What changed in this filing

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Item 2. Management’s Discussion and Analysis

2026-01-29 compared with 2025-10-30 · 283 added, 303 removed, 58 unchanged (91% of the section changed)

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

following discussion and analysis should be read in conjunction with our unaudited interim condensed consolidated financial statements

and the related notes and other financial information appearing elsewhere in this report.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion

and analysis should be read in conjunction with our unaudited interim condensed consolidated financial statements and the related notes

and other financial information appearing elsewhere in this report.

COMPANY OVERVIEW

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(“Company,” “Pro-Dex,”

“we,” “our,” or “us”) for the three-month periods ended September 30, 2025 and 2024.

This discussion

should be read in conjunction with the condensed consolidated financial statements and the notes thereto included elsewhere

in this report.

This report contains certain forward-looking statements and information.

cautionary statements included herein should be read as being applicable to all related forward-looking statements wherever they may

“we,” “our,” or “us”) for the three-month and six-month periods ended December 31, 2025 and 2024.

This discussion should be read in conjunction with the condensed consolidated financial statements and the notes thereto included

elsewhere in this report.

This report contains certain

forward-looking statements and information.

The cautionary statements included herein should be read as being applicable to all related

forward-looking statements wherever they may appear.

Our actual future results could differ materially from those discussed herein.

for the historical information contained herein, the matters discussed in this report, including, but not limited to, discussions

of our product development plans, business strategies, strategic opportunities, contract negotiations,

and market factors influencing our results, are forward-looking statements

of our product development plans, business strategies, strategic opportunities, and market factors

influencing our results, are forward-looking statements

that involve certain risks and uncertainties.

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of various factors, both foreseen and unforeseen, including, but not limited to, our ability

to continue to develop new products and increase sales

in markets characterized by

rapid technological evolution, consolidation within our target marketplace and among our competitors, employee turnover, competition

from larger, better capitalized competitors, and our ability to realize returns on opportunities.

Many other economic, competitive,

governmental, and technological factors could impact our

ability to achieve our goals.

You are urged to review the risks, uncertainties, and other cautionary language described in this report,

as well as in our other public disclosures and reports filed with the Securities and Exchange

Commission (“SEC”) from time to time, including, but not limited to, the risks, uncertainties, and other cautionary language

discussed in our Annual Report on Form 10-K for our fiscal year ended June 30, 2025.

specialize in the design, development, and manufacture of autoclavable, battery-powered and electric, multi-function surgical drivers

and shavers used primarily in the orthopedic, thoracic, and maxocranial facial (“CMF”) markets.

We have patented adaptive

torque-limiting software and proprietary sealing solutions which appeal to our customers, primarily medical device distributors.

Additionally,

we provide engineering, quality, and regulatory consulting services to our customers.

We also manufacture and sell rotary air motors

to a wide range of industries;

however, these motors comprise a de minimis portion of our business.

principal headquarters are located at 2361 McGaw Avenue, Irvine, California 92614 and our phone

number is (949) 769-3200.

Our Internet address is www.pro-dex.com.

Our annual reports on Form

10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, amendments to those reports,

and other SEC filings are available free of charge through our website as soon as reasonably practicable after such

reports are electronically filed with, or furnished to, the SEC.

our Code of Ethics and other corporate governance documents may be found on our website at the Internet address set forth above.

filings with the SEC may also be read and copied at the SEC’s Public Reference Room at 100 F Street,

N.E., Washington, D.C.

You may obtain information on the operation of the Public Reference Room by calling

the SEC at 1-800-SEC-0330.

The SEC maintains an Internet site that contains reports, proxy and

information statements, and other information regarding issuers that file electronically with the SEC at www.sec.gov and company

specific information at www.sec.gov/edgar/searchedgar/companysearch.html.

to continue to develop new products and increase

sales in markets characterized by

rapid technological evolution, our ability to optimize our operations at our Franklin facility, consolidation within our target marketplace

and among our competitors, employee turnover, competition from larger, better capitalized competitors, and our ability to realize returns

on opportunities.

Many other economic, competitive, governmental, and

technological factors could impact our ability to achieve our goals.

You are urged to review the risks, uncertainties, and other cautionary

language described in this report, as well as in our other public disclosures and reports

filed with the Securities and Exchange Commission (“SEC”) from time to time, including, but not limited to, the risks, uncertainties,

and other cautionary language discussed in our Annual Report on Form 10-K for our fiscal year ended June 30, 2025.

We specialize in the design,

development, and manufacture of autoclavable, battery-powered, and electric, multi-function surgical drivers and shavers used primarily

in the orthopedic, thoracic, and maxocranial facial (“CMF”) markets.

We have patented adaptive torque-limiting software

and proprietary sealing solutions that appeal to our customers, primarily medical device distributors.

Additionally, we provide engineering,

quality, and regulatory consulting services to our customers.

We also manufacture and sell rotary air motors to a wide range of industries;

however, these motors compromise a de minimis portion of our business.

principal headquarters are located at 2361 McGaw Avenue, Irvine, California 92614 and our phone number is (949) 769-3200.

address is www.pro-dex.com.

Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, amendments to

those reports, and other SEC filings are available free of charge through our website as soon as reasonably practicable after such reports

are electronically filed with, or furnished to, the SEC.

In addition, our Code of Ethics and other corporate governance documents may

be found on our website at the Internet address set forth above.

Our filings with the SEC may also be read and copied at the SEC’s

Public Reference Room at 100 F Street, N.E., Washington, D.C.

You may obtain information on the operation of the Public Reference

Room by calling the SEC at 1-800-SEC-0330.

The SEC maintains an Internet site that contains reports, proxy and information statements,

and other information regarding issuers that file electronically with the SEC at www.sec.gov

and company specific information at www.sec.gov/edgar/searchedgar/companysearch.html.

Basis of Presentation

condensed consolidated results of operations presented in this report are not audited and those results are not necessarily indicative

of the results to be expected for the entirety of our fiscal year ending June 30, 2026, or any other interim period during such fiscal

Our fiscal year ends on June 30 and our fiscal quarters end on September 30, December 31, and March 31.

Unless otherwise stated,

all dates refer to our fiscal year and those fiscal quarters.

The condensed consolidated

results of operations presented in this report are not audited and are not necessarily indicative of the results to be expected for the

entirety of the fiscal year ending June 30, 2026, or any other interim period during such fiscal year.

Our fiscal year ends on June 30

and our fiscal quarters end on September 30, December 31, and March 31.

Unless otherwise stated, all dates refer to our fiscal year

and those fiscal quarters.

Critical Accounting Estimates and Judgments

financial statements are prepared in accordance with U.S.

The preparation of our financial statements requires management to make

estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures.

our estimates on historical experience and various other assumptions that are believed 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.

Our condensed consolidated

financial statements are prepared in accordance with accounting principles generally accepted in the United States.

The preparation of

our financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities,

revenues, expenses, and related disclosures.

We base our estimates on historical experience and various other assumptions that are believed

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.

accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are

highly uncertain at the time the estimate is made, and if different estimates that reasonably could have been used or changes in the

accounting estimate that are reasonably likely to occur could materially change the financial statements.

Management believes that there

have been no significant changes during the three months ended September 30, 2025, to the items that we disclosed as our critical accounting

policies and estimates in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report

on Form 10-K for our fiscal year ended June 30, 2025.

An accounting policy is deemed

to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time

the estimate is made, and if different estimates that reasonably could have been used or changes in the accounting estimate that are reasonably

likely to occur could materially change the financial statements.

Management believes that there have been no significant changes during

the three and six months ended December 31, 2025 to the items that we disclosed as our critical accounting policies in 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 June

Business Strategy and Future Plans

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Many of our significant customers place purchase orders for specific products that were

developed by us under various development and/or supply agreements.

Our customers may request that we design and manufacture a custom

surgical device or they may hire us as a contract manufacturer to manufacture a product of their own design.

developed under various development and/or supply agreements.

Our customers may request that we design and manufacture a custom surgical

device or they may hire us as a contract manufacturer to manufacture a product of their own design.

In either case, we have extensive

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percentage of our time and resources on providing outstanding products and service to our valued principal customers.

During the first

quarter of fiscal 2021, our largest customer executed an amendment to our existing supply agreement for us to supply their surgical handpieces

to them through calendar 2025.

Currently, we are in negotiations with our largest customer to extend the contract through calendar 2028.

While we are still negotiating some of the specific commercial terms, we have no reason to believe that the contract amendment will not

be executed and further, the customer has placed purchase orders to us through the end of calendar 2026.

Additionally, based on the planned

volumes of the next generation handpiece that we supply to our largest customer, we are simultaneously pursuing negotiations with one

of our existing suppliers to acquire their business to help meet the expected increased demand currently being contemplated by our largest

In the event we do not acquire this business we will be obligated to reimburse the supplier for legal fees incurred in relation

to the acquisition due diligence.

This amount, not to exceed $62,500, is not accrued for, but is expected to be paid at the end of the

current exclusivity period of October 31,2025, if not extended by mutual agreement of the parties, and will be credited towards the purchase

price upon an acquisition.

are also working to build top-line sales through active proposals of new medical device products with new and existing customers.

patented adaptive torque-limiting software has been very well received in the CMF and thoracic markets.

Additionally, our latest Pro-Dex

branded product, the Helios driver for CMF applications, featuring our adaptive torque-limiting software, is expected to be released

for production in the second quarter of this fiscal year.

Although we anticipate this product will be released in the second quarter

of this fiscal year, and we have had interest in this product, there is no guarantee that our existing customers or new customers will

purchase this new driver.

November 2020, we purchased an approximate 25,000 square foot industrial building in Tustin,

California (the “Franklin Property”).

This building is located approximately four miles from our Irvine, California headquarters

and was acquired to provide us additional capacity for our expected continued future growth, including anticipated expanded capacity

for the manufacture of batteries and new products.

We began operations in the new facility during the fourth quarter of fiscal 2023 and

believe that the additional capacity will allow for our continued expected growth.

summary, our current objectives are focused primarily on maintaining our relationships with our current medical device customers, investing

in research and development activities to design unique medical devices as well as Pro-Dex branded drivers to leverage our torque-limiting

software, expanding our manufacturing capacity through the commencement of operations at the Franklin Property, and promoting active

product development proposals to new and existing customers for both orthopedic shavers and screw drivers for a multitude of surgical

applications, while monitoring closely the progress of all these individual endeavors.

While we expect revenue growth in the future,

it may not be a consistent trajectory but rather periods of incremental growth that current expenditures are helping to create.

there can be no assurance that we will be successful in any of these objectives.

Results of Operations

following tables set forth results from continuing operations for the three months ended September 30, 2025 and 2024 (in thousands, except

percentages):

Months Ended September 30,

Dollars in thousands

% of Net Sales

Cost of sales

Selling expenses

General and administrative expenses

Research and development costs

Operating income

Other income, net

Income before income taxes

Provision for income taxes

majority of our revenue is derived from designing, developing, manufacturing, and repairing

surgical devices.

We continue to sell our rotary air motors for industrial and scientific applications,

but our focus remains in medical devices.

The proportion of total sales by type is as follows (in thousands, except percentages):

Months Ended September 30,

(Decrease) From

Dollars in thousands

% of Net Sales

Medical device

During the second

quarter of fiscal 2026, our largest customer executed an amendment to our existing supply agreement such that we shall continue to supply

their surgical handpieces to them through calendar 2028.

We are actively pursuing the acquisition of one of our significant suppliers

to help meet the increased demand as a result of this contract extension.

We are also working to build

top-line sales through active proposals of new medical device products with new and existing customers.

Our patented adaptive torque-limiting

software has been very well received in the CMF and thoracic markets.

Additionally, our latest Pro-Dex branded product, the Helios driver

for CMF applications, featuring our adaptive torque-limiting software, is expected to be released for production later this fiscal year.

While we have had interest in this product, there is no guarantee that our existing customers or new customers will purchase this new

In November 2020, we purchased

an approximate 25,000 square foot industrial building in Tustin, California (the “Franklin

This building is located approximately four miles from our Irvine, California headquarters and was acquired to provide

us additional capacity for our expected continued future growth, including anticipated expanded capacity for the manufacture of batteries

and new products.

We began operations in the new facility during the fourth quarter of fiscal 2023 and believe that the additional capacity

will allow for our continued expected growth.

Our current objectives are

focused primarily on maintaining our relationships with our current medical device customers, investing in research and development activities

to design unique medical devices as well as Pro-Dex branded drivers to leverage our torque-limiting software, expanding our manufacturing

capacity through the continuation of operations at the Franklin Property, and promoting active product development proposals to new and

existing customers for both orthopedic shavers and screw drivers for a multitude of surgical applications, while monitoring closely the

progress of all these individual endeavors.

While we expect revenue growth in the future, it may not be a consistent trajectory but rather

periods of incremental growth that current expenditures are helping to create.

However, there can be no assurance that we will be successful

in any of these objectives.

Description of Business Operations

majority of our revenue is derived from designing, developing, and manufacturing surgical

devices for the medical device industry.

The proportion of total sales by type is as follows

(in thousands, except percentages):

Medical device products

Industrial and scientific

NRE & proto-types

NRE & Prototype

Discounts and other

of our medical device products utilize proprietary designs developed by us under exclusive development

and supply agreements.

All of our medical device products

utilize proprietary manufacturing methods and know-how, and are manufactured in our Irvine, California facility and assembled in our

Tustin, California facility.

Details of our medical device sales by type is as follows (in thousands, except percentages):

Months Ended September 30,

(Decrease) From

Dollars in thousands

% of Med Device Sales

of our medical device products utilize proprietary designs developed by us under exclusive

development and/or supply agreements.

All of our medical device

products utilize proprietary manufacturing methods and know-how, are manufactured or machined in our Irvine, California facility,

and are assembled in our Tustin, California facility ( as are our industrial products).

our medical device sales by type is as follows (in thousands, except percentages):

Three Months Ended

Six Months Ended

Medical device sales:

medical device revenue increased $4.5 million, or 45%, for the three months ended September 30, 2025, compared to the corresponding period

of the prior fiscal year .

Our orthopedic sales increased $4.4 million, or 65%, for the three months ended September 30, 2025,

compared to the corresponding period of the prior fiscal year, due primarily to the launch of our largest customer’s next generation

As previously disclosed, late in the third quarter of fiscal 2025 the customer requested we hold off on next generation handpiece

shipments in favor of continued shipments and enhanced repair of the legacy handpieces.

During the fourth quarter of fiscal 2025, at

the customer’s request, we resumed production and shipments of the next generation handpiece.

Because certain of the sub-assemblies

included in the handpiece take several weeks of internal machining, the process to resume shipments at the requested levels has taken

several months.

By September 2025, our shipments reached the recurring level that the customer has requested.

Recurring revenue from

distributors of CMF drivers increased $627,000, or 29%, for the three months ended September 30, 2025, compared to the corresponding

of our medical device products increased $2.9 million, or 24%, for the three months ended December 31, 2025, and increased $7.4 million,

or 33%, for the six months ended December 31, 2025, compared to the corresponding periods of the prior fiscal year.

Our orthopedic

sales increased $2.6 million, or 27%, and $6.9 million, or 43%, respectively, for the three and six months ended December 31, 2025 compared

to the corresponding period of the prior fiscal year, due primarily to the launch of our largest customer’s next generation handpiece.

We expect to see similar increases in orthopedic sales for at least the remainder of this fiscal year.

Recurring revenue from CMF drivers

increased $1.3 million, or 69%, and $1.9 or 47%, respectively for the three and six months ended December 31, 2025 compared to the corresponding

period of the prior fiscal year.

Our thoracic sales decreased by $515,000, or 51% for the three months ended September 30, 2025, compared

to the corresponding period of the prior fiscal year.

While we do not have much visibility into

our customers’ distribution networks, this level of change (whether an increase or decrease) is not uncommon and fluctuations occur

based upon required inventory levels.

of our compact pneumatic air motors increased $29,000, or 20%, for the three months ended September

30, 2025, compared to the corresponding period of the prior fiscal year.

The minimal and relatively flat sales volume is consistent with

our lack of substantive marketing efforts for our air motors .

Our non-recurring engineering (“NRE”) and proto-type

revenue increased $428,000, or 892%, for the three months ended September 30, 2025 compared to the corresponding period of the prior

fiscal year, due to an increase in billable contracts.

Our NRE and proto-type revenue is typically a small percentage of our total revenue

and can vary significantly from quarter to quarter.

revenue decreased by $1.3 million, or 25%, for the three months ended September 30, 2025, compared to the corresponding period of the

prior fiscal year, due to fewer repairs of the legacy orthopedic handpiece we sell to our largest customer.

While we do not have much

visibility into our largest customer’s distribution networks, they may be reducing repairs of legacy handpieces in favor of replacing

them with the next generation handpiece.

and other decreased by $57,000, or 5%, in the first quarter of fiscal 2026 compared to the corresponding period of the prior fiscal year,

due to volume rebates related to the legacy orthopedic handpiece we sell to our largest customer, which they negotiated in conjunction

with our contract extension through 2025.

September 30, 2025, we had a backlog of approximately

$46.8 million, of which $43.6 million is s cheduled for delivery during the remainder of fiscal 2026.

Our backlog represents firm

purchase orders received and acknowledged from our customers and does not include all revenue expected to be generated from existing

customer contracts.

We may experience

variability in our new order bookings due to various reasons, including, but not limited to, the timing of major new product launches

and customer planned inventory builds.

However, we do not typically experience seasonal fluctuations

in our shipments and revenues.

Our thoracic sales decreased $880,000, or 83% and $1.4 million or 67%, respectively for the three and

six months ended December 31, 2025 compared to the corresponding period of the prior fiscal year.

While we do not have much visibility

into our customers’ distribution networks, this level of change in thoracic and CMF sales (whether an increase or decrease) is not

uncommon and fluctuations occur based upon our customers’ required inventory levels.

of our compact pneumatic air motors, reported as “Industrial and scientific”

sales above, increased $24,000, or 14%, and $52,000, or 17%, respectively, for the three and six months ended December 31, 2025, compared

to the corresponding periods of the prior fiscal year.

These are legacy products with no substantive marketing efforts and, as such, expect

to see continued minimal revenue from these products in the future.

Our non-recurring (“NRE”) and proto-type revenue increased

$108,000, or 263%, and $536,000, or 602%, respectively, for the three and six months ended December 31, 2025, compared to the corresponding

periods of the prior fiscal year, due to an increase in billable contracts for various NRE projects undertaken for our customers.

revenue decreased $1.7 million, or 35%, and $3.0 million, or 30%, respectively, for the three and six months ended December 31, 2025,

compared to the corresponding periods of the prior fiscal year, due to fewer repairs of the legacy orthopedic handpiece we sell to our

largest customer.

While we do not have much visibility into our largest customer’s distribution networks, they may be reducing repairs

of legacy handpieces in favor of replacing them with the next generation handpiece, in which case we may continue to experience future

declines in repair revenue.

December 31, 2025, we had a backlog of approximately $37.4 million, of which $32.5 million is scheduled to be delivered in fiscal 2026

and the balance is scheduled to be delivered the following fiscal year.

Our backlog represents firm purchase orders received and

acknowledged from our customers and does not include all revenue expected to be generated from existing customer contracts.

may experience variability in our new order bookings due to various reasons, including, but not limited to, the timing of major new product

launches and customer planned inventory builds.

However, we do not typically experience seasonal fluctuations in our shipments and revenues.

Cost of Sales and Gross Margin

Months Ended September 30,

(Decrease) From

(in thousands except percentages)

Cost of sales:

% of Net Sales

Product costs

Under(over)-absorption of manufacturing costs

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Total cost of sales

Gross profit and gross margin

Cost of sales for the three

months ended September 30, 2025, increased by $3.4 million, or 35%, compared to the corresponding period of the prior fiscal year.

increase in cost of sales is consistent with the 24% increase in revenue for the same period.

Product costs increased by $3.1 million,

or 33%, during the three months ended September 30, 2025, compared to the corresponding period of the prior fiscal year, which is consistent

with higher revenue generated in the first quarter of fiscal 2026, but is higher than expected based partly on product mix and partly

on negative fluctuations in repair service revenue margin.

In the first quarter of fiscal 2026 our repair revenue margin is significantly

lower than in prior year and this is caused by more expensive component replacement as well as an assembled workforce which normally repairs

a higher volume of devices.

During the three months ended September 30, 2025, we experienced under-absorption of $619,000 in manufacturing

costs compared to $325,000 during the corresponding period of the prior fiscal year.

We anticipate growth in our direct labor costs this

fiscal year such that our absorption will stabilize without the need to increase our labor and overhead rates.

Costs related to inventory

and warranty charges increased $66,000, or 94%, for the three months ended September 30, 2025 compared to the corresponding period of

the prior fiscal year, due an increase in both inventory and warranty reserves.

profit increased by approximately $217,000, or 4%, for the three months ended September 30, 2025 compared to the corresponding period

of the prior fiscal year, and gross margin as a percentage of sales decreased by six percentage points between such periods, primarily

as a result of higher costs, including tariffs, which have not fully been passed on to our customers .

of sales for the three and six months ended December 31, 2025, increased $1.2 million, or 10%, and $4.6 million, or 21%, respectively,

compared to the corresponding periods of the prior fiscal year.

The increase in cost of sales is consistent with the 11% and 17% increase

in revenue for the three and six months ended December 31, 2025, respectively, compared to the corresponding periods of the prior fiscal

Additionally, under-absorption for the three and six months ended December 31, 2025, decreased $132,000 and $64,000, respectively,

compared to the corresponding periods of the prior fiscal year.

Inventory and warranty charges

for the three and six months ended December 31, 2025, increased $201,000, or

609%, and $267,000 or 259%, respectively, compared to the corresponding periods of the prior fiscal year, primarily due to an increase

in inventory reserves .

profit increased by $671,000, or 13%, and $889,000, or 9%, for the three and six months ended December 31, 2025, respectively, compared

to the corresponding periods of the prior fiscal year.

Gross margin as a percentage of sales for the three months ended December 31, 2025,

increased 1 percentage point, and for the six months ended December 31, 2025, decreased 2 percentage points, compared to the corresponding

periods of the prior fiscal year.

Operating Expenses

Operating Costs and Expenses

Months Ended September 30,

(Decrease) From

% of Net Sales

(in thousands except % change)

over Year % Change

Operating expenses:

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Research and development costs

expenses consist of salaries and other personnel-related expenses in support of business development, as well as trade show attendance,

advertising and marketing expenses, and travel and related costs incurred in generating and maintaining our customer relationships.

expenses for the three months ended September 30, 2025, increased $25,000, or 52%, compared to the corresponding period of the prior

The increase relates to personnel costs related to our former Director of Business Development hired in the second quarter

of the prior fiscal year whose employment with us ended in the second quarter of fiscal 2026.

and administrative expenses (“G&A”) consist of salaries and other personnel-related expenses of our accounting, finance,

facilities, information technology and human resources personnel, as well as costs for outsourced information technology services, professional

fees, directors’ fees, and other costs and expenses attributable to being a public company.

G&A expenses increased by $171,000,

or 14%, for the three months ended September 30, 2025, when compared to the corresponding period of the prior fiscal year.

in total G&A expenses relates to higher payroll and personnel expenses due to new hires in human resources, information technology

and facilities.

and development costs generally consist of compensation and other personnel-related costs of our engineering and support personnel, related

professional and consulting fees, patent-related fees, lab costs, materials, and travel and related costs incurred in the development

and support of our products.

Research and development costs decreased $75,000, or 9%, for the three months ended September 30, 2025 compared

to the corresponding period of the prior fiscal year.

The decrease is due primarily to a decrease in internal project spending and a

reduction in recruiting fees, partially offset by an increase in personnel expenses.

Although internal project spending is lower in the

first quarter of fiscal 2026 compared to the same period in fiscal 2025, we expect to release an internally developed project, our Helios

branded CMF driver, for production in the second quarter of fiscal 2026.

majority of our research and development costs relate to sustaining activities related to products we currently manufacture and sell.

As we introduce new products into the market, we expect to see an increase in sustaining and other engineering expenses.

Typical examples

of sustaining engineering activities include, but are not limited to, end-of-life component replacement, especially in electronic components

found in our printed circuit board assemblies, analysis of customer complaint data to improve process and design, replacement and enhancement

of tooling and fixtures used in the machine shop, assembly operations, and inspection areas to improve efficiency and through-put.

Selling expenses consist of

salaries and other personnel-related expenses for our business development department, as well as advertising and marketing expenses,

and travel and related costs incurred in generating and maintaining our customer relationships.

Selling expenses for the three months

ended December 31, 2025 decreased $10,000 compared to the corresponding periods of fiscal 2025.

Selling expenses for the six months ended

December 31, 2025 increased $14,000 compared to the corresponding periods of fiscal 2025.

General and administrative

expenses (“G&A”) consists of salaries and other personnel-related expenses of our accounting, finance, facilities, and

human resource personnel, as well as costs for outsourced information technology services, professional fees, directors’ fees, and

other costs and expenses attributable to being a public company.

G&A expenses increased $322,000 and $494,000, respectively, during

the three and six months ended December 31, 2025, when compared to the corresponding periods of the prior fiscal year.

The increases relates

primarily to a $225,000 bonus earned and paid to the Company’s Chief Executive Officer in the second quarter of fiscal 2026 as well

as an overall increase in personnel costs and consulting fees related to the potential acquisition of one of our significant suppliers

that we are currently pursuing.

Research and development costs

generally consist of salaries, employer paid benefits, and other personnel- related costs of our engineering and support personnel, as

well as allocated facility and information technology costs, professional and consulting fees, patent-related fees, lab costs, materials,

and travel and related costs incurred in the development and support of our products.

Research and development costs for the three and

six months ended December 31, 2025, decreased $208,000 and $282,000, respectively, compared to the corresponding periods of the prior

The decrease for the three months ended December 31, 2025, compared to the comparable period of the prior year is primarily

related to an increase in billable project expenses of $64,000, a decrease in internal project expenses of $55,000, as well as decreases

in recruiting fees of $13,000 and legal fees related to our intellectual property of $51,000.

The decrease for the six months ended December

31, 2025, compared to the comparable period of the prior year is primarily related to a decrease in recruiting fees of $78,000, a decrease

in internal project costs of $117,000, an increase in billable project expenses of $65,000 and a decrease in legal fees related to our

intellectual property of $70,000.

When our engineers are engaged in billable projects as opposed to internal projects, costs get shifted

to cost of sales instead of research and development.

While we are currently in development on two internal projects, project expenses

for the periods presented in this report are not material.

The majority of our research

and development costs relate to sustaining activities related to products we currently manufacture and sell.

As we introduce new products

into the market, we expect to see an increase in sustaining and other engineering expenses.

Typical examples of sustaining engineering

activities include, but are not limited to, end-of-life component replacement, especially in electronic components found in our printed

circuit board assemblies, analysis of customer complaint data to improve process and design, replacement and enhancement of tooling and

fixtures used in the machine shop, assembly operations, and inspection areas to improve efficiency and through-put.

Other Income (Expense), net

Interest and Dividend Income

interest and dividend income recorded during the three months ended September 30, 2025 and 2024, consists primarily of interest and dividends

from our investments and money market accounts.

Unrealized Gain on Investments

unrealized gain on marketable securities for the quarters ended September 30, 2025 and 2024, relates to our portfolio of investments

described more fully in Note 4 to the condensed consolidated financial statements contained elsewhere in this report.

Interest and Other Income

Interest income for the three

and six months ended December 31, 2025, and 2024 includes interest and dividends from our money market accounts and investment portfolio.

Gain (Loss) on Investments

the second quarter of fiscal 2026 Zimmer Biomet Holdings, Inc.

acquired Monogram Technologies, Inc.

(“Monogram”) and we received

$4.04 in cash for each of the 2,212,378 common shares that we owned of Monogram prior to the close of the acquisition.

Accordingly, we

realized a gain in the amount of $6.8 million related to this investment described more fully in Note 4 to the condensed consolidated

financial statements contained elsewhere in this report.

During the three months ended December 31, 2025, we also reversed the

previously recorded unrealized gain related to Monogram in the amount of $6.8 million, which fully offset the realized gain.

addition, we have also recorded unrealized gains and losses on our investment portfolio for the three and six months ended December 31,

2025 and 2024.

All of our investments are recorded at estimated fair value as of December 31, 2025, and relate to common stock of publicly

traded companies whose stock price is subject to significant volatility.

Interest Expense

interest expense recorded during the three months ended September 30, 2025 and 2024, relates to our UMB Bank (“UMB”) loans

described more fully in Note 11 to the condensed consolidated financial statements contained elsewhere in this report.

Interest expense consists

primarily of interest expense related to our UMB Bank (“UMB”) loans described more fully in Note 11 to the condensed consolidated

financial statements contained elsewhere in this report.

Income Tax Expense

The effective tax rate for

the three months ended September 30, 2025 and 2024, was 25% and 26%, respectively, and is slightly less than our combined expected federal

and applicable state corporate income tax rates due primarily to federal and state research credits.

the three months ended December 31, 2025, and 2024 was 25% and 21%, respectively.

The effective tax rate for the six months ended December

31, 2025, and 2024 is 25% and 24%, respectively.

The effective tax rate is slightly higher in fiscal 2026 than the prior year due to a

windfall related to vesting of performance awards in fiscal 2025 that did not recur during the current fiscal year.

Liquidity and Capital Resources

Cash and cash equivalents

at September 30, 2025, increased $95,000 to $514,000 as compared to $419,000 million at June 30, 2025.

The following table includes a

summary of our condensed consolidated statements of cash flows contained elsewhere in this report.

and For the Three Months Ended September 30,

at December 31, 2025 increased $7.5 million to $8.0 million as compared to $419,000 at June 30, 2025.

The following table includes a summary

of our condensed statements of cash flows contained elsewhere in this report.

and For the Six Months Ended December 31,

(in thousands)

8 unchanged sentences

Net cash provided by operating

activities during the three months ended September 30, 2025 totaled $2.3 million.

Our net income was $4.7 million, which includes $3.3

million of unrealized gains, primarily related to our investment in Monogram, which is more fully described in Note 4 to the condensed

consolidated financial statements contained elsewhere in this report as well as non-cash depreciation and amortization and stock-based

compensation in the amount of $311,000 and $161,000, respectively.

Proceeds of cash arose from income taxes of $1.5 million due to tax

expense incurred in the first quarter of fiscal 2026 having been previously paid and a decrease in inventory of $649,000.

Offsetting these

inflows of cash, our accounts receivable increased by $1.8 million due to an increase in revenue in the first quarter of fiscal 2026.

Net cash provided by operating

activities during the three months ended September 30, 2024, totaled $1.9 million.

Our net income was $2.5 million, which includes $433,000

of unrealized gains on our marketable securities as well as non-cash depreciation and amortization and stock-based compensation in the

amount of $302,000 and $113,000, respectively.

Additionally, our inventory and income taxes payable increased by $1.3 million and $209,000,

respectively.

Offsetting these outflows of cash, our accounts receivable decreased by $428,000 and accounts payable and accrued expenses

increased by $579,000.

activities was $5.9 million for the six months ended December 31, 2025, primarily due to our net income of $6.9 million plus non-cash

depreciation and share-based compensation of $625,000 and $325,000, respectively, less the net gains on marketable equity investments

of $3.0 million.

Additionally, income taxes payable increased by $1.8 million and inventory decreased by $503,000.

Offsetting these cash

inflows, our accounts receivable increased by $1.5 million consistent with increased revenue in fiscal 2026 compared to fiscal 2025.

Net cash used in operating

activities was $2.3 million for the six months ended December 31, 2024, due in part to net income of $4.5 million and non-cash depreciation

and amortization of $615,000 offset by non-cash unrealized gains on marketable equity investments of $510,000.

Additionally, accounts

receivable, inventory and prepaid and other assets increased $4.6 million, $4.3 million, and $991,000, respectively, for the six months

ended December 31, 2024, offset by an increase in accounts payable and accrued expenses of $3.0 million.

As our business continues to

grow, we expect to see increases in both inventory and accounts payable.

Our accounts receivable is similarly expected to increase during

periods of increased revenue.

Investing Activities

Net cash generated from investing

activities was $8.8 million and relates primarily to the proceeds received from our Monogram investment, more fully described in Note

4 to the condensed consolidated financial statements contained elsewhere in this report.

Net cash used in investing

activities for the three months ended September 30, 2025, and 2024 was $98,000 and $431,000, respectively, related to the purchase of

equipment and improvements.

activities for the six months ended December 31, 2024 was $973,000 and related mostly to equipment purchases for our machine shop, assembly,

and inspection.

Financing Activities

Net cash used in financing

activities for the three months ended September 30, 2025, included net principal payments of $2.2 million on our loans from UMB (formerly

Net cash used in financing

activities for the three months ended September 30, 2024, included the repurchase of $2.3 million of common stock pursuant to our share

repurchase program, and proceeds of $5.0 million from a new term loan from UMB, offset by principal payments totaling $3.4 million.

Additionally,

we paid $273,000 of employee payroll taxes related to the award of 40,000 shares of common stock to employees under previously granted

performance awards.

activities for the six months ended December 31, 2025, totaled $7.1 million and related primarily to the net principal payments of $4.9

million on our loans from UMB more fully described in Note 11 to the condensed consolidated financial statements contained elsewhere in

this report, as well as repurchase of 55,000 shares of our common stock pursuant to our share repurchase program in the amount of $2.2

Net cash provided by financing

activities for the six months ended December 31, 2024, included net borrowings in the amount of $4.5 million primarily related to the

Term Loan C described in Note 11 the condensed consolidated financial statements contained elsewhere in this report, offset by the repurchase

of $3.5 million of our common stock pursuant to our share repurchase program, as well as $305,000 of employee payroll taxes related to

shares of common stock issued to employees under previously granted performance awards and nonqualified stock options.

Financing Facilities & Liquidity Requirements for the Next

Twelve Months

As of September 30, 2025,

our working capital was $37.1 million.

We currently believe that our existing cash and cash equivalent balances together with our

accounts receivable balances will provide us sufficient funds to satisfy our cash requirements as our business is currently conducted

for at least the next 12 months.

In addition, we expect to derive a portion of our liquidity from our cash flows from operations

and, as described in Note 4 to the condensed consolidated financial statements contained elsewhere in this report, we received $8.9 million

in cash in October 2025 upon the consummation of Zimmer Biomet’s acquisition of Monogram.

We are focused on preserving

our cash balances by monitoring expenses, identifying cost savings, and investing only in those development programs and products that

As of December 31, 2025, our

working capital was $37.0 million.

We currently believe that our existing cash and cash equivalents coupled with our accounts receivable

balances as well as our expected cash flows from operations will provide us with sufficient funds to satisfy our cash requirements as

our business is currently conducted for at least the next 12 months.

We are focused on maximizing

our working capital by monitoring expenses, identifying cost savings, and investing only in those development programs and products that

we believe will most likely contribute to our profitability.

As we execute on our current strategy, however, we may require debt and/or

equity capital to fund our working capital needs and requirements for capital equipment to support our manufacturing and inspection processes.

In particular, we have experienced negative operating cash flow in the past, especially as we procure long-lead time materials to satisfy

our backlog, which can be subject to extensive variability.

We believe that if we need additional capital to fund our operations, we can

borrow against our revolving loan with UMB which has an available balance of $8.8 million as of September 30, 2025.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

equity capital to fund our working capital needs and requirements for capital equipment to support our manufacturing, assembly, and inspection

In particular, we have experienced negative operating cash flow in the past, especially as we procure long-lead time materials

to satisfy our backlog, which can be subject to extensive variability.

We believe that if we need additional capital to fund our operations,

we can borrow against our revolving loan with UMB which has an available balance of $11.0 million as of December 31, 2025.

AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

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What changed 10-Q

Item 2. Management’s Discussion and Analysis