Item 2. Management’s Discussion and Analysis
Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This section entitled "Management’s Discussion and Analysis of Financial Condition and Results of Operations" (“MD&A”) is intended to provide a reader of our financial statements with a narrative from the perspective of management on our financial condition, results of operations, liquidity, and certain other factors that may affect our future results. The MD&A provides a narrative analysis explaining the reasons for material changes in the Company’s (i) financial condition during the period from the most recent fiscal year-end, April 29, 2023, to and including July 29, 2023 and (ii) results of operations during the current fiscal period(s) as compared to the corresponding period(s) of the preceding fiscal year.
This Quarterly Report on Form 10-Q, including the MD&A, contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These statements reflect our current views with respect to future events and financial performance. The words "may," "would," "could," "should," "will," "expect," "estimate," "anticipate," "believe," "intend," "plan," "forecast," "project" and similar expressions are intended to identify forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Any and all forecasts and projections in this document are “forward-looking statements” and are based on management’s current expectations or beliefs. From time to time, we may also provide oral and written forward-looking statements in other materials we release to the public, such as press releases, presentations to securities analysts or investors, or other communications by us. Any or all forward-looking statements in this report and in any public statements we make could be materially different from actual results. Accordingly, we wish to caution investors that any forward-looking statements made by or on behalf of us are subject to uncertainties and other factors that could cause actual results to differ materially from such statements. Important factors that may cause actual results to differ materially from those in the forward-looking statements include, but are not limited to, the uncertainties related to market conditions and entry into a financing transaction; the Company’s potential need to seek additional strategic alternatives, including seeking additional debt or equity capital or other strategic transactions and/or measures; the Company’s ability to finalize or fully execute actions and steps that would be probable of mitigating the existence of “substantial doubt” regarding the Company’s ability to continue as a going concern; the Company’s ability to increase cash flow to support the Company’s operating activities and fund its obligations and working capital needs; our ability to obtain additional financing on terms favorable to us, or at all; any future goodwill impairment charges; and the other risk factors described more fully in the Company’s Annual Report on Form 10-K for the fiscal year ended April 29, 2023 filed with the Securities and Exchange Commission, as well as other publicly available information about the Company.
We also wish to caution investors that other factors might in the future prove to be important in affecting our results of operations. New factors emerge from time to time; it is not possible for management to predict all of such factors, nor can it assess the impact of each such factor on the business or the extent to which any factor, or a combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.
We undertake no obligation to update publicly or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
Our MD&A should be read in conjunction with the Consolidated Financial Statements and related Notes included in Item 1 of Part 1 of this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended April 29, 2023 (including the information presented therein under Risk Factors), as well as other publicly available information about our Company.
OVERVIEW
We are engaged principally in the design, marketing, and manufacture of a wide range of integrated electronic display systems and related products which are sold in a variety of markets throughout the world and the rendering of related maintenance and professional services. We focus our sales and marketing efforts on markets, geographical regions and products. Our five business segments consist of four domestic business units and the International business unit. The four domestic business units consist of Commercial, Live Events, High School Park and Recreation, and Transportation, all of which include the geographic territories of the United States and Canada.
21
Table of Contents
The following selected financial data should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended April 29, 2023 and the consolidated financial statements set forth in that Annual Report on Form 10-K, including the notes to consolidated financial statements included therein.
CURRENT CONDITIONS
Our past investments in people and plant capacity and the continued stable supply chain environment have allowed for efficient production and fulfillment of orders. Although the post-pandemic geopolitical situation and global trade patterns continue to evolve, we believe that the levels of uncertainty and volatility in supply chain and demand will not be as great in the coming months as it was through the pandemic and will continue to stabilize during this fiscal year.
We believe the audiovisual industry fundamentals of increased use of LED display systems across industries and our development of new technologies, services, and sales channels will drive long-term growth for our company. Orders and revenue levels are expected to be impacted by the timing of multi-million dollar projects and the impacts of global economic conditions, war and geopolitical situations, or other factors outside of our control.
RESULTS OF OPERATIONS
COMPARISON OF THE THREE MONTHS ENDED JULY 29, 2023 AND JULY 30, 2022
Product Order Backlog
Backlog represents the dollar value of orders for integrated electronic display systems and related products and services which are expected to be recognized in net sales in the future. Orders are contractually binding purchase commitments from customers. Orders are included in backlog when we are in receipt of an executed contract and any required deposits or security and have not yet been recognized into net sales. Certain orders for which we have received binding letters of intent or contracts will not be included in backlog until all required contractual documents and deposits are received. Orders and backlog are not measures defined by accounting principles generally accepted in the United States of America ("GAAP"), and our methodology for determining orders and backlog may vary from the methodology used by other companies in determining their orders and backlog amounts.
Order and backlog levels provide management and investors additional details surrounding the results of our business activities in the marketplace and highlight fluctuations caused by seasonality and multimillion dollar projects. Management uses orders to evaluate market share and performance in the competitive environment. Management uses backlog information for capacity and resource planning. We believe order information is useful to investors because it provides an indication of our market share and future revenues.
Our product order backlog as of July 29, 2023 was $323.7 million as compared to $469.1 million as of July 30, 2022 and $400.7 million at April 29, 2023. The decrease in backlog is driven by fulfilling orders at a greater pace as supply chain conditions stabilized, we utilized our increased capacity, and the order pace returned to more normalized rates.
We expect to fulfill the backlog as of July 29, 2023 within the next 24 months. The timing of backlog fulfillment may be impacted by project delays resulting from parts availability and other constraints stemming from the supply chain disruptions or by customer site conditions which are outside our control.
22
Table of Contents
Net Sales
The following table shows information regarding net sales for the three months ended July 29, 2023 and July 30, 2022:
Three Months Ended
(in thousands) July 29, 2023 July 30, 2022 Dollar Change Percent Change
Net Sales:
Commercial $ 46,883 $ 40,118 $ 6,765 16.9 %
Live Events 91,999 56,383 35,616 63.2
High School Park and Recreation 56,234 35,809 20,425 57.0
Transportation 21,369 19,540 1,829 9.4
International 16,046 20,070 (4,024) (20.0)
$ 232,531 $ 171,920 $ 60,611 35.3 %
Orders: (1)
Commercial $ 32,434 $ 47,678 $ (15,244) (32.0) %
Live Events 52,203 51,753 450 0.9
High School Park and Recreation 35,739 37,579 (1,840) (4.9)
Transportation 18,985 15,704 3,281 20.9
International 19,269 17,509 1,760 10.1
$ 158,630 $ 170,223 $ (11,593) (6.8) %
(1) Orders are not measures defined by GAAP, and our methodology for determining orders may vary from the methodology used by other companies in determining their orders and amounts.
For the fiscal 2024 first quarter, net sales were $232.5 million, an increase of $60.6 million from net sales in the prior year's first quarter and a quarterly record. This increase was primarily due to higher throughput from our past investments in capacity and the more stable operating environment. Last year during the first quarter, we faced material supply shortages which extended lead times and delayed the conversion of orders into sales.
Order volume decreased in the first quarter of fiscal 2024 from the prior year's first quarter. The change is primarily related to a decrease in the Commercial business unit caused by volatility in bookings of larger sized Spectacular LED video displays projects.
Gross Profit and Contribution Margin
Three Months Ended
July 29, 2023 July 30, 2022
(in thousands) Amount As a Percent of Net Sales Amount As a Percent of Net Sales
Gross Profit:
Commercial $ 12,769 27.2 % $ 4,821 12.0 %
Live Events 27,940 30.4 3,786 6.7
High School Park and Recreation 20,825 37.0 9,977 27.9
Transportation 7,089 33.2 5,838 29.9
International 2,524 15.7 1,372 6.8
$ 71,147 30.6 % $ 25,794 15.0 %
The increase in gross profit percentage for the first quarter of fiscal 2024 is attributable to the record sales volume over our fixed manufacturing cost structure, past strategic pricing actions, stabilization of input costs, and fewer supply chain and operational disruptions during the first quarter of fiscal 2024 as compared to a year earlier.
23
Table of Contents
Total warranty costs as a percent of sales for the three months ended July 29, 2023 compared to the same period one year ago increased to 2.1 percent from 1.6 percent.
Three Months Ended
July 29, 2023 July 30, 2022
(in thousands) Amount As a Percent of Net Sales Dollar Change Percent Change Amount As a Percent of Net Sales
Contribution Margin:
Commercial $ 8,721 18.6 % $ 8,521 4260.5 % $ 200 0.5 %
Live Events 25,415 27.6 24,441 2509.3 974 1.7
High School Park and Recreation 17,463 31.1 10,882 165.4 6,581 18.4
Transportation 6,190 29.0 1,247 25.2 4,943 25.3
International 429 2.7 1,766 132.1 (1,337) (6.7)
$ 58,218 25.0 % $ 46,857 412.4 % $ 11,361 6.6 %
Contribution margin is a non-GAAP measure and consists of gross profit less selling expenses. Selling expenses consist primarily of personnel-related costs, travel and entertainment expenses, marketing related expenses (show rooms, product demonstration, depreciation and maintenance, conventions and trade show expenses), the cost of customer relationship management/marketing systems, bad debt expenses, third-party commissions, and other expenses.
Contribution margin for the fiscal quarter ended July 29, 2023 was positively impacted by the previously discussed sales levels and impacts on gross profit.
Reconciliation from non-GAAP contribution margin to the operating income GAAP measure is as follows:
Three Months Ended
July 29, 2023 July 30, 2022
(in thousands) Amount As a Percent of Net Sales Dollar Change Percent Change Amount As a Percent of Net Sales
Contribution margin $ 58,218 25.0 % $ 46,857 412.4 % $ 11,361 6.6 %
General and administrative 9,599 4.1 158 1.7 9,441 5.5
Product design and development 8,403 3.6 964 13.0 7,439 4.3
Operating income (loss) $ 40,216 17.3 % $ 45,735 828.7 % $ (5,519) (3.2) %
General and administrative expenses in the first quarter of fiscal 2024 remained relatively flat as compared to the same period one year ago.
Product design and development expenses in the first quarter of fiscal 2024 increased as compared to the first quarter of fiscal 2023 primarily due to an increase in personnel-related expenses.
24
Table of Contents
Other Income and Expenses
Three Months Ended
July 29, 2023 July 30, 2022
(in thousands) Amount As a Percent of Net Sales Dollar Change Percent Change Amount As a Percent of Net Sales
Interest (expense) income, net $ (881) (0.4) % $ (821) 1368.3 % $ (60) — %
Change in fair value of convertible note $ (7,260) (3.1) % $ (7,260) — % $ — — %
Other expense and debt issuance costs write-off, net $ (3,979) (1.7) % $ (3,232) 432.7 % $ (747) (0.4) %
Interest (expense) income, net : The increase in interest income and expense, net for the first quarter of fiscal 2024 compared to the same period one year ago was primarily due to closing in May 2023 on the convertible debt, asset-based and mortgage financings at higher values and interest rates than the utilization of our previous line of credit during the 2023 first quarter.
Change in fair value of convertible note: For the three months ended July 29, 2023, we recorded an expense of $7.3 million related to the change in fair value of the convertible note payable which is accounted for under the fair value option. The fair value change was primarily caused by the increase in our stock price over the conversion price and decline in market interest rates making the value of potentially converted shares higher than at the debt issuance.
Other expense, net: The change in other expense, net for the first quarter of fiscal 2024 as compared to the same period one year ago was primarily due to losses recorded for equity method affiliates and foreign currency volatility and write-off of $3.4 million debt issuance costs related to convertible debt carried at fair value. .
Income Taxes
Our effective tax rate for the first quarter of fiscal 2024 was 31.7 percent as compared to an effective tax rate of 15.8 percent for the first quarter of fiscal 2023. The higher tax rate is caused by the fair value adjustment to income that is not taxable. Absent any major tax changes, we expect our full year effective tax rate to be in the mid-twenties, before the impacts of fair value accounting for the convertible debt.
LIQUIDITY AND CAPITAL RESOURCES
Three Months Ended
(in thousands) July 29,
2023 July 30,
2022 Dollar Change
Net cash provided by (used in):
Operating activities $ 19,250 $ (22,815) $ 42,065
Investing activities (5,706) (10,372) 4,666
Financing activities 16,356 24,128 (7,772)
Effect of exchange rate changes on cash (240) 80 (320)
Net increase (decrease) in cash, cash equivalents and restricted cash $ 29,660 $ (8,979) $ 38,639
Net cash provided by (used in) operating activities: Net cash provided by operating activities was $19.3 million for the first three months of fiscal 2024 compared to net cash used in operating activities of $22.8 million in the first three months of fiscal 2023. The $42.1 million change in cash provided by (used in) operating activities was primarily the result of an
25
Table of Contents
increase in net income of $24.5 million over the year time frame as strategic pricing actions and operating conditions improved. The was also a $7.3 million of non-cash fair value change of our convertible debt. We also had strategically invested in inventory through the first quarter of fiscal 2023 as a reaction to supply chain constraints and historic backlog which consumed cash. Since last year at the end of July, we have reduced inventory and related payables for inventory as we reduced backlog and generated cash from inventory reduction. Increases in accounts receivable and contract assets levels have used some cash for working capital because of business increases.
The changes in net operating assets and liabilities consisted of the following:
Three Months Ended
July 29,
2023 July 30,
2022
(Increase) decrease:
Accounts receivable $ (15,437) $ (12,495)
Long-term receivables 369 688
Inventories 4,419 (23,237)
Contract assets (3,693) (3,690)
Prepaid expenses and other current assets (179) 3,342
Income tax receivables 322 (1,725)
Investment in affiliates and other assets 23 (900)
Increase (decrease):
Accounts payable (5,958) 7,212
Contract liabilities (881) 6,975
Accrued expenses (554) (409)
Warranty obligations 1,415 (110)
Long-term warranty obligations 612 643
Income taxes payable 2,786 (6)
Long-term marketing obligations and other payables (119) 969
$ (16,875) $ (22,743)
Net cash used in investing activities: Net cash used in investing activities totaled $5.7 million in the first three months of fiscal 2024 compared to net cash used in investing activities of $10.4 million in the first three months of fiscal 2023. Purchases of property and equipment totaled $4.5 million in the first three months of fiscal 2024 compared to $10.7 million in the first three months of fiscal 2023. Fiscal 2023 purchases were higher because of initiatives to upgrade or increase manufacturing equipment for capacity and automation. Purchases of equity and loans to affiliates accounted for by the equity investment method totaled $1.2 million in the first three months of fiscal 2024 as compared to $1.1 m illion in the first three months of fiscal 2023.
Net cash provided by financing activities: Net cash provided by financing activities was $16.4 million for the three months ended July 29, 2023 due to cash provided by the closing of a $25.0 million convertible note financing and a $15.0 million mortgage financing offset by the payoff of our previous credit line of $17.8 million and $5.8 million of debt issuance costs as compared to $24.1 million of cash provided from financing due to draws on our line of credit in the first three months of fiscal 2023.
Debt and cash
We maintain a $60.0 million asset-based revolving credit facility ("ABL") with a maturity date of May 11, 2027 subject to customary covenants and conditions. As of July 29, 2023, we had no borrowings against the ABL and $1.5 million used to secure letters of credit outstanding. We also have a delayed draw loan of $15.0 million secured by a first priority mortgage on our Brookings, South Dakota real estate and $25.0 million of convertible debt secured by a second priority lien on assets securing the ABL facility and a first priority lien on substantially all the other assets of the Company, excluding all real property.
26
Table of Contents
As of July 29, 2023, we had $45.8 million in cash and cash equivalents and $47.6 million in borrowing capacity under our ABL. We believe cash flow from operations, existing lines of credit, and access to debt and capital markets will be sufficient to meet our current liquidity needs, and we have committed liquidity and cash reserves in excess of our anticipated funding requirements.
Our cash and cash equivalent balances consist of high-quality, short-term money market instruments.
Working Capital
Working capital was $182.2 million and $132.5 million as of July 29, 2023 and April 29, 2023, respectively. We had $12.5 million of retainage on long-term contracts included in receivables and contract assets as of July 29, 2023, which has an impact on our liquidity. We expect to collect these amounts within one year.
Other Liquidity and Capital Uses
We are sometimes required to obtain bank guarantees or other financial instruments for display installations, and we utilize a global bank to provide such instruments. If we are unable to complete the installation work, our customer would draw on the banking arrangement, and the bank would subrogate its loss to Daktronics' restricted cash accounts. As of July 29, 2023, we had $0.6 million of such instruments outstanding.
We are sometimes required to obtain performance bonds for display installations; we have a bonding line available through surety companies for an aggregate of $190.0 million in bonded work outstanding. If we were unable to complete the installation work, and our customer would call upon the bond for payment, the surety company would subrogate its loss to Daktronics. As of July 29, 2023, we had $40.4 million of bonded work outstanding.
Our business growth and profitability improvement strategies depend on investments in capital expenditures and strategic investments. We are projecting total capital expenditures to be less than $19 million for all of fiscal 2024. Projected capital expenditures include purchasing manufacturing equipment for new or enhanced product production and expanded capacity and increased automation of processes; investments in quality and reliability equipment and demonstration and showroom assets; and continued information infrastructure investments.
We also evaluate and may make strategic investments in new technologies or in our affiliates or acquire companies aligned with our business strategy. We are committed to invest an additional $1.5 million for the remainder of fiscal 2024 in our current affiliates.
Contractual Obligations and Commercial Commitments
During the quarter, we entered into a new credit facility, mortgage, and convertible debt as disclosed within this report, there have been no other material changes in our contractual obligations since the end of fiscal 2023. See our Annual Report on Form 10-K for the fiscal year ended April 28, 2023 for additional information regarding our contractual obligations and commercial commitments.
Significant Accounting Policies and Estimates
We describe our significant accounting policies in "Note 1. Nature of Business and Summary of Significant Accounting Policies" of the Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K for the fiscal year ended April 29, 2023. We discuss our critical accounting estimates in "Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the fiscal year ended April 29, 2023.
New Accounting Pronouncements
For a summary of recently issued accounting pronouncements and the effects of those pronouncements on our financial results, refer to "Note 1. Basis of Presentation" of the Notes to the Condensed Consolidated Financial Statements included elsewhere in this Report.
27
Table of Contents
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.