NAPCO SECURITY TECHNOLOGIES, INC 10-Q

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, 2023 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, cellular communication services for intrusion and fire alarm systems as well as a 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 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. Our wireless communication services have led to the substantial growth in our monthly recurring revenues. 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. 25 Table of Contents Seasonality The Company's fiscal year begins on July 1 and ends on June 30. Historically, the end users of the Company’s hardware 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. Our monthly recurring service revenue, which is less susceptible to these fluctuations, allows us to generate a more consistent and predictable income stream. 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 2023 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 September 30, ​ ​ (dollars in thousands) ​ ​ ​ ​ ​ ​ % Increase/ ​ 2023 2022 (decrease) Net sales: equipment revenues ​ $ 24,391 ​ $ 25,687 (5.0) % service revenues ​ ​ 17,285 ​ ​ 13,806 ​ 25.2 % Total net sales ​ ​ 41,676 ​ ​ 39,493 ​ 5.5 % Gross Profit: equipment ​ ​ 6,894 ​ ​ 2,421 ​ 184.8 % services ​ ​ 15,519 ​ ​ 12,145 ​ 27.8 % Total gross profit ​ 22,413 ​ 14,566 53.9 % Gross profit as a % of net sales: ​ 53.8 % 36.9 % 45.8 % equipment ​ ​ 28.3 % ​ 9.4 % 199.9 % services ​ ​ 89.8 % ​ 88.0 % 2.1 % ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Research and development ​ 2,437 ​ 2,428 0.4 % Selling, general and administrative ​ 8,421 ​ 8,490 (0.8) % Selling, general and administrative as a percentage of net sales ​ 20.2 % 21.5 % (6.0) % Operating income ​ 11,555 ​ 3,648 216.7 % Interest and other income (expense), net ​ 440 ​ (103) (527.2) % Provision for income taxes ​ 1,517 ​ 461 229.1 % Net income ​ 10,478 ​ 3,084 239.8 % Net Sales for the three months ended September 30, 2023 increased by $2,183,000, or 5.5%, to $41,676,000 as compared to $39,493,000 for the same period a year ago. The increase in sales for the three months ended September 30, 2023 was due primarily to revenue increases in recurring communication services ($3,479,000), Alarm Lock brand door-locking products ($2,111,000), Marks brand door-locking products ($828,000), and Continental brand access control products ($79,000) as partially offset by a decrease in Napco brand intrusion products ($4,314,000). The Company's gross profit increased by $7,847,000 to $22,413,000, or 53.8% of net sales, for the three months ended September 30, 2023 as compared to $14,566,000, or 36.9% of net sales, for the same period a year ago. Gross profit on equipment sales was $6,894,000, or 28.3% of net equipment sales, for the three months ended September 30, 2023 and $2,421,000, or 9.4% of net equipment sales, for the same period a year ago. Gross profit on service revenues was $15,519,000, or 89.8% of net service revenues, for the three months ended September 30, 2023 and $12,145,000, or 88.0% of net service revenues, for the same period a year ago. The increase in gross profit in dollars and as a percentage of net sales on equipment revenues during the three months ended September 30, 2023 primarily resulted from a favorable shift in the proportion of sales to the Company’s door-locking products, which typically have higher margins than intrusion products, as well as from lower costs of certain components as compared to the same period a year ago when the Company was still feeling the effects of the global supply chain shortages. The price of these components had increased during the supply chain disruptions that occurred during the three months ended September 30, 2022. The increase in gross profit in dollars and as a percentage of net sales on service revenues during the three months ended September 30, 26 Table of Contents 2023 was primarily the result of the increase in revenues as described above as well as a greater proportion of those revenues being generated by the Company’s fire radios, which generate higher monthly service charges than those of the Company’s intrusion radios. The increases in total Gross Profit and total Gross Profit as a Percentage of Net Sales resulted from the increases described above. Research and development expenses for the three months ended September 30, 2023 remained relatively consistent at $2,437,000, or 5.8% of net sales, as compared to $2,428,000, or 6.1% of net sales, for the same period a year ago. Selling, general and administrative (“SG&A”) expenses for the three months ended September 30, 2023 remained relatively consistent at $8,421,000 as compared to $8,490,000 for the same period a year ago. SG&A expenses as a percentage of net sales decreased to 20.2% for the three months ended September 30, 2023 as compared to 21.5% for the same period a year ago. The decrease as a percentage of net sales was due primarily to the increase in net sales without the need to increase to increase SG&A expenses. Interest and other income (expense), net for the three months ended September 30, 2023 increased by $543,000 to income of $440,000 as compared to expense of $103,000 for the same period a year ago. The increase in income for the three months was primarily due to an increase in interest income on certificates of deposits. The Company’s provision for income taxes for the three months ended September 30, 2023 increased by $1,056,000 to $1,517,000 as compared to $461,000 for the same period a year ago. The increase in the provision for income taxes for the three months was primarily due to higher taxable income in the U.S. The Company’s effective rate for income tax was 12.6% and 13.0% for the three months ended September 30, 2023 and 2022 respectively. Net income for the three months ended September 30, 2023 increased by $7,394,000 to $10,478,000 or $0.28 per diluted share as compared to $3,084,000 or $0.08 per diluted share for the same period a year ago. The increase in net income for the three months ended September 30, 2023 was primarily due to the items described above. Liquidity and Capital Resources The Company has cash, certificates of deposit (“CD”) which mature within 12 months, and marketable securities which aggregate to $74 million. During the three months ended September 30, 2023, the Company utilized a portion of its cash balance at June 30, 2023 ($646,000 of $35,955,000) to purchase marketable securities and other investments ($389,000) and property, plant and equipment ($257,000). The securities and investments consist of money market accounts, CD’s and time deposits. During the three months ended September 30, 2023, the Company generated cash flows from operations of $11,210,000. 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 September 30, 2023 decreased by $3,148,000 to $22,921,000 as compared to $26,069,000 at June 30, 2023. This decrease is primarily the result of the higher sales volume of equipment during the quarter ended June 30, 2023, which is typically the Company’s highest, as compared to the quarter ended September 30, 2023. Inventories, which include both current and non-current portions, increased by $5,798,000 to $54,147,000 at September 30, 2023 as compared to $48,349,000 at June 30, 2023. The increase was due primarily to a build-up of inventory of the Company’s radio products in order to mitigate potential supply chain interruptions of these products. The increase was also due to the ongoing shortages of certain component parts and the Company purchasing large quantities of these hard-to-source component parts when they became available. As these challenges have begun to subside, the Company has reduced the quantities of these components being purchased and believes it’s inventory levels will decrease. Accounts payable and accrued expenses, not including income taxes payable, increased by $2,210,000 to $21,896,000 as of September 30, 2023 as compared to $19,686,000 as of June 30, 2023. This increase is primarily due to an increase in accounts payable, which relates to the Company’s recent purchases relating to its newly introduced Prima intrusion alarm products as well as recent purchases of components for the Company’s radio products. As of September 30, 2023 and 2022, long-term debt consisted of a revolving line of credit of $11,000,000 (“Revolver Agreement”), with no amounts outstanding, which expires in June 2024. The revolving credit facility contains various restrictions and covenants 27 Table of Contents including, among others, restrictions on borrowings and compliance with certain financial ratios, as defined in the agreement. The Company’s long-term debt is described more fully in Note 8 to the condensed consolidated financial statements. As of September 30, 2023, the Company had no material commitments for capital expenditures or inventory purchases other than purchase orders issued in the normal course of business. In addition, the Company’s balance sheet reflects a refund liability of $3,833,000 as of September 30, 2023 for customer returns and promotional credits which is more fully discussed in Note 2 to the condensed consolidated financial statements.