ESP 10-Q
Espey Mfg & Electronics Corp (ESP)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended
Commission File Number
(Exact name of registrant as specified in its charter)
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(Address of principal executive offices)
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
☒
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
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Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company:
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☐ Large accelerated filer |
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☐ Accelerated filer |
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Indicate by check mark whether the registrant is a shell company.
☐ Yes
At November 11, 2021, there were
ESPEY MFG. & ELECTRONICS CORP.
Quarterly Report on Form 10-Q
I N D E X
PART I: FINANCIAL INFORMATION
ESPEY MFG. & ELECTRONICS CORP.
Balance Sheets
September 30, 2021 (Unaudited) and June 30, 2021
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September 30, 2021 |
June 30, 2021 | |||||||
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ASSETS | ||||||||
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Cash and cash equivalents |
$ |
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$ |
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Investment securities |
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Trade accounts receivable, net of allowance of $ |
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Income tax receivable |
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Inventories: | ||||||||
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Raw materials |
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Work-in-process |
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Costs related to contracts in process |
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Total inventories |
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Prepaid expenses and other current assets |
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Total current assets |
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Property, plant and equipment, net |
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Total assets |
$ |
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$ |
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LIABILITIES AND STOCKHOLDERS' EQUITY | ||||||||
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Accounts payable |
$ |
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$ |
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Accrued expenses: | ||||||||
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Salaries and wages |
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Vacation |
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ESOP payable |
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Other |
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Payroll and other taxes withheld |
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Contract liabilities |
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Total current liabilities |
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Deferred tax liabilities |
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Total liabilities |
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Commitments and contingencies (See Note 5) | ||||||||
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Common stock, par value $. per share | ||||||||
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Authorized |
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Capital in excess of par value |
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Accumulated other comprehensive loss |
( |
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( |
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Retained earnings |
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Less: Unearned ESOP shares |
( |
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Cost of in treasury as of September 30, 2021 and June 30, 2021 |
( |
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Total stockholders’ equity |
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Total liabilities and stockholders' equity |
$ |
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$ |
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The accompanying notes are an integral part of the financial statements.
ESPEY MFG. & ELECTRONICS CORP.
Statements of Comprehensive Income (Unaudited)
Three Months Ended September 30, 2021 and 2020
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September 30, 2021 |
September 30, 2020 | |||||||
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Net sales |
$ |
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$ |
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Cost of sales |
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Gross profit |
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Selling, general and administrative expenses |
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Operating income |
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Other income | ||||||||
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Interest income |
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Other |
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Total other income |
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Income before provision for income taxes |
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Provision for income taxes |
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Net income |
$ |
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$ |
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Other comprehensive income, net of tax | ||||||||
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Unrealized loss on investment securities |
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( |
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Total comprehensive income |
$ |
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$ |
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Net income per share: | ||||||||
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Basic |
$ |
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$ |
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Diluted |
$ |
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$ |
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Weighted average number of shares outstanding: | ||||||||
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Basic |
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Diluted |
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Dividends per share: |
$ |
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$ |
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The accompanying notes are an integral part of the financial statements.
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Espey Mfg. & Electronics Corp. Statements of Changes in Stockholders' Equity (Unaudited) Three Months Ended September 30, 2021 |
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Accumulated |
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Capital in |
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Other |
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Unearned |
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Total | |||||||||||||||||
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Outstanding |
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Common |
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Excess of |
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Comprehensive |
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Retained |
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Treasury |
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Treasury |
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ESOP |
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Stockholders’ | ||||||||||||||
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Shares |
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Amount |
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Par Value |
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Loss |
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Earnings |
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Shares |
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Amount |
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Shares |
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Equity | ||||||||||||
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Balance as of June 30, 2021 |
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$ |
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$ |
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$ |
( |
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$ |
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$ |
( |
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$ |
( |
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$ |
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Comprehensive income: |
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Net income |
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Other comprehensive income, net of tax of $ |
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Total comprehensive income |
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Stock-based compensation |
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Balance as of September 30, 2021 |
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$ |
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$ |
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$ |
( |
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$ |
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$ |
( |
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$ |
( |
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$ |
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The accompanying notes are an integral part of the financial statements.
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Espey Mfg. & Electronics Corp. Statements of Changes in Stockholders' Equity Three Months Ended September 30, 2020 |
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Accumulated |
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Capital in |
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Other |
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Unearned |
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Total | |||||||||||||||||
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Outstanding |
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Common |
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Excess of |
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Comprehensive |
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Retained |
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Treasury |
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Treasury |
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ESOP |
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Stockholders’ | ||||||||||||
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Shares |
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Amount |
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Par Value |
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(Loss) |
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Earnings |
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Shares |
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Amount |
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Shares |
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Equity | ||||||||||||
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Balance as of June 30, 2020 |
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$ |
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$ |
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$ |
( |
) |
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$ |
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$ |
( |
) |
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$ |
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$ |
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Comprehensive income: |
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Net income |
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Other comprehensive loss, net of tax of $ ( |
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( |
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Total comprehensive income |
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Stock-based compensation |
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Dividends declared on common stock $ |
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Balance as of September 30, 2020 |
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$ |
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$ |
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$ |
( |
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$ |
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$ |
( |
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$ |
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$ |
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The accompanying notes are an integral part of the financial statements.
ESPEY MFG. & ELECTRONICS CORP.
Statements of Cash Flows (Unaudited)
Three Months Ended September 30, 2021 and 2020
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September 30, 2021 |
September 30, 2020 | |||||||
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Cash Flows from Operating Activities: | ||||||||
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Net income |
$ |
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$ |
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Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
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Stock-based compensation |
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Depreciation |
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ESOP compensation expense |
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Deferred income tax benefit |
( |
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( |
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Changes in assets and liabilities: | ||||||||
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Decrease in trade accounts receivable |
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Decrease (increase) in income taxes receivable |
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( |
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Decrease (increase) in inventories |
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( |
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Decrease (increase) in prepaid expenses and other current assets |
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( |
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Decrease in accounts payable |
( |
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( |
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Increase in accrued salaries and wages |
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Decrease in vacation accrual |
( |
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( |
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Increase (decrease) in other accrued expenses |
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( |
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Increase in payroll and other taxes withheld |
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Increase in contract liabilities |
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Decrease in income taxes payable |
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( |
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Net cash provided by operating activities |
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Cash Flows from Investing Activities: | ||||||||
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Additions to property, plant and equipment |
( |
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( |
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Purchase of investment securities |
( |
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( |
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Proceeds from sale/maturity of investment securities |
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Net cash (used in) provided by investing activities |
( |
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Cash Flows from Financing Activities: | ||||||||
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Dividends on common stock |
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Net cash used in financing activities |
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Increase in cash and cash equivalents |
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Cash and cash equivalents, beginning of period |
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Cash and cash equivalents, end of period |
$ |
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$ |
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Supplemental Schedule of Cash Flow Information: | ||||||||
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Income taxes paid |
$ |
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$ |
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Supplemental Schedule of Non-cash Financing Activities: | ||||||||
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Accrual of dividends |
$ |
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$ |
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The accompanying notes are an integral part of the financial statements.
ESPEY MFG. & ELECTRONICS CORP.
Notes to Financial Statements (Unaudited)
Note 1. Basis of Presentation
In the opinion of management the accompanying unaudited financial statements contain all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the results for such periods. The results for any interim period are not necessarily indicative of the results to be expected for the full fiscal year. Certain information and footnote disclosures normally included in financial statements prepared in accordance with United States generally accepted accounting principles have been condensed or omitted. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of assets and liabilities. On an ongoing basis, we evaluate our estimates and judgments, including those related to revenue recognition, inventories, income taxes, and stock-based compensation. Specific to inventories, including work-in-process and contracts in process, management evaluates, quarterly, those estimates used in determining the cost to complete for each contract on Espey Mfg. & Electronics Corp. (the “Company”) sales backlog. The change in estimates may affect the reported amount of inventories and gross profit in the current or a future period. Management bases its estimates on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying amounts of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. These financial statements should be read in conjunction with the Company's most recent audited financial statements included in its report on Form 10-K for the year ended June 30, 2021. Certain reclassifications may have been made to the prior year financial statements to conform to the current year presentation.
Note 2. Investment Securities
Accounting Standards Codification (“ASC”) 820 establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:
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Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date. | |
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Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data. | |
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Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability. |
The carrying amounts of financial instruments, including cash and cash equivalents, short term investments, accounts receivable, accounts payable and accrued expenses, approximated fair value as of September 30, 2021 and June 30, 2021 because of the immediate or short-term maturity of these financial instruments.
Investment securities at September 30, 2021 and June 30, 2021 consist of certificates of deposit which are classified as available-for-sale securities and have been determined to be level 1 assets. The cost, gross unrealized gains, gross unrealized losses and fair value of available-for-sale securities by major security type at September 30, 2021 and June 30, 2021 are as follows:
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Gross |
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Gross |
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Amortized |
Unrealized |
Unrealized |
Fair | ||||||||||||
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Cost |
Gains |
Losses |
Value | ||||||||||||
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September 30, 2021 |
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Certificates of deposit |
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$ |
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$ |
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$ |
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$ |
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June 30, 2021 | ||||||||||||||||
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Certificates of deposit |
$ |
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$ |
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$ |
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$ |
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The portfolio is diversified and highly liquid and primarily consists of investment grade fixed income instruments. At September 30, 2021, the Company did not have any investments in individual securities that have been in a continuous loss position considered to be other than temporary.
As of September 30, 2021 and June 30, 2021, the remaining contractual maturities of available-for-sale securities were as follows:
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Years to Maturity |
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Less than |
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One to |
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One Year |
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Five Years |
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Total |
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September 30, 2021 |
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Available-for-sale |
$ |
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$ |
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$ |
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June 30, 2021 |
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Available-for-sale |
$ |
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$ |
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$ |
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Note 3. Net Income per Share
Basic net income per share excludes dilution and is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted net income per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the income of the Company. The computation of diluted net income per share, excluded options to purchase
Note 4. Stock Based Compensation
The Company follows ASC 718 in establishing standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services, as well as transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments. ASC 718 requires that the cost resulting from all share-based payment transactions be recognized in the financial statements based on the fair value of the share-based payment. ASC 718 establishes fair value as the measurement objective in accounting for share-based payment transactions with employees, except for equity instruments held by employee share ownership plans.
Total stock-based compensation expense recognized in the statements of comprehensive income for the three-month periods ended September 30, 2021 and 2020 was $
As of September 30, 2021, there was approximately $
The Company has one employee stock option plan under which options or stock awards may be granted, the 2017 Stock Option and Restricted Stock Plan (the "2017 Plan"). The Board of Directors may grant options to acquire shares of common stock to employees and non-employee directors of the Company at the fair market value of the common stock on the date of grant. The maximum aggregate number of shares of Common Stock subject to options or awards to non-employee directors is
ASC 718 requires the use of a valuation model to calculate the fair value of stock-based awards. The Company has elected to use the Black-Scholes option valuation model, which incorporates various assumptions including those for dividend yield, volatility, expected life and interest rates.
The table below outlines the weighted average assumptions that the Company used to calculate the fair value of each option award for the three months ended September 30, 2021. There were no options awarded for the three months ended September 30, 2020.
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September 30, 2021 | |||
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Dividend yield |
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Company’s expected volatility |
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Risk-free interest rate |
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Expected term |
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Weighted average fair value per share of options granted during the period |
$ |
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Effective March 9, 2021, the Company suspended the payment of its regular quarterly dividend. For the three months ended September 30, 2020, the Company declared cash dividends of $
The following table summarizes stock option activity during the three months ended September 30, 2021:
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Employee Stock Options Plan | ||||||||||||||||
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Weighted | ||||||||||||||||
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Number of |
Weighted |
Average | ||||||||||||||
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Shares |
Average |
Remaining |
Aggregate | |||||||||||||
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Subject |
Exercise |
Contractual |
Intrinsic | |||||||||||||
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to Option |
Price |
Term |
Value | |||||||||||||
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Balance at July 1, 2021 |
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$ |
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Granted |
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$ |
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Exercised |
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— | ||||||||||||||
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Forfeited or expired |
( |
$ |
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— | |||||||||||||
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Outstanding at September 30, 2021 |
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$ |
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$ |
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Vested or expected to vest at September 30, 2021 |
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$ |
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$ |
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Exercisable at September 30, 2021 |
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$ |
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$ |
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The aggregate intrinsic value in the table above represents the total pretax intrinsic value (the difference between the closing sale price of the Company’s common stock as reported on the NYSE American on September 30, 2021 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders if all option holders had exercised their options on September 30, 2021. This amount changes based on the fair market value of the Company’s common stock. The intrinsic value of options exercised during the three months ended September 30, 2021 and 2020 was $
The following table summarizes changes in non-vested stock options during the three months ended September 30, 2021:
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Weighted Number |
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Average | ||||
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of Shares Subject to Option |
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Grant Date Fair Value (per Option) | ||||
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Non-vested at July 1, 2021 |
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$ |
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Granted |
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$ |
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Vested |
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Forfeited or expired |
( |
$ |
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Non-vested at September 30, 2021 |
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$ |
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Note 5. Commitments and Contingencies
The Company from time to time, enters into standby letters of credit agreements with financial institutions primarily relating to the guarantee of future performance on certain contracts. Contingent liabilities on outstanding standby letters of credit agreements aggregated to
We are party to various litigation matters and claims arising from time to time in the ordinary course of business. While the results of such matters cannot be predicted with certainty, we believe that the final outcome of such matters will not have a material adverse effect on our business, financial condition, results of operations or cash flows. Currently, there are no matters pending.
Note 6. Revenue
The Company follows ASC 606 “Revenue from Contracts with Customers” to determine the recognition of revenue. This standard requires entities to assess the products or services promised in contracts with customers at contract inception to determine the appropriate unit at which to record revenues. Revenue is recognized when control of the promised products or services is transferred to customers at an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those products or services.
Significant judgment is required in determining the satisfaction of performance obligations. Revenues from our performance obligations are satisfied over time using the output method which considers the appraisal of results achieved and milestones reached or units delivered based on contractual shipment terms, typically shipping point. Revenue is recognized when, or as, the customer takes control of the product or services. The output method best depicts the transfer of control to the customer as the output method represents work completed. Control is typically transferred to the customer at the shipping point as the Company has a present right to payment, the customer has legal title to the asset, the customer has the significant risks and rewards of ownership of the asset, and in most instances the customer has accepted the asset.
Total revenue recognized for the three months ended September 30, 2021 based on units delivered was $
The Company offers a standard one-year product warranty. Product warranties offered by the Company are classified as assurance-type warranties, which means, the warranty only guarantees that the good or service functions as promised. Based on this, the provided warranty is not considered to be a distinct performance obligation. The impact of variable consideration has been considered but none identified which would be required to be allocated to the transaction price as of September 30, 2021. Our payment terms are generally 30-60 days.
Contract liabilities were $
The Company’s backlog at September 30, 2021 totaling approximately $
Note 7. Recently Issued Accounting Standards
Recent Accounting Pronouncements Adopted
In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.” ASU 2019-12 amends ASC 740 to simplify the accounting for income taxes by removing certain exceptions for investments, intraperiod allocations and interim calculations, and adding guidance to reduce complexity in the accounting standard under the FASB’s simplification initiative. ASU 2019-12 is effective for public entities for fiscal years beginning after December 15, 2020. Upon adoption, the amendments in ASU 2019-12 should be applied on a prospective basis to all periods presented. The Company adopted the new guidance under ASU 2019-12 in the first quarter of 2021 and removed the exception for intraperiod allocations from its interim period tax provision calculation, accordingly. The removal of the exception for intraperiod allocations did not have a material impact on the Company.
Note 8. Employee Stock Ownership Plan
The Company sponsors a leveraged employee stock ownership plan (the “ESOP”) that covers all nonunion employees who work
The Board of Directors of the Company had approved a purchase price per share equal to the lesser of the trading value on the day of closing or the lowest price listed in the valuation established by the independent valuation firm plus $0.25. The valuation identified a range of $
In making the sale, the Company relied on the exemption from registration under Section 4(2) of the Securities Act of 1933, as amended, because the shares sold were offered only to the ESOP.
After giving effect to the transaction, the ESOP owned
The Company makes
The ESOP shares as of September 30, 2021 and 2020 were as follows:
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The Company may at times be required to repurchase shares at the ESOP participants’ request at the shares’ fair market value. During the three months ended September 30, 2021 and 2020, the Company did not repurchase shares previously held by the ESOP.
The ESOP allows for eligible participants to take whole share distributions from the Plan on specific dates in accordance with the provision of the Plan. Share distributions from the ESOP during the three months ended September 30, 2021 and 2020 totaled
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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Overview
Espey Mfg. & Electronics Corp. (“Espey”) 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. 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 American 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 9001:2015 and AS9100:2016 certified. 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, painting services, and development of automatic testing equipment. Espey 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 and testing process are subcontracted to vendors from time to time.
The Company markets its products primarily through its own direct sales organization and through outside sales representatives. Business is solicited from large industrial manufacturers and defense companies, the government of the United States, foreign governments and major foreign electronic equipment companies. Espey is also on the eligible list of contractors with the United States Department of Defense. We pursue opportunities for prime contracts directly with the Department of Defense and are generally automatically solicited by Department of Defense procurement agencies for their needs falling within the major classes of products produced by the Company. Espey contracts with the Federal Government under cage code 20950 as Espey Mfg. & Electronics Corp.
There is competition in all classes of products manufactured by the Company, ranging from divisions of the largest electronic companies, to 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.
Our business is not seasonal. However, the concentration of our business in the rail industry, and in equipment for military applications and industrial applications, and our customer concentrations expose us to on-going associated risks. These risks include, without limitation, fluctuating requirements for power supplies in the rail industry, dependence on appropriations from the United States Government and the governments of foreign nations, program allocations, the potential of governmental termination of orders for convenience, and the general strength of the industry sectors in which our customers transact business.
Future procurement needs supporting the military and the rail industry continue to drive competition. Many of our competitors have invested, and they continue to invest aggressively in upfront product design costs and accept lower profit margins as a strategic means of maintaining existing business and enhancing market share. This continues to put pressure on the pricing of our current products and has lowered our profit margins on some of our new business. In order to compete effectively for new business, in some cases we have invested in upfront design costs, thereby reducing initial profitability as a means of procuring new long-term programs. As part of our strategy, we adjust our pricing in order to achieve a balance which enables us both to retain repeat programs while being more competitive in bidding on new programs.
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We continue to place an emphasis on securing “build to print” opportunities, which will allow production work to go directly to the manufacturing floor, limiting the impact on our engineering staff. This allows us to keep our manufacturing team busy while the products are being developed in-house to production.
The total backlog at September 30, 2021 was approximately $75.2 million, which included approximately $48 million from four significant customers, compared to $62 million at September 30, 2020, which included $24.8 million from three significant customers. The Company’s total backlog represents the estimated remaining sales value of work to be performed under firm contracts. The funded portion of this backlog at September 30, 2021 is approximately $74.6 million. This includes items that have been authorized and appropriated by Congress and/or funded by the customer. The unfunded backlog at September 30, 2021 is approximately $0.6 million and represents two firm multi-year orders from a single customer for which funding has not yet been appropriated by Congress or funded by our customer. While there is no guarantee that future budgets and appropriations will provide funding for individual programs, management has included in unfunded backlog only those programs that it believes are likely to receive funding based on discussions with customers and program status. The unfunded backlog at September 30, 2020 was $0.5 million, comprised of one of the same multi-year orders from a single customer. Contracts are subject to modification, change or cancellation, and the Company accounts for these changes as they are probable and estimable. The Company evaluates the impact of any scope modifications and will adjust reserves as information is known and estimable.
Successful conversion of engineering program backlog into sales is largely dependent on the execution and completion of our engineering design efforts. It is not uncommon to experience technical or scheduling delays which arise from time to time as a result of, among other reasons, design complexity, the availability of personnel with the requisite expertise, and the requirements to obtain customer approval at various milestones. Cost overruns which may arise from technical and schedule delays could negatively impact the timing of the conversion of backlog into sales, or the profitability of such sales. We continue to experience technical and schedule delays with our major development programs. The issues causing the delays are being resolved as soon as possible. Engineering programs in both the funded and unfunded portions of the current backlog aggregate $7.6 million.
The growth and continuing demand in the power electronics industry across multiple manufacturing sectors has created volatility and unpredictability in the availability of certain electronic components and, in some cases, continues to create industry shortages. These shortages have and will likely continue to impact our ability to support our customer’s schedule demands, as lead times for these components have, in some instances, increased from readily available to waiting times of nearly a year or more. In addition, we continue to incur delays in material deliveries from some company suppliers due to the COVID-19 pandemic. We continue to work with our customers to mitigate any adverse impact upon our ability to service their requirements. These issues, if they persist, may cause us to miss projected delivery dates.
Management expects revenues in fiscal year 2022 to be higher than revenues during fiscal year 2021 and expects to generate net income per share as compared to the net loss per share realized during fiscal year 2021. These expectations are driven by orders already in our sales backlog.
Management continues to closely monitor the impact of evolving workforce and supplier constraints, primarily from the effects from the pandemic, to our planned delivery schedules. We continue to experience disruptions from workforce absences due to COVID-19 illnesses and direct contact exposures, resulting in self-isolating protocols to be followed to ensure the safety of company personnel. In addition, we are experiencing disruptions from workforce turnover, as local businesses emerging from the pandemic compete for personnel. Many of our positions require certain skillsets resulting in longer than average time to fill position vacancies. Some company suppliers continue to incur similar disruptions, in addition to incurring longer lead times on certain raw materials.
The Company currently expects new orders in fiscal 2022 to approximate the $38.5 million in new orders received in fiscal year 2021. As market factors including competition and product costs impact gross profit margins, management will continue to evaluate our sales strategy, employment levels, and facility costs.
New orders received in the first three months of fiscal year 2022 were approximately $17.1 million as compared to $14.3 million new orders received in the first three months of fiscal 2021. It is presently anticipated that a minimum of $30.5 million of orders comprising the September 30, 2021 backlog will be filled during the fiscal year ending June 30, 2022 subject, however, to the impact of the factors identified above. The minimum of $30.5 million does not include any shipments, which may be made against orders subsequently received during the fiscal year ending June 30, 2022.
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In addition to the backlog, the Company currently has outstanding opportunities representing approximately $77 million in the aggregate as of November 4, 2021 for both repeat and new programs. 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 of the anticipated orders described above, many of which are subject to allocations of the United States defense spending and factors affecting the defense industry.
A significant portion of the Company’s business is the production of military and industrial electronic equipment for use by the U.S. and foreign governments and certain industrial customers. Net sales to five significant customers represented 78% of the Company’s total sales for the three-month period ended September 30, 2021. Net sales to four significant customers represented 61.9% of the Company’s total sales for the three-month period ended September 30, 2020. Improvement has been made in customer concentrations recently. However, this high customer concentration level continues to present significant risk. A loss of one of these customers or programs related to these customers, or customer requested deferrals of product delivery could significantly impact the Company.
Historically, a small number of customers have accounted for a large percentage of the Company’s total sales in any given fiscal year. Management continues to pursue 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. Given the nature of our business, we believe our existing sales order backlog is fairly diversified in terms of customers and the category of products on order.
Critical Accounting Policies and Estimates
Management believes our most critical accounting policies include revenue recognition and cost estimation on our contracts.
Revenue
The majority of our net sales is generated from contracts with industrial manufacturers and defense companies, the Department of Defense, other agencies of the government of the United States and foreign governments for the design, development and/or manufacture of products. We provide our products and design and development services under fixed-price contracts. Under fixed-price contracts we agree to perform the specified work for a pre-determined price. To the extent our actual costs vary from the estimates upon which the price was negotiated, we will generate more or less profit or could incur a loss.
We account for a contract after it has been approved by all parties to the arrangement, the rights of the parties are identified, payment terms are identified, the contract has commercial substance, and collectability of consideration is probable. We assess each contract at its inception to determine whether it should be combined with other contracts. When making this determination, we consider factors such as whether two or more contracts were negotiated and executed at or near the same time, or were negotiated with an overall profit objective.
We evaluate the products or services promised in each contract at inception to determine whether the contract should be accounted for as having one or more performance obligations. Significant judgment is required in determining performance obligations. We determine the transaction price for each contract based on the consideration we expect to receive for the products or services being provided under the contract. The transaction price for each performance obligation is based on the estimated standalone selling price of the product or service underlying each performance obligation. Transaction prices on our contracts subject to the Federal Acquisition Regulations (FAR) are typically based on estimated costs plus a reasonable profit margin.
We recognize revenue using the output method based on the appraisal of results achieved and milestones reached or units delivered based on contractual shipment terms, typically shipping point.
Inventory
Raw materials are valued at the lower of cost (average cost) or net realizable value. Balances for slow-moving and obsolete inventory are reviewed on a regular basis by analyzing estimated demand, inventory on hand, sales levels, market conditions, and other information and reduce inventory balances based on this analysis.
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Inventoried work relating to contracts in process and work in process is valued at actual production cost, including factory overhead incurred to date. Contract costs include material, subcontract costs, labor, and an allocation of overhead costs. Work in process represents spare units and parts and other inventory items acquired or produced to service units previously sold or to meet anticipated future orders. Provision for losses on contracts is made when the existence of such losses becomes probable and estimable. The provision for losses on contracts is included in other accrued expenses on the Company’s balance sheet. The costs attributed to units delivered under contracts are based on the estimated average cost of all units expected to be produced. Certain contracts are expected to extend beyond twelve months.
The estimation of total 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, the change is reflected in current period earnings.
Contract Liabilities
Contract liabilities include advance payments and billings in excess of revenue recognized.
Results of Operations
Net sales for the three months ended September 30, 2021 and 2020 were $7,545,432 and $7,265,515, respectively, a 3.8% increase. The increase in net sales in fiscal year 2022 is primarily due to an increase in magnetics and build to print sales offset, in part, by a decrease in power supply shipments. In general, sales fluctuations within product categories will occur during a comparable fiscal period as the direct result of product mix, influenced by the duration of specific programs and the contractual terms of firm orders placed for product and services under those programs including contract value, scope of work and duration. Deliverables within firm contracts are often subject to delivery schedules which also contributes to sales fluctuations between comparable periods. Internal and external constraints, at times, impact our ability to ship. The impact of the COVID-19 pandemic continues to impact raw material delivery schedules with longer lead times on certain raw materials. In addition, we are experiencing disruptions from workforce turnover, as local businesses emerging from the pandemic compete for personnel. Employee turnover has had a direct impact on our ability to optimally build, test, inspect and ship product. Specific to the current quarter, the increase in sales was the result of contractual timing offset, in part, by internal and external constraints, all discussed above.
In addition, we continued to be constrained by (i) engineering design changes required to meet customer requirements, (ii) certain supplier product non-conformances, (iii) delays in obtaining timely resolutions on issues encompassing build to print customer-owned drawings, and (iv) an increase in lead times for many parts, including certain electronic components due to industry shortages and volatility within the power electronics industry. We are also experiencing an increase in delays with certain supplier deliveries resulting from effects of the COVID-19 pandemic. Engineering, program management, and supply chain personnel are working closely with our customers and suppliers to execute on our past due deliveries and we do not expect this situation to affect future business opportunities.
Gross profits for the three months ended September 30, 2021 and 2020 were $1,353,098 and $1,127,374, respectively. Gross profit as a percentage of sales was approximately 17.9% and 15.5%, for the same periods, respectively. The primary factors in determining the change in gross profit and net income are overall sales levels and product mix. The gross profits on mature products and build to print contracts are typically higher as compared to products which are still in the engineering development stage or in early stages of production. In the case of the latter, the Company can incur what it refers to as “loss contracts,” primarily on engineering design contracts in which the Company invests with the objective of developing future product sales. In any given accounting period the mix of product shipments between higher margin programs and less mature programs, and expenditures associated with loss contracts, has a significant impact on gross profit and net income.
The improvement in gross profit and the gross profit percentage in the three months ended September 30, 2021 as compared to the same period in 2020 resulted primarily from an increase in sales and from product mix mainly attributable to magnetics and build to print shipments. This improvement resulted mostly from higher sales on certain legacy product which typically yields higher margins when compared to sales for the same period last year. This improvement was offset, in part, by increased spending on a specific built to print contract when compared to the same period last year.
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Selling, general and administrative expenses were $994,822 for the three months ended September 30, 2021, an increase of $80,196, compared to the three months ended September 30, 2020. The increase for the three months ended September 30, 2021 as compared to the same period in 2020 relates primarily to the increase in employee compensation costs and an increase in expenses incurred to recruit and fill company-wide position vacancies. These increases were offset, in part, by a decrease in outgoing freight costs due to product mix. Employee compensation costs increased due to the incurred cost associated with the new leveraged ESOP transaction dated December 1, 2020 which had no expense in the comparable year as the prior leveraged ESOP transaction was fully allocated as of June 30, 2020. In addition, expense was incurred for anticipated employee compensation incentives which had no or less expense in the prior year. These increased costs were offset, in part, by a reduction in direct payroll expense incurred for program management personnel due to department restructuring and the timing of those changes.
Other income for the three months ended September 30, 2021 and 2020 was $19,567 and $18,345, respectively. The increase for the three months ended is primarily due to the increase in other income primarily from scrap sales offset, in part, by a decrease in interest income resulting from updated investment strategies which yield lower interest while maintaining higher liquidity. Interest income is a function of the level of investments and investment strategies that generally tend to be conservative.
The Company’s effective tax rate for the three months ended September 30, 2021 was approximately 19.0%, compared to 17.9% for the three months ended September 30, 2020. The effective tax rate in fiscal 2021 and 2020 is less than the statutory tax rate mainly due to the benefit derived from the ESOP dividends paid on allocated shares.
Net income for the three months ended September 30, 2021, was $306,061 or $0.13 per share, basic and diluted, compared to net income of $189,824 or $0.08 per share, basic and diluted, for the three months ended September 30, 2020. The increase in net income in the three months ended resulted from the increase in gross profit offset, in part, by an increase in selling, general and administrative expenses and an increase in the provision for income taxes, all discussed above.
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. Management has available a $3,000,000 line of credit to help fund further growth or working capital needs, if necessary, but does not anticipate the need for any borrowed funds in the foreseeable future. Contingent liabilities on outstanding standby letters of credit agreements aggregated to zero at September 30, 2021 and 2020. The line of credit is reviewed annually in November for renewal by December 1st.
The Company's working capital as of September 30, 2021 and 2020 was $27.9 million and approximately $27.7 million, respectively. The Company may at times be required to repurchase shares at the ESOP participants’ request at the fair market value. During the three months ended September 30, 2021 and 2020, the Company did not repurchase any shares held by the ESOP. Under existing authorizations from the Company's Board of Directors, as of September 30, 2021, management is authorized to purchase an additional $783,460 of Company stock.
The table below presents the summary of cash flow information for the fiscal years indicated:
| Three Months Ended September 30, | ||||||||
| 2021 | 2020 | |||||||
| Net cash provided by operating activities | $ | 1,587,693 | $ | 1,377,711 | ||||
| Net cash (used in) provided by investing activities | (91,691 | ) | 2,290,737 | |||||
| Net cash used in financing activities | — | — | ||||||
Net cash provided by operating activities fluctuates between periods primarily as a result of differences in sales and net income, provision for income taxes, the timing of the collection of accounts receivable, purchase of inventory, and payment of accounts payable. The increase in cash provided by operating activities compared to the prior year primarily relates to the increase in net income and the decrease in inventory purchases offset, in part, by decrease in cash collected from trade receivables. Net cash provided by investing activities decreased in the three months ended September 30, 2021 as compared to the same period in 2020 primarily due to the reinvestment of matured securities when compared to the same period last year. During the three months ended September 30, 2021 and 2020, there was no cash used for financing activities. In the prior year, the dividend declared in the three months ended September 30, 2020 was paid in the subsequent fiscal quarter.
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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 three months ended September 30, 2021 and 2020, the Company expended $45,691 and $19,807, respectively, for plant improvements and new equipment. The Company has budgeted approximately $200,000 for new equipment and plant improvements in fiscal year 2022. Management anticipates that the funds required will be available from current operations.
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, the impact of cyber or other security threats or other disruptions to our business, the impact of the COVID-19 pandemic on the United States economy and our operations 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.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company is a smaller reporting company as defined under Securities and Exchange Commission Rule 12b-2. Pursuant to the exemption available to smaller reporting company issuers under Item 305 of Regulation S-K, quantitative and qualitative disclosures about market risk, the Company is not required to provide the information for this item.
Item 4. Controls and Procedures
(a) The Company's management, with the participation of the Company's chief executive officer and chief financial officer, carried out an evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our chief executive officer and chief financial officer have concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.
(b) There have been no changes in our internal controls over financial reporting during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.
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PART II: Other Information and Signatures
| Item 1. | Legal Proceedings |
We are party to various litigation matters and claims arising from time to time in the ordinary course of business. While the results of such matters cannot be predicted with certainty, we believe that the final outcome of such matters will not have a material adverse effect on our business, financial condition, results of operations or cash flows. Currently, there are no matters pending.
| Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds |
| (a) | Securities Sold |
| (c) | Securities Repurchased |
As of September 30, 2021 the Company can repurchase up to $783,460 of its common stock pursuant to an ongoing plan authorized by the Board of Directors. During the quarter ended September 30, 2021 no shares were repurchased.
| Item 3. | Defaults Upon Senior Securities |
None
| Item 4. | Mine Safety Disclosures |
Not applicable
| Item 5. | Other Information |
None
| Item 6. | Exhibits |
| 32.1 | Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 32.2 | Certification of the Principal Financial Officer and Executive Vice President pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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S I G N A T U R E S
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| ESPEY MFG. & ELECTRONICS CORP. | |
| /s/ Patrick Enright Jr. | |
| Patrick Enright Jr. | |
| President and Chief Executive Officer | |
| /s/David O’Neil | |
| David O’Neil | |
| Principal Financial Officer and Executive Vice President |
Date: November 15, 2021
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