Greetings, and welcome to the Frequency Electronics Q2 fiscal 2023 earnings release conference call.
At this time, all participants are in a listen-only mode. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad.
As a reminder, this conference is being recorded. Any statements made by the company during this conference call regarding the future constitute forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements inherently involve uncertainties that could cause actual results to differ materially from the forward-looking statements. Factors that would cause or contribute to such differences are included in the company's press releases and are further detailed in the company's periodic report filings with the Securities and Exchange Commission.
By making these forward-looking statements, the company undertakes no obligation to update these statements for revisions or changes after the date of this conference call. It's now my pleasure to introduce your host, Thomas McClelland, President and Chief Executive Officer.
Hi, good afternoon, everyone.
Although the results for the Q2 are not where we would want them to be, there are significant indicators that we're on the road to recovery. Revenue quarter-over-quarter has increased. Our backlog of approximately $56 million at quarter end is higher than it has been any time in the last eight years, as is the book-to-bill ratio of 2.8. In addition, we've booked $4.4 million of new business already in the Q3.
At the annual meeting, we discussed the satellite industry move to develop systems which utilize a large number of low-cost satellites, which are by design, replaced much more regularly every three to five years rather than the 15-year lifetime required of today's large satellites.
One of our key customers, large government satellite prime contractor, has communicated that they experienced 15% growth in satellite business over the past year, anticipates sustained growth of 10%-15% annually over the coming years.
As a result, is interested in engaging FEI in development of advanced technology appropriate for what they refer to as proliferated low Earth orbit satellite systems, often referred to as large systems of small satellites. We're experiencing similar overtures from other satellite prime contractors, all of which bodes well for our future space business prospects. All that being said, we still struggle with supply chain issues, persistent inflation, but in both cases, signs of easing are beginning to appear.
Continued effort is required to navigate the changing economic and geopolitical environment, but we are confident that we're progressing in a positive direction and look forward to a dramatic improvement in results.
The company is committed to moving towards sustained profitability and cash generation in the near future. We remain debt-free, and our strong balance sheet allows us to pay the special dividend discussed in a separate press release today, while still maintaining the ability to invest for future growth opportunities.
Okay.
I'd now like to turn things over to the Chief Financial Officer, Steve Bernstein. Go ahead, Steve.
Thank you, Tom. Good afternoon.
Before I give you the financial report for the Q2 of fiscal 2023, I just wanted to give you a brief explanation relating to the delay in filing the 10-Q as well as the restated fiscal 2022 10-K. During the preparation of the current 10-Q for the period ending October 31, 2022, we realized there was a formula error in the calculation that split contract assets and contract liabilities from a net presentation to a gross presentation. The net number is correct. Our formula didn't split the assets and liabilities of related contracts being calculated as one project for revenue purposes.
For example, if there were 3 related contracts that made up 1 complete project, 2 with a contract asset of $1.5 million each and 1 with a contract liability of $1 million, our formula would have recorded a contract asset of $2 million instead of a contract asset of $3 million and a contract liability of $1 million. As we put together footnote C in the 10-Q to show the effect of the formula change going back in time, it was determined that it was an immaterial error, and that it would be only footnoted to show the effect going back.
It was also determined that when the fiscal year Form 10-K for the period ended April 30, 2022, was filed with restated fiscal year 2021 contract assets and contract liability shown gross as opposed to net, as was shown in the fiscal year 2021 annual report on Form 10-K, the footnote was deficient in that it did not disclose to the reader that the fiscal year 2021 contract assets and contract liabilities changed from net to gross.
As a result, we had to amend the fiscal year 2022 annual report on Form 10-K to advise the public not to rely upon the financial statements as well as the controls on financial reporting. It is a GAAP requirement to disclose the change that were made with regards to the fiscal year 2021 presentation changes in the annual report on Form 10-K for the period ending April 30, 2022.
Management wanted to clarify the situation. Despite the omission to disclose to the reader of the financial statements that the contract assets and contract liabilities were changed from net to gross presentation, management feels that the financial statements were accurate and could be relied upon.
Other than the formula I mentioned above, all of the information a reader of the financial statements needed was in the financials and was completely accurate. The only thing causing this restatement and delay in filing was the correction of a footnote to make the reader aware that the contract assets and contract liabilities was changed on the face of the FY21 balance sheet from net to gross. It was shown gross in the supporting footnotes.
I should also mention that this change does not affect the P&L, working capital, or any other calculation that would have helped in evaluating the financial statements as presented. It is because of these reasons that management of the company feels that the financials were accurate and could be relied upon. I believe I have said enough about this subject.
However, if you want more details, feel free to contact me after the call. Now we'll go into the financials for the Q2 of fiscal 23. For the six months ending October 31, 2022, consolidated revenue was $17.2 million compared to $25.9 million for the same period of the prior fiscal year. The components of revenue are as follows.
Revenue from commercial and U.S. government satellite programs was approximately $7.8 million or 46% compared to $13.3 million or 52% in the same period as the prior fiscal year. Revenues on satellite payload contracts are recognized primarily under the percentage-of-completion method and are recorded only in the FEI-NY segment.
Revenues from non-space U.S. government and DoD customers, which are recorded in both the FEI-NY and FEI-Zyfer segments, were $8 million compared to $10.6 million in the same period of the prior fiscal year, and accounted approximately 47% consolidated revenue compared to 41% for the prior fiscal year. Other commercial and industrial revenues were $1.4 million compared to $2 million in the prior fiscal year. Consolidated revenues increased quarter-over-quarter by approximately $750,000 or 9.1%.
Inter-segment revenues are eliminated in consolidation. For the 6 months ending October 31, 2022, gross margin and gross margin rate decreased as compared to the same period in fiscal year 2022. The decrease in gross margin and gross margin rate was due to increased engineering costs on development Phase programs that experienced particularly complex technical challenges that have since been resolved, minor technical challenges that have been or will be resolved reasonably quickly, and the negative cost impacts of some programs due to supply chain delays.
Gross margin was also affected by underabsorption of costs due to decrease in sales during the 6-month period ending October 31, 2022. For the 6 months ending October 31, 2022 and 2021, SG&A expenses were approximately 23% and 26%, respectively, of consolidated revenue.
The decrease in SG&A expense for the six months ending October 31st, 2022 as compared to the prior year was largely due to decrease in professional fees as well as one-time reductions to stock option expense related to forfeitures and deferred compensation expense.
The company continues to monitor expenses, looking for additional cost-effective reductions going forward. R&D expense for the six months ending October 31st, 2022 decreased to $1.7 million from $2.7 million for the six months ending October 31st, 2021, a decrease of $1 million, and was approximately 10% and 11%, respectively, of consolidated revenue. The R&D decreases for the first half of the fiscal year 2023 are related to focus on projects currently in production Phase. The company plans to continue to invest in R&D in the future to keep its products at the state-of-the-art.
For the six months ending October 31st, 2022, the company reported an operating loss of $5.4 million compared to an operating loss of $1.4 million in the prior year. Operating losses resulted largely from decrease in revenue coupled with the additional costs mentioned previously regarding gross margin. Operating loss improved quarter-over-quarter by approximately $820,000 or 26.5%. Other income consists of primarily investment income derived from the company's holdings of marketable securities.
Earnings on these securities made based on fluctuating interest rates, dividend payout levels, and the timing of purchase sales redemptions or maturities of securities. This yields a pre-tax loss of approximately $5.4 million compared to $1.1 million pre-tax loss for the prior fiscal year.
For the six months ending October 31, 2022, the company recorded a tax provision of $200 compared to $230 for the same period of the prior fiscal year. Consolidated net loss for the six months ending October 31, 2022, was $5.4 million or $0.58 per share compared to $1.1 million net loss or $0.12 per share in the prior fiscal year. Our fully funded backlog at the end of October 2022 was approximately $56 million compared to approximately $40 million for the previous fiscal year end, April 30, 2022.
The company's balance sheet continues to reflect a strong working capital position of approximately $28 million on October 31, 2022, and a current ratio of approximately 3.9 to 1. The company is debt-free.
The company believes that its liquidity is adequate to meet the operating investing needs for the next 12 months and the foreseeable future. I will turn the call back to Tom, and we look forward to your questions soon.
We can now take questions.
Thank you.
Absolutely. Ladies and gentlemen, the floor is now open for questions. If you have any questions or comments, please press star one on your touchtone phone at this time. Pressing star two will remove you from the queue should your question be answered.
Lastly, while posing your question, please pick up your handset if you're listening on speaker phone to provide optimum sound quality. Please hold while we pull for questions.
Once again, that's star one if you have a question or comment.
The first question is coming from Brett Reiss from Janney Montgomery Scott . Your line is live.
Hi, gentlemen. Tom, Steve, can you hear me?
Yeah. Yes.
Great. First question is on the $1 a share special dividend. Could you just give me a sense of how the board decided to do that versus maybe looking on bolt on accretive acquisitions or retaining the money for organic growth initiatives. I suppose a share buyback since the stock is already pretty illiquid that's why that was ruled out. Could you give us some color on that?
Well, I think you kind of hit the nail on the head with respect to share buyback. I think the general conclusion of the board was that this was an appropriate way to essentially provide the same benefit as a share buyback for our shareholders, but in a more effective fashion.
Okay. It was very encouraging to see the backlog, move up so dramatically. Tom, could you give us some sense on the timing on working through the backlog? Is it a certain percentage each quarter, or is it more back-end loaded? Can you give us some color on that?
It's. Yeah. The backlog is not like the backlog is represented by one or two contracts, so I think it's hard to make a general statement in that regard. I think in general, I think the backlog is converted to revenue for a period of roughly two years. There are going to be some cases where it's significantly longer than that and some where it's a little bit shorter.
Okay. What is the composition of the backlog? Is it mainly with your expertise with the quartz clocks? Is it the atomic clocks, or is it another area of your business that gave rise to this increase in the backlog?
Well, I think there are really three things. There's quartz oscillators, atomic clocks, and microwave systems. I actually don't have a quantitative breakout available at this time, but, yeah, those are the primary things. I think it's reasonably well balanced between those three areas.
Okay. A couple of quarters ago, the company was devoting a lot of R&D to reduce the size, weight, power needs, and costs on your clock offerings. Could you describe the progress you've been able to make in that area?
I think we've made considerable progress, but it's something that we still work on. In fact, I just noticed made note of the fact that we got a little over $4 million of new business in the Q3, and a significant chunk of that is a contract which we will utilize the results of some of that R&D to develop smaller devices. I think that's pretty encouraging. There's very much an ongoing effort. We do see this as a direction of the industry at this point, moving to smaller, lower cost systems. We have every intention of being a strong competitor in that environment.
Last question for me, and I'll drop back the queue. Is your employee headcount where you want it to be, based on what you see the your level of business over the next few quarters is, are going to be?
I think we're pretty close to where we need to be. I certainly don't anticipate any further reductions at this point in time.
Great. I'll drop back. Thank you very much for taking all my questions. I appreciate it.
Okay.
Up next, we have Richard Johns, private investor. Richard, please proceed.
Hi. Thank you. First, thank you for the dividend. My first question has to do with your supply chain problems. You've had this difficulty getting parts, and that continued in the Q2. My question is, can you see an end to that? Can you see a getting back to normal in that regard at some point in the foreseeable future?
Well, Yeah, I think we can. What we continue to see, we place orders, and we get extremely long lead times on electronic parts that ordinarily would have lead times of a couple of weeks, maybe a month. We now are quoted lead times of more than a year. In some cases, we've had lead times of 80 weeks. What we're starting to see is that we get promised deliveries 80 weeks out in the future, and then we actually receive the parts in 10 weeks or 15 weeks. We've seen that in a number of cases.
So I think what I start to see is that people are being very conservative in making promises, but things are turning around, and they're able to do much better than those original conservative estimates. That's really encouraging. Nonetheless, we have to plan based on the promises made by our suppliers. We don't see these kind of improvements to deliveries in all cases. It's kind of a mixed bag, but I think it is indicative of the direction that things are going.
Okay. That's, that's great. The additional costs that come as a result of difficulty in getting parts or taking more time to engineer products, do you ever get compensated for that? That is, in your ultimate development or production programs, do your customers give you some wiggle room and help you pay for that?
Well, we, that's something that we're actively pursuing at this point in time with some of our customers. In one particular case, we have gotten some benefit in that regard. In general, that hasn't happened. I think that is something that we are going to be pursuing over the next year or so because, yeah, it's, we've, we have suffered tremendously in this regard.
Okay. You said on one of the two calls that you that you led, Tom, that you were hoping to get back to break even by the end of this fiscal year. I'm wondering if you still think that's likely.
Well, I wouldn't say it's likely that this fiscal year will be break even, but I think the last quarter and going forward after that, we do anticipate being break even or perhaps a little bit better.
Okay. All right. Thank you. Good luck.
Thank you.
Thank you. Okay. Up next, we have Robert Smith with the Center for Performance Investing. Robert, please proceed.
Hi. Good afternoon. Thanks for taking my questions. Tom, the presentation you made at the annual meeting, is that on the website?
It should be. If not, we'll check, but it should be there.
Okay. Thank you. Yeah, I'd be really interested in listening to it. Tom, what kind of a time frame period do you think you'd need to make your own personal imprint on leadership at the company? I mean, you've been at the helm for a relatively short while. You have a wealth of experience with the company, and I assume you're attempting to reposition the company into stronger growth markets. I'm wondering how you feel about this.
I think, in some ways I'm leaving an imprint, already. They're not very visible in the financial results at this point, but there are a lot of things going on, a lot of changes, that have been made. So I think it's kind of a mixed answer. There are some things that are evident already, and there are some things that are going to take a couple of years. We have, we're pursuing, new products and, things, and, those are things that aren't going to develop instantaneously.
There are some things we're working on, and we think, we're going to have some prototype products in 2025 timeframe to 2026 timeframe. I guess, really the summary answer is, there's imprints happening continuously between the present and a couple years out.
The burgeoning small satellite business is really coming to the fore. I assume, I'm not saying you're asleep, but in the past you've certainly not been trying to anticipate or. I assume that this is a really important shift that you're trying to take the company or direction.
Yeah. It's, it is in some sense, but I will say we don't we don't believe that the large satellites are going to completely disappear anytime soon.
Yeah, I agree to that. Sure.
You don't want to abandon that business. In fact, there are signs of growth in that business also, looking to the near future. Yeah, we do feel that the small satellite business is where the future will go. I think the thing, and I've said this before the question is what does small satellite really mean? There are satellites the size of a basketball and even smaller that have been launched recently, and then there are people that call satellites that are 100 times bigger than that, which are also considered small satellites. So that's.
Mm-hmm.
That's really the challenge for us, is to find where the sweet spot is and where things really end up. I think there are an awful lot of these small satellites, many of which get launched up into space and never operate even for a minute or two. In fact, as part of the Artemis launch, there were some satellites launched at the same time that never functioned properly. So there's evidence that you can't just make things cheaper and cheaper and smaller and smaller and get away with it. There are challenges in space. There's radiation. There's all kind of environmental things that need to be taken into account.
That's what we're really trying to do is make sure that we steer toward the sweet spot in the future. I think.
Mm-hmm.
We have some pretty good ideas of where that will be, but.
That makes sense. Looking at the revenue model, do you have a guesstimate as to what kind of volume you have to generate to reach breakeven considering gross margins?
You want to answer that one, Steve?
We have a model. I don't want to really forecast the future yet, but based on what we see, what we have in-house in our backlog and everything else, we believe based on product mix and everything else going, like Tom said, in the second, the Q4, we should be heading in that direction there.
Heading in the direction for sure. Okay, thanks, much, and good luck going forward. Happy holidays.
All right. Thank you. You too.
Once again, if there are any remaining questions or comments, please press star 1 on your touchtone phone. Up next, we have Michael Eisner, Private Investor. Michael, please proceed.
Thank you. The $56 million in backlog, was some of that classified? There wasn't many news releases recently about contracts.
We don't have any classified contracts.
All right. That's fine.
None, of that's classified.
You said right now, technically up to $60 million in backlog 'cause that $4.4 came in after October 31st?
Yeah.
All right.
Yes.
That's good. How many employees do you have all over?
We have about 180 employees, considering all of the.
California and New Jersey also, total 180?
It's 180 between Long Island, New Jersey, and California.
You went down a drop. I think you did. Did you move more people to from California to New York?
No. No, we did not.
All right. Where are we with GPS IIIF?
We have actually just completed the qualification testing of an engineering model. In fact, we have also completed, as part of that, we needed to do 140 days stability test, and we have successfully completed that also. We have also delivered an engineering model, which is slated to fly on one of the GPS III satellites. In a they have an extra slot on the satellite for extra atomic clock, and our clock will be flying in that slot. I don't remember the exact schedule for that satellite at this point in time, but we have heard word that everything is good, and I believe that the satellite is all bundled up and ready to go.
It's just a question of when it will actually launch.
That would be on GPS III, not the GPS IIIF?
That's correct. Yes, that that, there's a goal for everybody on the program. This is seen as an important step in everybody having confidence in our clock as a primary clock on the satellites. There's an effort to get this inserted as early as possible.
The IIIF is, like, the longest, biggest contract, right?
Yeah.
That would take years.
Yes. It'll take a few years to. I think there are 22 GPS IIIF satellites. I don't believe all of them have been released at this point in time.
There were GPS III, there was, like, 10, right?
Yes.
It's a total of, like, 32.
Yeah.
You're getting on the final of the GPS III.
Yes.
All right, one more question. I think you mentioned last quarter, some of the companies were buying more parts up front.
Uh-huh.
Something to that effect. Are they continuing to do that?
Well, we, I don't want to speak for other companies, but we're doing that.
That's what I mean. This way you won't be short parts.
Yeah. well it's a challenge because we don't want to just build up a huge inventory of parts. On the other hand, it makes sense given the long lead times to judiciously build up some inventory of parts that we commonly use. We're definitely pursuing that.
Yeah, I think this, you commented like if they didn't give you the right part, it would take like a year to get the new part or something. I think that's what you mentioned or mentioned last time.
Yes.
That's it, yeah. Are the overruns over with? You in good shape there?
We're definitely finishing up the development on a couple of the programs. Yeah, we anticipate that the overruns are over or nearly over on those. Yeah.
All right. I would assume you think everything's going good if you paid the dividend.
We're certainly pretty bullish about the future.
That's right. I'm glad to hear that. This, I think you said this is the, something like in 1st time in 8 years, the, that you have this kind of backlog.
Yes.
In the release. All right. Sir, thank you for your time.
You're welcome.
Okay. The next question is coming from Frank Wisneski, Private Investor. Frank, please proceed.
Hi. Thanks. Follow up on the inventory question. Well, it was pretty clear that the supply chain issues and other issues contributed to that. What do you see as but it's still a very large number almost $20 million in inventories, so returns are pretty poor. On an ongoing basis, without any supply chain uncertainties, what do you think your inventory turns should be? 'Cause you have a lot of cash obviously tied up in that.
Steve.
Right. We look and manage inventory. The problem is sometimes we use it, later on as we get repeat programs.
you have minimum buys and various other things that affect the growth of the inventory. Yes, it stays a little bit higher, but the end result is a lot of it gets reused on the next generation of things and things of that nature.
Okay. You wouldn't see any particular change in the inventory turn ratio?
Because of the length of the programs and stuff, probably not or not significant.
Okay. Could you, could you update us a little bit on Zyfer? What's, what's happening out there as far as their outlook for business?
I think their outlook is quite good at this point. We've recently received a large contract, and we have a couple more in the pipeline that look very promising. I think we've gone through a challenging period with Zyfer, but I think things look really pretty good right now.
Good. In the past, there's been some classified work out there, haven't there?
Classified work at Zyfer?
At Zyfer, yeah.
Yeah. Well, I think the Zyfer, they manufacture the hardware that takes advantage of that utilizes GPS receivers. So there are GPS receivers that are able to utilize the encrypted messages, military messages. So there's some classified activity that goes on related to that. It's not that Zyfer is working on overall classified programs.
Okay. One final question. The moves you've made since you've become interim have been very favorable. Could you update us on what the status is of a non-interim, either you or someone else, as CEO?
Well, i I don't know that that's really for me to say. I think that it's my understanding that the board is not actively looking for a replacement for me. I don't have any intentions of going anywhere or doing anything different at this point in time. I think that I have every intention of being here certainly for the next three to five years.
Well, losing the interim designation, I mean, heights the bar, no?
Yeah. Well, yes. We'll see.
All right. Thank you very much. Have a good holiday.
You too. Thank you.
One-
Okay, the next question is coming from Bert Cole, Private Investor. Bert, please proceed.
Yes. Thank you very much. Thanks for taking the call.
The question that I have really relates to our board and the dividend that we're giving. While, while I certainly appreciate it, I have some questions as relating to how our board is performing and that no one on this call seems to really be concerned. Our backlog is $56 million, up from $40 million. Additionally, we shift a scary $8 million over the 6 months. All of the press releases that go through the board's approval and so on, I haven't seen any, telling an industry and a public at large that the corporation is, in fact, having increased bookings.
We took this scary $8 million contract and that one and so on and so forth to promote our corporation as it relates to a stock price and the value of our corporation. That's a board responsibility, which to me, and maybe others, they've certainly failed. The next thing that concerns me, and it only occurs an hour ago, is the release of a $1 a share dividend. While I certainly appreciate it, the corporation is losing tons of money, and it includes board members that probably own 20% or 25% or control 20% or 25% of the company's stock. Look at the reward they're getting for a corporation that's lost half its value in the last couple of years.
I'm really upset of the performance of an overseeing board that determines a temporary CEO or not a temporary CEO or whatever is going on. No one on this call seems to be concerned that our board of directors is rewarding itself in certain instances or the shareholders that they represent, and the corporation is just giving up on losing money, certainly perhaps for the next balance of this fiscal year, and hopefully it'll turn around next year. While I'm an extremely small shareholder, I guess you can tell by my anger and my conversation today that I'm more than upset over the performance of individuals that control and run the management, so to speak, of our business.
Gentlemen, I only wish you a healthy new year, and next year, fiscal and calendar should be better for all of us. Thank you for accepting my call.
Okay, no comment at this time.
Okay, we have no further questions in queue. I'd like to turn the floor back to Tom for any closing remarks.
Okay. I'd just like to wish everyone a very happy holidays and good health and yeah. That's it. Thank you.
Thank you, ladies and gentlemen. This does conclude today's conference call. You may disconnect your phone lines at this time and have a wonderful day. Thank you for your participation.