage of sales increased to 67% for the three months ended March 31, 2023 from 45% for the three months ended March 31, 2022. The 25% increase in product GM as a percentage of product revenue for the three months ended March 31, 2023 compared to the same prior year period is due to higher margin Myricom products being sold than the same prior year period as the Myricom products have a wide range of GM as a percentage of revenue. The 4% decrease in service GM as a percentage of services revenue from the same prior year period was due to increased repair revenue in proportion to increased royalties because repair revenue has lower margins than royalties, which are nearly all gross margin.
Engineering and Development Expenses
The engineering and development expenses incurred by our HPP segment increased $141 thousand for the three months ended March 31, 2023 to $0.9 million compared to the same prior year period due to increased consulting expenses. The current period expenses were primarily for product engineering expenses incurred in connection with the continued development of the ARIA Zero Trust Gateway 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, 2023 and 2022:
Three months ended March 31,
$
%
% of
% of
Increase
Increase
2023
Total
2022
Total
(Decrease)
(Decrease)
(Dollar amounts in thousands)
By Operating Segment:
TS segment
$
3,064
79
%
$
2,602
74
%
$
462
18
%
HPP segment
831
21
%
905
26
%
(74)
(8)
%
Total
$
3,895
100
%
$
3,507
100
%
$
388
11
%
SG&A expenses of $3.9 million for the three months ended March 31, 2023 increased $0.4 million compared to the same prior year period. The TS segment SG&A expenses increased by approximately $0.5 million due to increased variable compensation from higher sales and increased payroll. The HPP segment SG&A expenses decreased approximately $0.1 million for the three months ended March 31, 2023 as compared to the prior year period due to decreased labor and fringe benefit expenses.
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Other Income/Expenses
The following table details other income (expense) for the three months ended March 31, 2023 and 2022:
Three months ended
Increase
March 31, 2023
March 31, 2022
(Decrease)
(Amounts in thousands)
Foreign exchange (loss) gain
$
(115)
$
176
$
(291)
Interest expense
(62)
(101)
39
Interest income
325
126
199
Other income (expense), net
7
(16)
23
Total other income (expense), net
$
155
$
185
$
(30)
Total other income (expense), net for the three months ended March 31, 2023 remained relatively flat at $0.2 million compared to the three months ended March 31, 2022.
The $0.3 million increased foreign exchange loss for the three months ended March 31, 2023 was due to the U.S. Dollar and Euro weakening relative to British Pound compared to the same prior year period. 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 (loss) gain on the income statement. The foreign exchange loss was primarily from U.S. Dollar and Euro bank accounts in our TS U.K. division.
There were three changes that partially offset the foreign exchange loss.
Interest income increased $199 thousand for the three months ended March 31, 2023 compared to the same prior year period primarily due to additional interest income from agreements that have payment terms in excess of one year (see Note 6 in Item 1 to this Quarterly Report on Form 10-Q for details) entered into during fiscal year 2022, which were partially offset with lower interest income recognized from prior agreements as interest income decreases as time elapses due to principal payments being received. All of these agreements are in the TS-US division. Additionally, interest rates have significantly increased from the same prior year period, which has resulted in increased interest income from money market accounts from both the U.S. and U.K.
The interest expense decrease of $39 thousand for the three months ended March 31, 2023 compared to the same prior year period was related to the TS U.S. division making principal payments on multi-year vendor contracts that started in the second quarter of fiscal year 2022 related to sales agreements that have payment terms in excess of one year as the Company incurs less interest expense over time as principal payments are made. See Note 10 in Item 1 to this Quarterly Report on Form 10-Q for details. There have been no subsequent multi-year vendor agreements from the second quarter of fiscal year 2022.
Other income (expense), net did not have a significant change from the prior year.
Income Taxes
An income tax expense of $71 thousand was recorded for the three months ended March 31, 2023 compared to an income tax expense of $5 thousand in the same period in the prior year. The income tax expense for the three months ended March 31, 2023 was primarily driven by minimum state tax expenses and the required capitalization of R&D expenses under IRC Section 174, partially offset by the use of federal NOL and R&D credits. The Company continues to maintain a full valuation allowance on our operations but will continue to evaluate this need going forward. The income tax expense for the three months ended March 31, 2022 was primarily driven by minimum state tax expenses due to the full valuation allowance in place during the period.
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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, 2023 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, 2023
Our sales increased by approximately $7.3 million, or 30%, to $31.6 million for the six months ended March 31, 2023 as compared to $24.4 million for the six months ended March 31, 2022. The increase in sales is the result of an increase of $5.5 million in our TS segment and an increase of $1.8 million in our HPP segment. Our gross margin percentage increased to 34% of sales for the six months ended March 31, 2023 compared to 32% for the six months ended March 31, 2022. For the six months ended March 31, 2023 there was an operating income of $1.6 million compared to an operating loss of $0.4 million for the six months ended March 31, 2022. Other income, (expense) net decreased $0.3 million for the six months ended March 31, 2023 to a loss of $0.1 million compared to income of $0.2 million for the six months ended March 31, 2022. An income tax expense of $204 thousand was recorded for the six months ended March 31, 2023 compared to an income tax expense of $17 thousand in the same period in the prior year.
The following table details our results of operations in dollars and as a percentage of sales for the six months ended March 31, 2023 and 2022:
%
%
March 31, 2023
of sales
March 31, 2022
of sales
(Dollar amounts in thousands)
Sales
$
31,613
100
%
$
24,350
100
%
Costs and expenses:
Cost of sales
20,806
66
%
16,536
68
%
Engineering and development
1,694
5
%
1,344
6
%
Selling, general and administrative
7,512
24
%
6,890
28
%
Total costs and expenses
30,012
95
%
24,770
102
%
Operating income (loss)
1,601
5
%
(420)
(2)
%
Other (expense) income, net
(115)
—
%
227
1
%
Income (loss) before income taxes
1,486
5
%
(193)
(1)
%
Income tax expense
204
1
%
17
—
%
Net income (loss)
$
1,282
6
%
$
(210)
(1)
%
Sales
Our sales increased by approximately $7.3 million, or 30%, to $31.6 million for the six months ended March 31, 2023 as compared to $24.4 million for the six months ended March 31, 2022. The increase in sales is the result of an increase of $5.5 million in our TS segment and an increase of $1.8 million in our HPP segment.
TS segment sales change was as follows for the six months ended March 31, 2023 and 2022:
March 31,
Increase
2023
2022
$
%
(Dollar amounts in thousands)
Products
$
20,075
$
15,255
$
4,820
32
%
Services
7,573
6,888
685
10
%
Total
$
27,648
$
22,143
$
5,505
25
%
The increase in TS segment product sales of $4.8 million during the period as compared to the prior year period is attributable to an increase in the U.S. division of $4.7 million due to increased sales to several major customers combined with an increase in the U.K. division of $0.1 million due to one large order with a major customer. Service sales for the
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six months ended March 31, 2023 increased $0.7 million from the prior year period, which is attributable to the U.S. division. The changes in service sales included increased managed services sales of $0.6 million, increased third party maintenance sales of $0.5 million, and decreased internal and third party service sales of $0.4 million.
HPP segment sales change was as follows for the six months ended March 31, 2023 and 2022:
March 31,
Increase
2023
2022
$
%
(Dollar amounts in thousands)
Products
$
3,134
$
1,682
$
1,452
86
%
Services
831
525
306
58
%
Total
$
3,965
$
2,207
$
1,758
80
%
The HPP product sales increased by $1.5 million for the six months ended March 31, 2023 as compared to the prior year period, primarily as a result of one large Myricom product order of $1.8 million placed in the first quarter of fiscal year 2022, but due to supply chain delays was not fully fulfilled until the first quarter of fiscal year 2023. This sale was partially offset with $0.3 million of decreased Myricom product revenue to several major customers. The HPP services sales increased $0.3 million for the six months ended March 31, 2023 compared to the prior year period from increased ARIA revenue of $0.2 million and increased repair revenue of $0.2 million, partially offset with decreased royalties on high-speed processing boards related to the E2D program of $0.1 million.
Our sales 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, 2023 and 2022:
March 31,
Increase (decrease)
2023
%
2022
%
$
%
(Dollar amounts in thousands)
Americas
$
30,598
97
%
$
23,167
95
%
$
7,431
32
%
Europe
669
2
%
1,013
4
%
(344)
(34)
%
Asia
346
1
%
170
1
%
176
104
%
Totals
$
31,613
100
%
$
24,350
100
%
$
7,263
30
%
The $7.4 million increase in sales to the Americas was primarily the result of an increase in the TS segment’s U.S. division of $5.7 million combined with an increase in the HPP segment of $1.7 million. The $0.3 million decrease in sales to Europe was primarily the result of decreased sales by our TS Segment’s U.S. division of $0.2 million due to a large volume by one customer in the same prior year period which did not reoccur in the current period combined with a decrease in the HPP segment of $0.1 million. The sales to Asia increased by $0.2 million due to an increase in the HPP segment.
Gross Margins
Our gross margin ("GM") increased $3.0 million for the six months ended March 31, 2023 as compared to the same prior year period. The GM as a percentage of total sales increased to 34% for the six months ended March 31, 2023 as compared to the same prior year period of 32%.
March 31,
2023
2022
Increase
(Dollar amounts in thousands)
GM$
GM%
GM$
GM%
GM$
GM%
TS
$
8,159
30
%
$
6,672
30
%
$
1,487
—
%
HPP
2,648
67
%
1,142
52
%
1,506
15
%
Total
$
10,807
34
%
$
7,814
32
%
$
2,993
2
%
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The impact of product mix within our TS segment on gross margin for the six months ended March 31, 2023 and 2022 was as follows:
March 31,
2023
2022
Increase
GM$
GM%
GM$
GM%
GM$
GM%
(Dollar amounts in thousands)
Products
$
3,804
19
%
$
2,714
18
%
$
1,090
1
%
Services
4,355
58
%
3,958
57
%
397
1
%
Total
$
8,159
30
%
$
6,672
30
%
$
1,487
—
%
The overall TS segment GM as a percentage of total sales remained flat at 30% for the six month period ended March 31, 2023 compared to 30% from the prior year period. Product GM as a percentage of product revenue increased slightly due to the mix of products sold during the six months ended March 31, 2023 compared to the same period of the prior year. Service GM as a percentage of service revenue increased slightly due to increased revenue without having to add more variable expenses to obtain this revenue during the six months ended March 31, 2023 compared to the same period of the prior year.
The impact of product mix within our HPP segment on gross margin for the six months ended March 31, 2023 and 2022 was as follows:
March 31,
2023
2022
Increase (decrease)
(Dollar amounts in thousands)
GM$
GM%
GM$
GM%
GM$
GM%
Products
$
2,054
66
%
$
682
41
%
$
1,372
25
%
Services
594
71
%
460
88
%
134
(17)
%
Total
$
2,648
67
%
$
1,142
52
%
$
1,506
15
%
The overall HPP segment GM as a percentage of sales increased to 67% for the six months ended March 31, 2023 from 52% for the six months ended March 31, 2022. The 25% increase in product GM as a percentage of product revenue was primarily attributed to the higher margin Myricom products we sold for the six months ended March 31, 2023 compared to the same prior year period. The Myricom products have a wide range of gross margin percentage. The 17% decrease in service GM as a percentage of service revenue for the six months ended March 31, 2023 compared to the same prior year period was due to decreased royalty sales, which are nearly all margin along with increased repair revenue that has lower margins than the royalty sales.
Engineering and Development Expenses
The engineering and development expenses incurred by our HPP segment increased to $1.7 million for the six months ended March 31, 2023 when compared to the same prior year period of $1.3 million due to higher consulting expenses. The current period expenses were primarily for product engineering expenses incurred in connection with the continued development of the ARIA Zero Trust Gateway 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, 2023 and 2022:
Six months ended March 31,
$
%
% of
% of
Increase
Increase
2023
Total
2022
Total
(Decrease)
(Decrease)
(Dollar amounts in thousands)
By Operating Segment:
TS segment
$
5,767
77
%
$
4,985
72
%
$
782
16
%
HPP segment
1,745
23
%
1,905
28
%
(160)
(8)
%
Total
$
7,512
100
%
$
6,890
100
%
$
622
9
%
SG&A expenses increased $0.6 million for the six months ended March 31, 2023 compared to the same prior year period. The $0.8 million increase in TS segment SG&A expenses compared to the same prior year period is primarily the result of approximately $0.3 million increased variable compensation, $0.3 million increased salaries and benefits, $0.1 million increased travel expenses, and $0.1 million of decreased provision for losses on accounts receivable. The HPP segment SG&A expenses decreased $0.2 million for the six months ended March 31, 2023 as compared to the prior year period due to decreased labor and fringe expenses.
Other Income/Expenses
The following table details other income (expense) for the six months ended March 31, 2023 and 2022:
Six months ended
Increase
March 31, 2023
March 31, 2022
(Decrease)
(Amounts in thousands)
Foreign exchange (loss) gain
$
(616)
$
159
$
(775)
Interest expense
(126)
(206)
80
Interest income
586
271
315
Other income (expense), net
41
3
38
Total other (expense) income, net
$
(115)
$
227
$
(342)
Total other income (expense), net for the six months ended March 31, 2023 decreased $0.3 million to an expense of $0.1 million compared to income of $0.2 million the prior year.
The $0.8 million increased foreign exchange loss for the six months ended March 31, 2023 was due to the U.S. Dollar and Euro weakening relative to British Pound compared to the same prior year period. 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 (loss) gain on the income statement. The foreign exchange loss was primarily from U.S. Dollar and Euro bank accounts in our TS U.K. division.
There were three changes that partially offset the foreign exchange loss.
Interest income increased $315 thousand for the six months ended March 31, 2023 compared to the same prior year period primarily due to additional interest income from agreements that have payment terms in excess of one year (see Note 6 in Item 1 to this Quarterly Report on Form 10-Q for details) entered into during fiscal year 2022, which were partially offset with lower interest income recognized from prior agreements as interest income decreases as time elapses due to principal payments being received. All of these agreements are in the TS-US division. Additionally, interest rates have significantly increased from the same prior year period, which has resulted in increased interest income from money market accounts from both the U.S. and U.K.
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The interest expense decrease of $80 thousand for the six months ended March 31, 2023 compared to the same prior year period was related to the TS U.S. division making principal payments on multi-year vendor contracts that started in the second quarter of fiscal year 2022 related to sales agreements that have payment terms in excess of one year as the Company incurs less interest expense over time as principal payments are made. See Note 10 in Item 1 to this Quarterly Report on Form 10-Q for details. There have been no subsequent multi-year vendor agreements from the second quarter of fiscal year 2022.
Other income (expense), net did not have a significant change from the prior year.
Income Taxes
An income tax expense of $204 thousand was recorded for the six months ended March 31, 2023 compared to an income tax expense of $17 thousand in the same period in the prior year. The income tax expense for the for the six months ended March 31, 2023 was primarily driven by minimum state tax expenses and the required capitalization of R&D expenses under IRC Section 174, partially offset by the use of federal NOL and R&D credits. The Company continues to maintain a full valuation allowance on our operations but will continue to evaluate this need going forward. The income tax expense for the six months ended March 31, 2022 was primarily driven by minimum state tax expenses due to the full valuation allowance in place during the period.
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, 2023 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 decreased by $10.7 million to $13.3 million as of March 31, 2023 from $24.0 million as of September 30, 2022.
Our significant sources of cash for the six months ended March 31, 2023 included a decrease in other assets of $2.3 million and a decrease in accounts receivable and long-term receivable of $1.6 million.
Within Accounts receivable there is $8.7 million due reflecting sales whose payment terms exceed one year. We will receive payments of $0.6 million and $6.2 million in the third and fourth quarter of fiscal year 2023 from these agreements, respectively.
Our significant uses of cash for the six months ended March 31, 2023 were primarily related to a decrease in accounts payable and accrued expenses and other long-term liabilities of $8.6 million, purchases of held-to-maturity investments of $3.5 million, an increase in inventory of $2.0 million, and a net payment under the line-of-credit agreement of $1.8 million.
Our cash held by our foreign subsidiary in the United Kingdom totaled approximately $4.5 million as of March 31, 2023 and consisted of 0.3 million Euros, 0.2 million British Pounds, and 3.8 million U.S. Dollars. This cash is included in our total cash and cash equivalents reported on the Condensed Consolidated Balance Sheets. Approximately 3.5 million U.S. Dollars was transferred during the first quarter of fiscal year 2023 from the foreign subsidiary in the U.K. (TS-UK) to Modcomp, Inc. (TS-US) to use in operations.
As of March 31, 2023 and September 30, 2022, 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 $13.7 million and $11.9 million were available as of March 31, 2023 and September 30, 2022, respectively. As of March 31, 2023 and September 30, 2022 there were no cash withdrawals outstanding. For a further discussion of the Company’s line of credit, including its financial covenants, see Item 1, Note 10 “Notes Payable and Line of Credit .”
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In the second quarter of fiscal year 2023 we purchased held-to-maturity investments consisting of treasury bills, which mature at different intervals with the last maturity date in August of 2023. These investments are stated at amortized cost. We’ve ensured we have enough working capital for operations during this time in making this investment decision. The decision was made to get higher returns, but continue to have high liquidity.
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.
Based on our current plans and business conditions, management believes that the Company’s available cash and cash equivalents, 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.
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.