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Form 10-Q for CPS TECHNOLOGIES CORP/DE/
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9-Nov-2010
Quarterly Report
ITEM 2 MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of financial condition and results of operations is based upon and should be read in conjunction with the financial statements of the Company and notes thereto included in this report and the Company`s Annual Report on Form 10-K for the year ended December 26, 2009.
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements that involve a number of risks and uncertainties. There are a number of factors that could cause the Company`s actual results to differ materially from those forecasted or projected in such forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements which speak only as of the date hereof. The Company undertakes no obligation to publicly release the results of any revisions to these forward-looking statements which may be made to reflect events or changed circumstances after the date hereof or to reflect the occurrence of unanticipated events.
Critical Accounting Policies
The critical accounting policies utilized by the Company in preparation of the accompanying financial statements are set forth in Part II, Item 7 of the Company`s Annual Report on Form 10-K for the year ended December 26, 2009, under the heading "Management`s Discussion and Analysis of Financial Condition and Results of Operations". There have been no material changes to these policies since December 26, 2009.
Overview
CPS Technologies Corporation (the `Company` or `CPS`) (formerly Ceramics Process Systems Corporation) provides advanced material solutions to the electronics, power generation, automotive and other industries. In 2008 the Company also entered into a cooperative agreement with the U.S. Army to further develop its composite technology to produce armor.
The Company`s products are generally used in high-power, high-reliability applications. These applications always involve energy use or energy generation and the Company`s products allow higher performance and improved energy efficiency. The Company is an important participant in the growing movement towards alternative energy and "green" lifestyles. For example, the Company`s products are used in mass transit, hybrid and electric cars, wind-turbines for electricity generation as well as routers and switches for the internet which in turn allows telecommuting.
Our primary advanced material solution is metal matrix composites (MMCs), a new class of materials which are a combination of metal and ceramic. CPS has a leading, proprietary position in metal matrix composites. Metal matrix composites have several superior properties compared to conventional materials including improved thermal conductivity, thermal expansion matching, stiffness and light weight which enable higher performance and higher reliability in our customers` products.
Like plastics several decades ago, we believe metal-matrix composites will penetrate many end markets over many years. CPS management believes our business model of providing advanced material solutions to a portfolio of high growth end markets which are, at any point in time, in various stages of the technology adoption lifecycle, provides CPS with the opportunity for sustained growth and a diversified customer base. We believe we have validated this model as we are now supplying customers at all stages of the technology adoption lifecycle.
CPS is the leader in supplying metal matrix composites to certain high growth electronics end markets which are well along in the adoption lifecycle and therefore generating significant demand. These end markets include high-performance integrated circuits and circuit boards used in internet switches and routers, as well as motor controllers used in high-speed electric trains, subway cars and wind turbines. CPS supplies heat spreaders, lids and baseplates to customers in these end markets. CPS is a fully qualified manufacturer for many of the world`s largest electronics OEMs.
CPS also assembles housings and packages for hybrid circuits. These housings and packages may include components made of metal-matrix composites; they may include components made of more traditional materials such as aluminum, copper-tungsten, etc.
Concurrently, CPS is participating in certain end markets that are at an earlier stage of the adoption lifecycle. Management believes these end markets will generate additional growth longer-term. An example of such an end market is motor controllers for hybrid automotives and trucks.
We are also actively working with customers in end markets at the beginning stages of the adoption lifecycle. An example of such a market is the market for armor. In 2008 the Company entered into a cooperative agreement with the Army Research Laboratory ("ARL") to further develop large hybrid metal matrix composite modules which integrally combine metal matrix composites and ceramics by enveloping ceramic tiles with MMCs. This system offers a lighter weight, durable, multi-hit capable and cost competitive alternative to conventional steel, aluminum and ceramic based armor systems. CPS hybrid hard face armor modules are comprised of multiple materials completely enveloped within and mechanically and chemically bonded to lightweight and stiff aluminum metal matrix composites.
The Company believes that its hybrid hard face armor tiles will find application in many military vehicles as well as armored commercial vehicles.
Our products are manufactured by proprietary processes we have developed including the QuicksetTM Injection Molding Process (`Quickset Process`) and the QuickCastTM Pressure Infiltration Process (`QuickCast Process`).
CPS was incorporated in Massachusetts in 1984 as Ceramics Process Systems Corporation and reincorporated in Delaware in April 1987 through a merger into a wholly-owned Delaware subsidiary organized for purposes of the reincorporation. In July 1987, CPS completed our initial public offering of 1.5 million shares of our Common Stock. In March 2007, we changed our name from Ceramics Process Systems Corporation to CPS Technologies Corporation.
Results of Operations for the Third Fiscal Quarter of 2010 (Q3 2010) Compared to the Third Fiscal Quarter of 2009 (Q3 2009)
Total revenue was $6,008 thousand in Q3 2010, a 110% increase from total revenue of $2,864 thousand in Q3 2009. The 110% increase in revenues in Q3 2010 compared to Q3 2009 primarily reflects increased customer demand. Customer demand increased in all product families, although revenue under the Company`s Cooperative Agreement with the U.S. Army remained flat. This Agreement is a cost-share Agreement; the Army funds 95% of the Agreement costs; CPS funds 5% of the Agreement costs.
Total operating expenses in Q3 2010 were $5,326 thousand, a 77% increase from total operating expenses in Q3 2009 of $2,997 thousand. Cost of product sales in Q3 2010 was $4,151 thousand, a 94% increase from cost of product sales in Q3 2009 of $2,145 thousand. Cost of product sales rose less than revenues due primarily to fixed costs being spread over a larger base in Q3 2010.
The gross profit on product sales in Q3 2010 was 26% compared to gross profit on product sales in Q3 2009 of 12%. The gross margin increase is primarily due to fixed costs being spread over a larger base in Q3 2010 as well as manufacturing efficiency improvement programs which were ongoing throughout the quarter.
Selling, general and administrative (SG&A) expenses were $802 thousand in Q3 2010, a 79% increase from SG&A expenses of $449 thousand in Q3 2009. The increase in SG&A expenses is primarily the result of increased commissions paid to sales representatives due to increased shipments in territories in which the Company has commissioned representatives.
Results of Operations for the First Nine Months of 2010 Compared to the First Nine Months of 2009
Total revenue was $16,604 thousand in the first nine months of 2010, a 74% increase from total revenue of $9,519 thousand in the first nine months of 2009. The increase in revenue in the first nine months of 2010 compared to 2009 reflects primarily increased customer demand, as well as market share gains by the Company in baseplates for motor control modules.
Total operating expenses in the first nine months of 2010 were $14,914 thousand, a 58% increase from total operating expenses of $9,456 in the first nine months of 2009. Cost of product sales in the first nine months of 2010 were $11,768 thousand, a 78% increase from cost of product sales of $6,594 thousand in the first nine months of 2009. Cost of product sales increased primarily as a result of increased unit shipments.
Gross profit on product sales in the first nine months of 2010 was 24% compared to gross profit on product sales of 19% in the first nine months of 2009. This increase in gross margin is the result of fixed costs being spread over a larger base as well as manufacturing efficiency improvement programs.
Selling, general and administrative (SG&A) expenses were $2,229 thousand in the first nine months of 2010, a 44% increase from SG&A expenses of $1,545 thousand in the first nine months of 2009. The increase in SG&A expenses is primarily the result of higher commissions paid to sales representatives and increased shared-based compensation expense.
Liquidity and Capital Resources
The Company`s cash and cash equivalents at September 25, 2010 were $1,673 thousand, compared to cash and cash equivalents at December 26, 2009 of $1,074 thousand, an increase of $599 thousand or 56%. Cash increased as a result of increased shipments, timing of collections and management carefully controlling expenses.
Accounts receivable increased to $4,265 thousand at September 25, 2010 from $2,587 thousand at December 26, 2009. This change reflects the size and timing of shipments and collections in Q3 2010 compared to Q4 2009; there has been no significant change in days sales outstanding. The accounts receivable balance at September 25, 2010 and December 26, 2009 is net of allowance for doubtful accounts of $22 thousand and $5 thousand, respectively.
Inventories decreased to $1,861 thousand at September 25, 2010 from $2,072 thousand at December 26, 2009. Work-in-process inventory decreased primarily due to product mix changes, as well as manufacturing efficiency improvement programs.
All consigned inventory is shipped under existing purchase orders and per customers` requests. Of the total finished goods inventory of $987 thousand at September 25, 2010, $468 thousand was located at customers` locations pursuant to consigned inventory agreements. Of the total finished goods inventory of $983 thousand at December 26, 2009, $627 thousand was located at customers` locations pursuant to consigned inventory agreements.
The Company financed its working capital during Q3 2010 and the nine months ended September 25, 2010 with existing cash balances and funds generated by operations. The Company expects it will continue to be able to fund its working capital requirements for the remainder of 2010 from these same sources.
The Company continues to sell to a limited number of customers and the loss of any one of these customers could cause the Company to require additional external financing. Failure to generate sufficient revenues, raise additional capital or reduce certain discretionary spending could have a material adverse effect on the Company`s ability to achieve its business objectives.
Contractual Obligations
The Company has a $1 million revolving line of credit and a $1 million equipment finance facility with Sovereign Bank, both agreements have been extended to May 2011. The line of credit is secured by the accounts receivable and other assets of the Company, has an interest rate of prime plus one percent (1%) and a one-year term. Under the terms of the agreement, the Company is required to maintain its operating accounts with Sovereign Bank. The line of credit and the equipment finance facility are cross defaulted and cross collateralized. The Company is also subject to certain financial covenants within the terms of the line of credit that require the Company to maintain a targeted rolling four quarter debt service coverage ratio as well as targeted debt to equity and current ratios. At September 25, 2010, the Company was in compliance with these covenants. The Company believes but can give no assurance that it could obtain similar lease facilities from other lenders. At September 25, 2010 there were no borrowings under this line of credit. At September 25, 2010, the Company had $496,321 net carrying value of capital equipment financed by the Sovereign equipment lease and finance facility and $503,679 available remaining on the Sovereign lease line.
As of September 25, 2010 production equipment included $191 thousand of construction in progress and the Company had $88 thousand in outstanding commitments to purchase production equipment. The Company intends to finance production equipment with existing cash balances and funds generated by operations.
In July 2006 the Company entered into a lease for its current operating facilities of approximately 37,520 square feet of rentable space located on approximately seven acres at its current site in Norton, MA. The term of the lease is ten years. The lease is a triple net lease wherein the Company is responsible for payment of all real estate taxes, operating costs and utilities. The Company also has an option to buy the property and a first right of refusal during the term of the lease. Annual rental payments are $100 thousand in year one increasing to $150 thousand in year ten.
The Company`s contractual obligations at September 25, 2010 consist of the following:
Payments Due by Period
Remaining in FY 2011 - FY 2014 -
Total FY 2010 FY 2013 FY 2016
Capital lease
obligations including
interest $ 525,120 $ 74,210 $ 450,910 $ --
Purchase commitments
for production
equipment $ 88,465 $ 88,465 $ -- $ --
Operating lease
obligation for
facilities at 111 South
Worcester Street,
Norton, MA. $ 772,300 $ 30,000 $ 406,500 $ 335,800
