Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s Discussion and Analysis of Financial Condition and Results of Operations
This Quarterly Report on Form 10-Q and the documents we incorporate by reference contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. All statements, other than statements of historical fact, included or incorporated in this prospectus regarding our strategy, future operations, clinical trials, collaborations, intellectual property, cash resources, financial position, future revenues, projected costs, prospects, plans, and objectives of management are forward-looking statements. The words “believes,” “anticipates,” “estimates,” “plans,” “expects,” “intends,” “may,” “could,” “should,” “potential,” “likely,” “projects,” “continue,” “will,” “schedule,” “would,” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. We cannot guarantee that we will achieve the plans, intentions or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements. These forward-looking statements involve known and unknown risks, uncertainties, and other factors, which may be beyond our control, and which may cause our actual results, performance, or achievements to be materially different from future results, performance, or achievements expressed or implied by such forward-looking statements. There are a number of important factors that could cause our actual results to differ materially from those indicated or implied by forward-looking statements. See “Risk Factors” in our Annual Report on Form 10-K for the year ended June 30, 2021 for more information. These factors and the other cautionary statements made in this prospectus and the documents we incorporate by reference should be read as being applicable to all related forward-looking statements whenever they appear in this prospectus and the documents we incorporate by reference. In addition, any forward-looking statements represent our estimates only as of the date that this prospectus is filed with the SEC and should not be relied upon as representing our estimates as of any subsequent date. We do not assume any obligation to update any forward-looking statements. We disclaim any intention or obligation to update or revise any forward-looking statement, whether as a result of new information, future events or otherwise, except as may be required by law.
Overview
Napco Security Technologies, Inc (“NAPCO”, “the Company”, “we”) is one of the leading manufacturers and designers of high-tech electronic security devices, wireless communication services for intrusion and fire alarm systems as well as a leading provider of school safety solutions. We offer a diversified array of security products, encompassing access control systems, door-locking products, intrusion and fire alarm systems and video surveillance products. These products are used for commercial, residential, institutional, industrial and governmental applications, and are sold worldwide principally to independent distributors, dealers and installers of security equipment. We have experienced significant growth in recent years, primarily driven by fast growing recurring service revenues generated from wireless communication services for intrusion and fire alarm systems, as well as our school security products that are designed to meet the increasing needs to enhance school security as a result of on-campus shooting and violence in the U.S. While recurring service revenues have continued to increase during the COVID-19 pandemic, equipment sales were negatively impacted by the economic slowdown associated with this pandemic.
Since 1969, NAPCO has established a heritage and proven record in the professional security community for reliably delivering both advanced technology and high-quality security solutions, building many of the industry’s widely recognized brands, such as NAPCO Security Systems, Alarm Lock, Continental Access, Marks USA, and other popular product lines: including Gemini and F64-Series hardwire/wireless intrusion systems and iSee Video internet video solutions. We are also dedicated to developing innovative technology and producing the next generation of reliable security solutions that utilize remote communications and wireless networks, including our StarLink, iBridge, and more recently the iSecure product lines. Today, millions of businesses, institutions, homes, and people around the globe are protected by products from the NAPCO Group of Companies.
Economic and Other Factors
We are subject to the effects of general economic and market conditions. If the U.S. or international economic conditions deteriorate, our revenue, profit and cash-flow levels could be materially adversely affected in future periods. In the event of such deterioration, many of our current or potential future customers may experience serious cash flow problems and as a result may, modify, delay or cancel purchases of our products. Additionally, customers may not be able to pay, or may delay payment of, accounts receivable that are owed to us. If such events do occur, they may result in our fixed and semi-variable expenses becoming too high in relation to our revenues and cash flows.
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Seasonality
The Company’s fiscal year begins on July 1 and ends on June 30. Historically, the end users of the Company’s equipment products want to install these products prior to the summer; therefore, sales of these products historically peak in the period April 1 through June 30, the Company’s fiscal fourth quarter, and are reduced in the period July 1 through September 30, the Company’s fiscal first quarter. In addition, demand for our products is affected by the housing and construction markets. Deterioration of the current economic conditions may also affect this trend.
Our results for fiscal 2021 and the first two quarters of fiscal 2022 reflected the increase in customer demand after the challenging business environment resulting from the COVID-19 pandemic. While the Company believes this recovery will continue, there can be no assurances that it will do so in the event of a return to building and construction restrictions that might result from a return to higher levels of COVID-19 cases.
Critical Accounting Policies and Estimates
The Company’s significant accounting policies are fully described in Note 1 to the Company’s consolidated financial statements included in its 2021 Annual Report on Form 10-K. Management believes these critical accounting policies, among others, affect its more significant judgments and estimates used in the preparation of its consolidated financial statements.
Results of Operations
Three months ended December 31,
Six months ended December 31,
(dollars in thousands)
(dollars in thousands)
% Increase/
% Increase/
2021
2020
(decrease)
2021
2020
(decrease)
Net sales: equipment revenues
$
22,380
$
19,016
17.7
%
$
43,207
$
34,914
23.8
%
service revenues
11,028
8,189
34.7
%
21,252
15,464
37.4
%
33,408
27,205
22.8
%
64,459
50,378
28.0
%
Gross profit: equipment
1,809
4,417
(59.0)
%
6,464
9,008
(28.2)
%
services
9,634
6,986
37.9
%
18,435
13,087
40.9
%
11,443
11,403
0.4
%
24,899
22,095
12.7
%
Gross profit as a % of net sales:
34.3
%
41.9
%
(18.1)
%
38.6
%
43.9
%
(12.1)
%
equipment
8.1
%
23.2
%
(65.1)
%
15.0
%
25.8
%
(41.9)
%
services
87.4
%
85.3
%
2.5
%
86.7
%
84.6
%
2.5
%
Research and development
1,978
1,884
5.0
%
3,909
3,773
3.6
%
Selling, general and administrative
8,195
5,850
40.1
%
15,541
11,999
29.5
%
Selling, general and administrative as a percentage of net sales
24.5
%
21.5
%
14.0
%
24.1
%
23.8
%
1.3
%
Operating income
1,270
3,669
(65.4)
%
5,449
6,323
(13.8)
%
Interest and other income (expense), net
58
(3)
(2,033.3)
%
75
(9)
(933.3)
%
Gain on extinguishment of debt
—
—
—
%
3,904
—
100.0
%
Provision for income taxes
291
469
(38.0)
%
639
798
(19.9)
%
Net income
1,037
3,197
(67.6)
%
8,789
5,516
59.3
%
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Net Sales for the three months ended December 31, 2021 increased by $6,203,000, or 22.8%, to $33,408,000 as compared to $27,205,000 for the same period a year ago. Sales for the six months ended December 31, 2021 increased by $14,081,000, or 28% to 64,459,000 as compared to 50,378,000 for the same period a year ago. The increase in sales for the three months ended December 31, 2021 was due primarily to increased recurring communication service revenues ($2,839,000) and sales of intrusion and access products ($2,532,000) and door-locking products ($832,000). The increase in sales for the six months ended December 31, 2021 was due primarily to increased recurring communication service revenues ($5,788,000) and sales of intrusion and access products ($5,003,000) and door-locking products ($3,290,000).
Overall gross profit for the three months ended December 31, 2021 increased to $11,443,000 or 34.3% of sales as compared to $11,403,000 or 41.9% of sales for the same period a year ago. Gross profit on equipment sales for the three months ended December 31, 2021 decreased to $1,809,000 or 8.1% of equipment sales as compared to $4,417,000 or 23.2% of equipment sales for the same period a year ago.
Overall gross profit for the six months ended December 31, 2021 increased to $24,889,000 or 38.6% of sales as compared to $22,095,000 or 43.9% of sales for the same period a year ago. Gross profit on equipment sales for the six months ended December 31, 2021 decreased to $6,464,000 or 15% of equipment sales as compared to $9,008,000 or 25.8% of equipment sales for the same period a year ago.
The decrease in gross profit on equipment sales and gross profit as a percentage of equipment sales for the three and six months was primarily due to continued inflation of freight and component part costs relating to the current, world-wide supply chain problems, an unfavorable shift in product mix to the Company’s Starlink radio products (products which lead to the more profitable recurring service revenues) as well as more aggressive promotional pricing of these radios and the Company’s other equipment products in order to increase the Company’s market share of these products.
Gross profit on service sales for the three months ended December 31, 2021 increased to $9,634,000 or 87.4% of service sales as compared to $6,986,000 or 85.3% of service sales for the same period a year ago. Gross profit on service sales for the six months ended December 31, 2021 increased to $18,435,000 or 86.7% of service sales as compared to $13,087,000 or 84.6% of service sales for the same period a year ago. The increase in gross profit on service sales was due primarily to the 34.7% and 37.4% increases in sales of these services for the three and six months ended December 31, 2021, respectively, as compared to the same periods a year ago. The increase in gross profit on service sales as a percentage of service sales was due primarily to the continued shift in sales of the company’s fire radio services, which typically have a higher margin than those for intrusion radio services.
Research and development expenses for the three months ended December 31, 2021 increased $94,000 to $1,978,000, or 5.9% of net sales, as compared to $1,884,000, or 6.9% of net sales, for the same period a year ago. Research and development expenses for the six months ended December 31, 2021 increased $136,000 to $3,909,000, or 6.1% of net sales, as compared to $3,773,000, or 7.5% of net sales, for the same period a year ago. The increase was due primarily to increased payroll while the decrease as a percentage of net sales was due primarily to the increase in net sales.
Selling, general and administrative expenses for the three months ended December 31, 2021 increased 40.1% to $8,195,000 from $5,850,000 for the same period a year ago. Selling, general and administrative expenses as a percentage of net sales increased to 24.5% for the three months ended December 31, 2021 as compared to 21.5% for the same period a year ago. Selling, general and administrative expenses for the six months ended December 31, 2021 increased 29.5% to $15,541,000 from $11,999,000 for the same period a year ago. Selling, general and administrative expenses as a percentage of net sales increased to 24.1% for the six months ended December 31, 2021 as compared to 23.82% for the same period a year ago. The increase in selling, general and administrative expenses was due primarily to increased sales incentive compensation relating to the increase in net sales as discussed above, as well as an increase in stock-based compensation expense relating to the granting of stock options as described in Note 9 to the condensed consolidated financial statements.
Other income (expense) for the three months ended December 31, 2021 increased $61,000 to income of $58,000 as compared to expense of $3,000 for the same period a year ago. Other income (expense) for the six months ended December 31, 2021 increased $3,988,000 to income of $3,979,000 as compared to expense of $9,000 for the same period a year ago. The change in Other income (expense) was due primarily to the gain from the extinguishment of the Company’s $3,904,000 in PPP loans, which were forgiven by the SBA during the six months ended December 31, 2021.
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The Company’s provision for income taxes for the three months ended December 31, 2021 decreased by $178,000 to $291,000 as compared to $469,000 for the same period a year ago. The Company’s provision for income taxes for the six months ended December 31, 2021 decreased by $159,000 to $639,000 as compared to $798,000 for the same period a year ago. The decrease in the provision for income taxes for the three and six months was primarily due to lower taxable income in the U.S, as compared to income in the DR. The Company’s effective rate for income tax was 21.9% and 12.8% for the three months ended December 31, 2021 and 2020, respectively. The increase in the Company’s effective rate for income taxes for the three months was primarily due to higher taxable income in the U.S, as compared to income in the DR. The Company’s effective rate for income tax was 6.8% and 12.6% for the six months ended December 31, 2021 and 2020, respectively. The decrease in the Company’s effective rate for the six months ended December 31, 2021 was due primarily to the income recognized as a result of the PPP loan forgiveness being non-taxable.
Net income for the three months ended December 31, 2021 decreased by $2,160,000 to $1,037,000 or $0.03 per diluted share as compared to $3,197,000 or $0.09 per diluted share for the same period a year ago. The decrease in net income for the three months ended December 31, 2021 was primarily due to the items described above. Net income for the six months ended December 31, 2021 increased by $3,273,000 to $8,789,000 or $0.24 per diluted share as compared to $5,516,000 or $0.15 per diluted share for the same period a year ago. The increase in net income for the six months ended December 31, 2021 was primarily due to the items described above.
Liquidity and Capital Resources
During the six months ended December 31, 2021, the Company utilized a portion of its cash generated from operations ($811,000 of $7,800,000) to purchase property, plant and equipment ($711,000) and marketable securities ($40,000). The Company believes its current working capital, cash flows from operations and its revolving credit agreement will be sufficient to fund the Company’s operations through the next twelve months.
Accounts receivable at December 31, 2021 decreased by $4,550,000 to $23,531,000 as compared to $28,081,000 at June 30, 2021. This decrease is primarily the result of the higher sales volume of equipment during the quarter ended June 30, 2021, which is typically the Company’s highest, as compared to the quarter ended December 31, 2021.
Inventories at December 31, 2021 increased by $5,288,000 from June 30, 2021. This increase is primarily the result of the Company level-loading its production output throughout the year, whereas the Company’s sales are typically highest in the fourth quarter as well as the continued increase in purchases of certain components that have become difficult to source during the world-wide supply chain problems.
Accounts payable and accrued expenses other than accrued income taxes increased by $3,241,000 as of December 31, 2021, as compared to June 30, 2021. This increase was due primarily to the increase in component part purchases as described above.
As of December 31, 2021, the Company maintained a revolving credit facility of $11,000,000 which expires in June 2024. As of December 31, 2021, the Company had no outstanding borrowings and $11,000,000 in availability under the revolving credit facility which is described more fully in Note 8 to the condensed consolidated financial statements. The facility contains various restrictions and covenants including, among others, restrictions on borrowings and compliance with certain financial ratios, as defined in the agreement.
As of December 31, 2021 the Company had no material commitments for capital expenditures or inventory purchases other than purchase orders issued in the normal course of business.
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.