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ESPEY MFG & ELECTRONICS CORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge) Overview
Espey Mfg. & Electronics Corp. (the "Company") is a power electronics design and
original equipment manufacturing (OEM) company with a long history of developing
and delivering highly reliable products for use in military and severe
environment applications. All design, manufacturing, and testing is performed in
our 150,000+ square foot facility located at 233 Ballston Ave, Saratoga Springs,
New York. Espey is classified as a "smaller reporting company" for purposes of
the reporting requirements under the Securities Exchange Act of 1934, as
amended. Espey's common stock is publicly-traded on the NYSE-Amex under the
symbol "ESP."
Espey began operations after incorporation in New York in 1928. We strive to
remain competitive as a leader in high power energy conversion and transformer
solutions through the design and manufacture of new and improved products by
using advanced and "cutting edge" electronics technologies.
Espey is ISO 9001:2008 certified and our primary products are power supplies,
power converters, filters, power transformers, magnetic components, power
distribution equipment, ups systems, antennas and high power radar systems. The
applications of these products include AC and DC locomotives, shipboard power,
shipboard radar, airborne power, ground-based radar, and ground mobile power.
Espey services include design and development to specification, build to print,
design services, design studies, environmental testing services, metal
fabrication, plating and painting services, and development of automatic testing
equipment. Espey manufacturing is vertically integrated, meaning that the
Company produces individual components (including inductors), populates printed
circuit boards, fabricates metalwork, paints, wires, qualifies, and fully tests
items, mechanically, electrically and environmentally, in house. Portions of the
manufacturing process are subcontracted to vendors from time to time.
Business is solicited from large industrial manufacturers and defense companies,
the government of the United States, foreign governments and major foreign
electronic equipment companies. In certain countries the Company has external
sales representatives to help solicit and coordinate foreign contracts. The
Company is also on the eligible list of contractors of agencies of the United
States Department of Defense and generally is automatically solicited by such
agencies for procurement needs falling within the major classes of products
produced by the Company. In addition, the Company directly solicits bids from
the United States Department of Defense for prime contracts. Espey contracts
with the Federal Government under cage code 20950 as Espey Mfg. & Electronics
Corp. and cage code 98675 as Espey Mfg. & Electronics Corp., Saratoga Industries
Division.
There is competition in all classes of products manufactured by the Company from
divisions of the largest electronic companies, as well as many small companies.
The Company's sales do not represent a significant share of the industry's
market for any class of its products. The principal methods of competition for
electronic products of both a military and industrial nature include, among
other factors, price, product performance, the experience of the particular
company and history of its dealings in such products. The Company, as well as
other companies engaged in supplying equipment for military use, is subject to
various risks, including, without limitation, dependence on United States and
foreign government appropriations and program allocations, the competition for
available military business, and government termination of orders for
convenience.
New orders received in the first six months of fiscal 2012 were approximately
$13.8 million, representing a 44% decrease over the amount of new orders
received in the first six months of fiscal 2011. These orders are in line with
the Company's strategy of getting involved in long-term high quantity military
and industrial products and are predominately for follow-on production of mature
products. The Company's backlog was $36.1 million at December 31, 2011 which
includes $25.6 million from two customers, compared to $42.9 million at December
31, 2010 which included $32.2 million from three significant customers. The
backlog for the Company represents the estimated remaining sales value of work
to be performed under firm contracts.
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The sales backlog gives the Company a solid base of future sales. Based upon the
backlog and the anticipated schedule for the fulfillment of orders, management
expects net sales revenues in fiscal year 2012 to exceed net sales revenues in
fiscal year 2011. In addition to the backlog, the Company currently has
outstanding quotations and potential business representing approximately $51.1
million in the aggregate for both repeat and new programs. Approximately $31.7
and $19.4 are for repeat and new programs, respectively.
The outstanding quotations encompass various new and previously manufactured
power supplies, transformers, and subassemblies. However, there can be no
assurance that the Company will acquire any or all of the anticipated orders
described above, many of which are subject to allocations of the United States
Department of Defense spending and factors affecting the defense industry and
military procurement generally.
Net sales to two significant customers represented 59.5% of the Company's total
sales for the three-month period ended December 31, 2011 and net sales to three
significant customers represented 67.2% of the Company's total sales for the
three-month period ended December 31, 2010. Net sales to three significant
customers represented 67.9% and 66.4% of the Company's total sales for the
six-month periods ended December 31, 2011 and 2010, respectively. Historically,
a small number of customers have accounted for a large percentage of the
Company's total sales in any given fiscal year. Even though our business tends
to be concentrated in several customers, the makeup of those customers often
changes from year to year. For several years, management has pursued
opportunities with current and new customers with an overall objective of
lowering the concentration of sales, mitigating excessive reliance upon a single
major product of a particular program and minimizing the impact of the loss of a
single significant customer. Management continues to evaluate its business
development functions and potential revised courses of action in order to
diversify its customer base. The defense industry itself tends to be
concentrated with a few large tier one defense contractors which limits the
amount of diversity the Company can achieve with its customer base.
Management, along with the Board of Directors, continues to evaluate the need
and use of the Company's working capital. Capital expenditures are expected to
be approximately $300,000 for fiscal 2012. Expectations are that the working
capital will be used to fund orders, general operations of the business, and
dividend payments.
From time to time, management along with the Mergers and Acquisitions Committee
of the Board of Directors examine opportunities involving acquisitions or other
strategic options, including buying certain products or product lines. The
criteria for consideration are synergies with the Company's existing product
base and accretion to earnings.
Critical Accounting Policies and Estimates
Management believes our most critical accounting policies include revenue
recognition and estimates to completion.
A significant portion of our business is comprised of development and production
contracts. Generally, revenues on long-term fixed-price contracts are recorded
on a percentage of completion basis using units of delivery as the measurement
basis for progress toward completion.
Percentage of completion accounting requires judgment relative to expected
sales, estimating costs and making assumptions related to technical issues and
delivery schedule. Contract costs include material, subcontract costs, labor and
an allocation of overhead costs. The estimation of cost at completion of a
contract is subject to numerous variables involving contract costs and estimates
as to the length of time to complete the contract. Given the significance of the
estimation processes and judgments described above, it is possible that
materially different amounts of expected sales and contract costs could be
recorded if different assumptions were used, based on changes in circumstances,
in the estimation process. When a change in expected sales value or estimated
cost is determined, changes are reflected in current period earnings.
Results of Operations
Net sales for the three months ended December 31, 2011 were $8,265,754 as
compared to $6,581,342 for the same period in 2010, representing a 25.6%
increase. Net sales for the six months ended December 31, 2011 were $16,259,681
as compared to $12,607,672 for the same period in 2010, representing a 29%
increase. The increase for the three months ended December 31, 2011 was
primarily the result of increased power supply shipments on existing programs
for major customers. The increase for the six months ended December 31, 2011 was
primarily due to the shipment of a high power radar system that the Company does
not regularly build and an overall increase in power supply shipments on repeat
programs.
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For the three months ended December 31, 2011 and 2010 gross profits were
$2,181,860 and $1,624,799, respectively. Gross profit as a percentage of sales
was 26.4% and 24.7%, for the three months ended December 31, 2011 and 2010,
respectively. For the six months ended December 31, 2011 and 2010 gross profits
were $4,183,668 and $3,275,331, respectively. Gross profit as a percentage of
sales was 25.7% and 26.0%, for the six months ended December 31, 2011 and 2010,
respectively. The primary factors in determining gross profit and net income are
overall sales levels and product mix. The gross profits on mature products and
build to print contracts are higher as compared to products which are still in
the engineering development stage or in the early stages of production. In any
given accounting period the mix of product shipments between higher margin
mature programs and less mature programs, including loss contracts, has a
significant impact on gross profit and net income. The increased gross profit in
the three months ended December 31, 2011, was primarily the result of higher net
sales on mature programs with only minor cost overruns related to loss
contracts. The slight gross profit percentage decrease in the six months ended
December 31, 2011 as compared to December 31, 2010 was primarily the result of
one large order shipped during the quarter that had a lower gross profit
percentage than the average gross profit percentage from the previous period.
This order was for a high power radar system referred to above.
Selling, general and administrative expenses were $690,825 for the three months
ended December 31, 2011; a decrease of $52,949, compared to the three months
ended December 31, 2010. Selling, general and administrative expenses were
$1,433,692 for the six months ended December 31, 2011; a decrease of $2,791
compared to the six months ended December 31, 2010. The decrease for the three
months ended December 31, 2011, relates primarily to a decrease in relocation
expenses for certain employees and salary expense.
Interest income for the three months ended December 31, 2011 remained consistent
when compared to the three months ended December 31, 2010, due to a leveling of
interest rates and related interest income on the Company's cash and cash
equivalents and investment securities. For the six months ended December 31,
2011 other income decreased due to a decrease in funds received related to an
insurance claim.
The Company does not believe there is significant risk associated with its
investment policy, since at December 31, 2011 all of the investments were
primarily represented by short-term liquid investments.
The effective income tax rate at December 31, 2011 and 2010 was 28.4% and 28.2%,
respectively. The effective tax rate is less than the statutory tax rate mainly
due to the benefit the Company receives on its "qualified production activities"
under The American Jobs Creation Act of 2004 and the benefit derived from the
ESOP dividends paid on allocated shares.
Net income for the three months ended December 31, 2011, was $1,070,863 or $0.49
per share, both basic and diluted compared to $649,747 or $0.30 per share, both
basic and diluted, for the three months ended December 31, 2010. Net income for
the six months ended December 31, 2011, was $1,997,767 or $0.92 and $0.91 per
share, basic and diluted, respectively compared to $1,403,286 or $0.65 per
share, both basic and diluted, for the six months ended December 31, 2010. The
increase in net income per share for the three and six months ended December 31,
2011 was mainly due to higher sales and gross profit and lower general and
administrative expenses.
Liquidity and Capital Resources
The Company's working capital is an appropriate indicator of the liquidity of
its business, and during the past two fiscal years, the Company, when possible,
has funded all of its operations with cash flows resulting from operating
activities and when necessary from its existing cash and investments. The
Company did not borrow any funds during the last two fiscal years.
The Company's working capital as of December 31, 2011 and 2010 was approximately
$25.1million and $24.0 million, respectively. During the three and six months
ended December 31, 2011 and 2010 the Company repurchased 4,624 and 3,548 shares,
respectively, of its common stock from the Company's Employee Retirement Plan
and Trust ("ESOP") for a purchase price of $103,346 and $83,662, respectively.
Under existing authorizations from the Company's Board of Directors, as of
December 31, 2011, management is authorized to purchase an additional $1,896,654
million of Company stock.
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Six Months Ended
December 31, December 31,
2011 2010
Net cash provided by operating activities $ 3,517,540 $ 3,279,831
Net cash (used in) provided by investing activities (1,382,180 ) 2,681,933
Net cash used in financing activities
(3,095,039 ) (3,014,426 )
Net cash provided by operating activities fluctuates between periods primarily
as a result of differences in net income, the timing of the collection of
accounts receivable, purchase of inventory, level of sales and payment of
accounts payable. Net cash used in investing activities increased in the first
six months of fiscal 2012 due to the amount of investment securities purchased
during the current period.
The Company currently believes that the cash flow generated from operations and
when necessary, from cash and cash equivalents will be sufficient to meet its
long-term funding requirements for the foreseeable future.
During the six months ended December 31, 2011 and 2010, the Company expended
$162,438 and $543,613, respectively, for plant improvements and new equipment.
The Company had budgeted approximately $300,000 for new equipment and plant
improvements in fiscal 2012. Management anticipates that the funds required will
be available from current operations.
The Company at certain times enters into standby letters of credit agreements
with financial institutions primarily relating to the guarantee of future
performance on certain contracts. The Company had no contingent liabilities on
outstanding standby letters of credit agreements at each of December 31, 2011
and December 31, 2010.
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
This report contains "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. The terms "believe,"
"anticipate," "intend," "goal," "expect," and similar expressions may identify
forward-looking statements. These forward-looking statements represent the
Company's current expectations or beliefs concerning future events. The matters
covered by these statements are subject to certain risks and uncertainties that
could cause actual results to differ materially from those set forth in the
forward-looking statements, including the Company's dependence on timely
development, introduction and customer acceptance of new products, the impact of
competition and price erosion, supply and manufacturing constraints, potential
new orders from customers and other risks and uncertainties. The foregoing list
should not be construed as exhaustive, and the Company disclaims any obligation
subsequently to revise any forward-looking statements to reflect events or
circumstances after the date of such statements or to reflect the occurrence of
anticipated or unanticipated events. The Company wishes to caution readers not
to place undue reliance on any such forward-looking statements, which speak only
as of the date made.
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