ITEM
2.
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MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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Business
Overview
Microwave
Filter Company, Inc. operates primarily in the United States and principally in one industry. The Company extends credit to business
customers based upon ongoing credit evaluations. Microwave Filter Company, Inc. designs, develops, manufactures and sells electronic
filters, both for radio and microwave frequencies, to help process signal distribution and to prevent unwanted signals from disrupting
transmit or receive operations. Markets served include cable television, television and radio broadcast, satellite broadcast,
mobile radio, commercial communications and defense electronics.
Critical
Accounting Policies
The
Company’s condensed consolidated financial statements are based on the application of United States generally accepted accounting
principles (GAAP). GAAP requires the use of estimates, assumptions, judgments and subjective interpretations of accounting principles
that have an impact on the assets, liabilities, revenue and expense amounts reported. The Company believes its use of estimates
and underlying accounting assumptions adhere to GAAP and are consistently applied. Valuations based on estimates are reviewed
for reasonableness and adequacy on a consistent basis throughout the Company. Primary areas where financial information of the
Company is subject to the use of estimates, assumptions and the application of judgment include revenues, receivables, inventories,
warranty reserves and taxes. Note 1 to the consolidated financial statements in our Annual Report on Form 10-K for the fiscal
year ended September 30, 2017 describes the significant accounting policies used in preparation of the condensed consolidated
financial statements. The most significant areas involving management judgments and estimates are described below and are considered
by management to be critical to understanding the financial condition and results of operations of the Company.
Revenues
from product sales are recorded as the products are shipped and title and risk of loss have passed to the customer, provided that
no significant vendor or post-contract support obligations remain and the collection of the related receivable is probable. Billings
in advance of the Company’s performance of such work are reflected as customer deposits in the accompanying condensed consolidated
balance sheet.
Allowances
for doubtful accounts are based on estimates of losses related to customer receivable balances. The establishment of reserves
requires the use of judgment and assumptions regarding the potential for losses on receivable balances.
The
Company’s inventories are stated at the lower of cost determined on the first-in, first-out method or net realizable value.
Net realizable value is determined as the estimated selling price in the normal course of business minus the cost of completion,
disposal and transportation. The Company uses certain estimates and judgments and considers several factors including product
demand and changes in technology to provide for excess and obsolescence reserves to properly value inventory.
The
Company established a warranty reserve which provides for the estimated cost of product returns based upon historical experience
and any known conditions or circumstances. The warranty obligation is affected by product that does not meet specifications and
performance requirements and any related costs of addressing such matters. Product must be returned within one year of the date
of purchase.
The
Company accounts for income taxes under FASB ASC 740-10. Deferred tax assets and liabilities are based on the difference between
the financial statement and tax basis of assets and liabilities as measured by the enacted tax rates which are anticipated to
be in effect when these differences reverse. The deferred tax provision is the result of the net change in the deferred tax assets
and liabilities. A valuation allowance is established when it is necessary to reduce deferred tax assets to amounts expected to
be realized. The Company has provided a full valuation allowance against its net deferred tax assets.
RESULTS
OF OPERATIONS
THREE
MONTHS ENDED MARCH 31, 2018 vs. THREE MONTHS ENDED MARCH 31, 2017
The
following table sets forth the Company’s net sales by major product group for the three months ended March 31, 2018 and
2017.
Product
group
|
|
Fiscal
2018
|
|
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Fiscal
2017
|
|
Microwave
Filter (MFC):
|
|
|
|
|
|
|
|
|
RF/Microwave
|
|
$
|
296,519
|
|
|
$
|
481,667
|
|
Satellite
|
|
|
313,356
|
|
|
|
194,147
|
|
Cable
TV
|
|
|
66,811
|
|
|
|
65,374
|
|
Broadcast
TV
|
|
|
57,647
|
|
|
|
81,946
|
|
Niagara
Scientific (NSI):
|
|
|
182
|
|
|
|
2,042
|
|
Total
|
|
$
|
734,515
|
|
|
$
|
825,176
|
|
|
|
|
|
|
|
|
|
|
Sales
backlog at March 31
|
|
$
|
928,718
|
|
|
$
|
608,888
|
|
Net
sales for the three months ended March 31, 2018 equaled $734,515, a decrease of $90,661 or 11%, when compared to net sales of
$825,176 for the three months ended March 31, 2017.
MFC’s
RF/Microwave product sales decreased $185,148 or 38.4% to $296,519 for the three months ended March 31, 2018 when compared to
RF/Microwave product sales of $481,667 during the same period last year. The Company’s RF/Microwave products are sold primarily
to Original Equipment Manufacturers that serve the mobile radio, commercial communications and defense electronics markets. Sales
to one OEM customer decreased $172,325 to $204,300, or 27.8% of total sales, for the three months ended March 31, 2018, compared
to sales of $376,625, or 45.6% of total sales, for the three months ended March 31, 2017. These sales are in connection with a
multiyear program in which the Company is a subcontractor. Based on backlog at March 31, 2018, sales to this one customer should
equal $682,025 over the next two quarters. The Company continues to invest in production engineering and infrastructure development
to penetrate OEM market segments as they become popular. MFC is concentrating its technical resources and product development
efforts toward potential high volume customers as part of a concentrated effort to provide substantial long-term growth. Over
the last year, MFC, in conjunction with various OEM’s, has developed and supplied prototypes as well as small production
runs in support of new programs being introduced to the marketplace. It is our belief that a continuation of this effort will
help increase sales as well as reinforcing MFC’s position as a quality manufacturer of RF filters and assemblies.
MFC’s
Satellite product sales increased $119,209 or 61.4% to $313,356 for the three months ended March 31, 2018 when compared to Satellite
product sales of $194,147 during the same period last year. The increase in sales can primarily be attributed to the sales of
a new product developed for one customer. Sales to this one customer equaled $135,576, or 18.5% of total sales, for the quarter
ended March 31, 2018 compared to $7,280 for the quarter ended March 31, 2017. Management expects sales of this product to continue
but is unable to predict demand at this time.
MFC’s
Cable TV product sales increased $1,437 or 2.2% to $66,811 for the three months ended March 31, 2018 when compared to Cable TV
product sales of $65,374 during the same period last year. Management continues to project flat or a decrease in demand for standard
Cable TV products due to the shift from analog to digital television. Due to the inherent nature of digital modulation versus
analog modulation, fewer filters are required. The Company has developed filters for digital television and there will still be
requirements for analog filters for limited applications in commercial and private cable systems.
MFC’s
Broadcast TV/Wireless Cable product sales decreased $24,299 or 29.7% to $57,647 for the three months ended March 31, 2018 when
compared to sales of $81,946 during the same period last year. The decrease can primarily be attributed to a decrease in sales
to one international customer. The Company has developed new products for this market and is hopeful that sales will increase
in the future.
MFC’s
sales order backlog equaled $928,718 at March 31, 2018 compared to sales order backlog of $608,888 at March 31, 2017. However,
backlog is not necessarily indicative of future sales. Accordingly, the Company does not believe that its backlog as of any particular
date is representative of actual sales for any succeeding period. 92.9% of the total sales order backlog at March 31, 2018 is
scheduled to ship by September 30, 2018.
Gross
profit for the three months ended March 31, 2018 equaled $261,802, a decrease of $10,908 or 4%, when compared to gross profit
of $272,710 for the three months ended March 31, 2017. As a percentage of sales, gross profit equaled 35.6% for the three months
ended March 31, 2018 compared to 33% for the three months ended March 31, 2017. The increase in gross profit as a percentage of
sales can be attributed to lower direct material costs as a percentage of sales primarily due to product sales mix and lower payroll
and payroll related expenses due to a reduction in head count in production labor and production support positions due to retirement
and employee turnover with the positions not immediately filled.
Selling,
general and administrative (SGA) expenses for the three months ended March 31, 2018 equaled $333,611, an increase of $12,739 or
4%, when compared to SGA expenses of $320,872 for the three months ended March 31, 2017. The increase can be attributed to higher
promotional and advertising expenses this year when compared to the same period last year. As a percentage of sales, SGA expenses
increased to 45.4% for the three months ended March 31, 2018 when compared to 38.9% for the three months ended March 31, 2017
primarily due to the lower sales volume this year providing a lower base to absorb expenses.
The
Company recorded a loss from operations of $71,809 for the three months ended March 31, 2018 compared to a loss from operations
of $48,162 for the three months ended March 31, 2017. The decrease in operating income can primarily be attributed to the lower
sales volume this year when compared to the same period last year.
Other
expense was $1,117 for the three months ended March 31, 2018 compared to $2,215 for the three months ended March 31, 2017 primarily
due to interest expense of $3,363 offset by miscellaneous non-operating income of $2,246 for the three months ended March 31,
2018 and interest expense of $3,898 offset by miscellaneous non-operating income of $1,683 for the three months ended March 31,
2017. Other income generally consists of interest income, sales of scrap material, the forfeiture of non-refundable deposits and
other incidental items.
The
provision for income taxes equaled $50 for the three months ended March 31, 2018 and $0 for the three months ended March 31, 2017.
Any benefit for losses has been subject to a valuation allowance since the realization of the deferred tax benefit is not considered
more likely than not. As required by FASB ASC 740, the Company has evaluated the positive and negative evidence bearing upon the
realization of its deferred tax assets. The Company has determined that, at this time, it is more likely than not that the Company
will not realize all of the benefits of federal and state deferred tax assets, and, as a result, a valuation allowance was established.
See notes 1 and 4.
SIX
MONTHS ENDED MARCH 31, 2018 vs. SIX MONTHS ENDED MARCH 31, 2017
The
following table sets forth the Company’s net sales by major product group for the six months ended March 31, 2018 and 2017.
Product
group
|
|
Fiscal
2018
|
|
|
Fiscal
2017
|
|
Microwave
Filter (MFC):
|
|
|
|
|
|
|
|
|
RF/Microwave
|
|
$
|
536,488
|
|
|
$
|
930,711
|
|
Satellite
|
|
|
673,046
|
|
|
|
356,584
|
|
Cable
TV
|
|
|
145,387
|
|
|
|
188,976
|
|
Broadcast
TV
|
|
|
161,673
|
|
|
|
124,851
|
|
Niagara
Scientific (NSI):
|
|
|
4,837
|
|
|
|
3,428
|
|
Total
|
|
$
|
1,521,431
|
|
|
$
|
1,604,550
|
|
|
|
|
|
|
|
|
|
|
Sales
backlog at March 31
|
|
$
|
928,718
|
|
|
$
|
608,888
|
|
Net
sales for the six months ended March 31, 2018 equaled $1,521,431, a decrease of $83,119 or 5.2%, when compared to net sales of
$1,604,550 for the six months ended March 31, 2017.
MFC’s
RF/Microwave product sales decreased $394,223 or 42.4% to $536,488 for the six months ended March 31, 2018 when compared to RF/Microwave
product sales of $930,711 during the same period last year. MFC’s RF/Microwave products are sold primarily to OEMs that
serve the mobile radio, commercial communications and defense electronics markets. Sales to one OEM customer decreased $301,705
to $407,725, or 26.8% of total sales, for the six months ended March 31, 2018 compared to sales of $709,430, or 44.2% of total
sales, for the six months ended March 31, 2017. These sales are in connection with a multiyear program in which the Company is
a subcontractor. Based on backlog at March 31, 2018, sales to this one customer should equal $682,025 over the next two quarters.
Sales to the US Government decreased $26,745 to $4,750 for the six months ended March 31, 2018 when compared to sales of $31,495
for the six months ended March 31, 2017. The Company continues to invest in production engineering and infrastructure development
to penetrate OEM market segments as they become popular. MFC is concentrating its technical resources and product development
efforts toward potential high volume customers as part of a concentrated effort to provide substantial long-term growth. Over
the last year, MFC, in conjunction with various OEM’s, has developed and supplied prototypes as well as small production
runs in support of new programs being introduced to the marketplace. It is our belief that a continuation of this effort will
help increase sales as well as reinforcing MFC’s position as a quality manufacturer of RF filters and assemblies.
MFC’s
Satellite product sales increased $316,462 or 88.7% to $673,046 for the six months ended March 31, 2018 when compared to satellite
product sales of $356,584 during the same period last year. The increase in sales can primarily be attributed to the sales of
a new product developed for one customer and an increase in demand for the Company’s filters which suppress strong out-of-band
interference caused by military and civilian radar systems and other sources. Sales to this one customer equaled $234,771, or
15.4% of total sales, for the quarter ended March 31, 2018 compared to $9,660 for the quarter ended March 31, 2017. Management
expects sales of this product to continue but is unable to predict demand at this time. Management expects demand for the Company’s
filters which suppress strong out-of-band interference caused by military and civilian radar systems and other sources to continue
with the proliferation of earth stations world-wide and increased sources of interference.
MFC’s
Cable TV product sales decreased $43,589 or 23.1% to $145,387 for the six months ended March 31, 2018 when compared to Cable TV
product sales of $188,976 during the same period last year. The decrease in sales can primarily be attributed to an order from
one customer with specific cable applications last year. Management continues to project flat or a decrease in demand for standard
Cable TV products due to the shift from analog to digital television. Due to the inherent nature of digital modulation versus
analog modulation, fewer filters are required. The Company has developed filters for digital television and there will still be
requirements for analog filters for limited applications in commercial and private cable systems.
MFC’s
Broadcast TV/Wireless Cable product sales increased $36,822 or 29.5% to $161,673 for the six months ended March 31, 2018 when
compared to sales of $124,851 during the same period last year. The increase in sales can primarily be attributed to the UHF band
relocation that has resulted in channel reassignments for hundreds of TV stations across the country. New equipment including
filters and combining systems are needed to help facilitate the changeover.
MFC’s
sales order backlog equaled $928,718 at March 31, 2018 compared to sales order backlog of $608,888 at March 31, 2017. However,
backlog is not necessarily indicative of future sales. Accordingly, the Company does not believe that its backlog as of any particular
date is representative of actual sales for any succeeding period. 92.9% of the total sales order backlog at March 31, 2018 is
scheduled to ship by September 30, 2018.
Gross
profit for the six months ended March 31, 2018 equaled $550,176, an increase of $28,365 or 5.4%, when compared to gross profit
of $521,811 for the six months ended March 31, 2017. As a percentage of sales, gross profit equaled 36.2% for the three months
ended March 31, 2018 compared to 32.5% for the three months ended March 31, 2017. The increase in gross profit as a percentage
of sales can be attributed to lower direct material costs as a percentage of sales primarily due to product sales mix and lower
payroll and payroll related expenses due to a reduction in head count in production labor and production support positions due
to retirement and employee turnover with the positions not immediately filled.
SG&A
expenses for the six months ended March 31, 2018 equaled $660,113, an increase of $490, when compared to SG&A expenses of
$659,623 for the six months ended March 31, 2017. As a percentage of sales, SGA expenses increased to 43.4% for the six months
ended March 31, 2018 compared to 41.1% for the six months ended March 31, 2017 due primarily to the lower sales volume this year
when compared to the same period last year.
The
Company recorded a loss from operations of $109,937 for the six months ended March 31, 2018 compared to a loss from operations
of $137,812 for the six months ended March 31, 2017. The improvement can primarily be attributed to the higher gross profit as
a percentage of sales this year when compared to last year.
Other
expense was $3,796 for the six months ended March 31, 2018 compared to $5,764 for the six months ended March 31, 2017 primarily
due to interest expense of $6,943 offset by miscellaneous non-operating income of $3,147 for the six months ended March 31, 2018
and interest expense of $8,018 offset by miscellaneous non-operating income of $2,254 for the six months ended March 31, 2017.
Other income generally consists of interest income, sales of scrap material, the forfeiture of non-refundable deposits and other
incidental items.
The
provision for income taxes equaled $50 for the six months ended March 31, 2018 and a benefit of $0 for the six months ended March
31, 2017. Any benefit for losses has been subject to a valuation allowance since the realization of the deferred tax benefit is
not considered more likely than not. As required by FASB ASC 740, the Company has evaluated the positive and negative evidence
bearing upon the realization of its deferred tax assets. The Company has determined that, at this time, it is more likely than
not that the Company will not realize all of the benefits of federal and state deferred tax assets, and, as a result, a valuation
allowance was established. See notes 1 and 4.
Off-Balance
Sheet Arrangements
At
March 31, 2018 and 2017, the Company did not have any unconsolidated entities or financial partnerships, such as entities often
referred to as structured finance or special purpose entities, which might have been established for the purpose of facilitating
off-balance sheet arrangements.
LIQUIDITY
and CAPITAL RESOURCES
MFC
defines liquidity as the ability to generate adequate funds to meet its operating and capital needs. The Company’s primary
source of liquidity has been funds provided by operations.
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March
31, 2018
|
|
|
September
30, 2017
|
|
|
|
|
|
|
|
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Cash
& cash equivalents
|
|
$
|
550,698
|
|
|
$
|
667,940
|
|
Working
capital
|
|
$
|
1,044,048
|
|
|
$
|
1,149,368
|
|
Current
ratio
|
|
|
4.23
to 1
|
|
|
|
4.24
to 1
|
|
Long-term
debt
|
|
$
|
244,868
|
|
|
$
|
270,172
|
|
Cash
and cash equivalents decreased $117,242 to $550,698 at March 31, 2018 when compared to cash and cash equivalents of $667,940 at
September 30, 2017. The decrease was a result of $90,612 in net cash used in operating activities, $2,348 in net cash used for
capital expenditures, $24,189 in net cash used for repayment of a note payable and $3 used to purchase treasury stock.
Net
cash provided by (used in) operating activities can fluctuate between periods as a result of differences in net income, the timing
of the collection of accounts receivable, purchase of inventory and payment of accounts payable.
On
July 2, 2013, Microwave Filter Company, Inc. entered into a Ten Year Term Loan with KeyBank National Association in the amount
of Five Hundred Thousand and No/100 Dollars ($500,000.00). The amount of all advances outstanding together with accrued interest
thereon shall be due and payable on July 2, 2023 (“Maturity”). The Company shall pay interest on the outstanding principal
balance of this Note at the rate per annum equal to 4.5%. The net proceeds from the Term Loan will be available to provide working
capital as needed.
Management
believes that its working capital requirements for the forseeable future will be met by its existing cash balances, future cash
flows from operations and its current credit arrangements.
SAFE
HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
In
an effort to provide investors a balanced view of the Company’s current condition and future growth opportunities, this
Quarterly Report on Form 10-Q includes comments by the Company’s management about future performance. These statements which
are not historical information are “forward-looking statements” pursuant to the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. These, and other forward-looking statements, are subject to business and economic risks
and uncertainties that could cause actual results to differ materially from those discussed. These risks and uncertainties include,
but are not limited to: risks associated with demand for and market acceptance of existing and newly developed products as to
which the Company has made significant investments; general economic and industry conditions; slower than anticipated penetration
into the satellite communications, mobile radio and commercial and defense electronics markets; competitive products and pricing
pressures; increased pricing pressure from our customers; risks relating to governmental regulatory actions in broadcast, communications
and defense programs; as well as other risks and uncertainties, including but not limited to those detailed from time to time
in the Company’s Securities and Exchange Commission filings. These forward-looking statements are made only as of the date
hereof, and the Company undertakes no obligation to update or revise the forward-looking statements, whether as a result of new
information, future events or otherwise. You are encouraged to review Microwave Filter Company’s 2017 Annual Report and
Form 10-K for the fiscal year ended September 30, 2017 and other Securities and Exchange Commission filings. Forward looking statements
may be made directly in this document or “incorporated by reference” from other documents. You can find many of these
statements by looking for words like “believes,” “expects,” “anticipates,” “estimates,”
or similar expressions.