UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[x] Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended September 30, 2020
[ ] Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from _________ to _________
Commission File Number 001-34376
IEC ELECTRONICS CORP.
(Exact name of registrant as specified in its charter)
|(State or other jurisdiction of incorporation or organization)||(I.R.S. Employer Identification No.)|
105 Norton Street, Newark, New York 14513
(Address of Principal Executive Offices) (Zip Code)
Registrant’s telephone number, including area code: 315-331-7742
Securities registered pursuant to Section 12(b) of the Act:
|Title of each class||Trading Symbol(s)||Name of each exchange on which registered|
|Common Stock, $0.01 par value||IEC||Nasdaq Global Market|
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes [ ] No [x]
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes [ ] No [x]
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.
Yes [x] No [ ]
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).
Yes [x] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ¨
Accelerated filer ¨
Non-accelerated filer x
Smaller reporting company x
Emerging growth company ¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the
Exchange Act. ¨
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No x
At March 27, 2020, the last business day of the registrant’s second quarter for the fiscal year ended September 30, 2020, the aggregate market value of the shares of common stock held by non-affiliates of the registrant was $66,722,319 (based on the closing price of the registrant’s common stock on the Nasdaq Global Market on such date). Shares of common stock held by each executive officer and director and by each person and entity who beneficially owns more than 10% of the outstanding common stock have been excluded in that such person or entity may be deemed to be an affiliate for purposes of this calculation. Such exclusion should not be deemed a determination or admission by the registrant that such individuals or entities are, in fact, affiliates of the registrant.
As of November 10, 2020, there were 10,503,083 shares of common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of IEC Electronics Corp.’s definitive Proxy Statement to be filed with the Securities and Exchange Commission in connection with its 2021 Annual Meeting of Stockholders are incorporated by reference into Part III Items 10, 11, 12, 13 and 14 of this Form 10-K.
TABLE OF CONTENTS
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
References in this report to “IEC,” the “Company,” “we,” “our,” or “us” mean IEC Electronics Corp. and its subsidiaries except where the context otherwise requires. This Annual Report on Form 10-K for the fiscal year ended September 30, 2020 (“Form 10-K”) contains “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. In some cases you can identify forward-looking statements by terms such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “could,” “intends,” “targets,” “projects,” “contemplates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of these terms or other similar expressions. These forward-looking statements include, but are not limited to, statements regarding future sales and operating results, future prospects, the capabilities and capacities of business operations, any financial or other guidance and all statements that are not based on historical fact, but rather reflect our current expectations concerning future results and events. The ultimate correctness of these forward-looking statements is dependent upon a number of known and unknown risks and events and is subject to various uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements.
The following important factors, among others, could affect future results and events, causing those results and events to differ materially from those views expressed or implied in our forward-looking statements: the continued impact of the COVID-19 pandemic on our business, including our supply chain, workforce and customer demand; business conditions and growth or contraction in our customers’ industries, the electronic manufacturing services industry and the general economy; our ability to control our material, labor and other costs; our dependence on a limited number of major customers and suppliers; uncertainties as to availability and timing of governmental funding for our customers; the impact of government regulations, including U.S. Food and Drug Administration (the “FDA”) regulations; unforeseen product failures and the potential product liability claims that may be associated with such failures; technological, engineering and other start-up issues related to new programs and products; variability and timing of customer requirements; the potential consolidation of our customer base; availability of component supplies; dependence on certain industries; the ability to realize the full value of our backlog; the types and mix of sales to our customers; litigation and governmental investigations; intellectual property litigation; variability of our operating results; our ability to maintain effective internal controls over financial reporting; the availability of capital and other economic, business and competitive factors affecting our customers, our industry and business generally; failure or breach of our information technology systems; and natural disasters. Any one or more of such risks and uncertainties could have a material adverse effect on us or the value of our common stock. For a further list and description of various risks, relevant factors and uncertainties that could cause future results or events to differ materially from those expressed or implied in our forward-looking statements, see the “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” sections elsewhere in this Form 10-K and our other filings with the Securities and Exchange Commission (the “SEC”).
All forward-looking statements included in this Form 10-K are made only as of the date indicated or as of the date of this Form 10-K. We do not undertake any obligation to, and may not, publicly update or correct any forward-looking statements to reflect events or circumstances that subsequently occur or which we hereafter become aware of, except as required by law. New risks and uncertainties arise from time to time and we cannot predict these events or how they may affect us and cause actual results to differ materially from those expressed or implied by our forward-looking statements. Therefore, you should not rely on our forward-looking statements as predictions of future events. When considering these risks, uncertainties and assumptions, you should keep in mind the cautionary statements contained in this report and any documents incorporated herein by reference. You should read this document and the documents that we reference in this Form 10-K completely and with the understanding that our actual future results may be materially different from what we expect. All forward-looking statements attributable to us are expressly qualified by these cautionary statements.
ITEM 1. BUSINESS
IEC Electronics Corp. (“IEC,” “we,” “our,” “us,” or the “Company”) conducts business directly, as well as through its subsidiaries, IEC Electronics Corp-Albuquerque (“Albuquerque”), and IEC Analysis & Testing Laboratory, LLC (“ATL”). Our former subsidiary, IEC California Holdings, Inc., was dissolved as of September 18, 2019.
We are a premier provider of electronic manufacturing services (“EMS”) to advanced technology companies that produce life-saving and mission critical products for the medical, industrial, aerospace and defense sectors. We specialize in delivering technical solutions for the custom manufacturing, product configuration, and verification testing of highly engineered complex products that require a sophisticated level of manufacturing to ensure quality and performance.
Within the EMS sector, we have unique capabilities which allow our customers to rely on us to solve their complex challenges, minimize their supply chain risk and deliver full system solutions for their supply chain. These capabilities include, among others:
•Our engineering services include the design, development, and fabrication of customized stress testing platforms to simulate a product’s end application, such as thermal cycling and vibration, in order to ensure reliable performance and avoid catastrophic failure when the product is placed in service.
•Our vertical manufacturing model offers customers the ability to simplify their supply chain by utilizing a single supplier for their critical components including complex printed circuit board assembly (“PCBA”), precision metalworking, and interconnect solutions. This service model allows us to control the cost, lead time, and quality of these critical components which are then integrated into full system assemblies and minimizes our customers’ supply chain risk.
•We provide direct order fulfillment services for our customers by integrating with their configuration management process to obtain their customer orders, customize the product to the specific requirements, functionally test the product and provide verification data, and direct ship to their end customer in order to reduce time, cost, and complexity within our customer’s supply chain.
•We believe we are the only EMS provider with an on-site laboratory that has been approved by the Defense Logistics Agency (“DLA”) for their Qualified Testing Supplier List (“QTSL”) program which deems the site suitable to conduct various QTSL and military testing standards including counterfeit component analysis and environmental testing to qualify a part fit for use. In addition, this advanced laboratory is utilized for complex design analysis and manufacturing process development to solve challenges and accelerate our customers’ time to market.
We are a 100% U.S. manufacturer which attracts customers who are unlikely to utilize offshore suppliers due to the proprietary nature of their products, governmental restrictions or volume considerations. Our locations include:
•Newark, New York - Located approximately one hour east of Rochester, New York, our Newark location is our corporate headquarters and is our largest manufacturing location providing complex circuit board manufacturing, interconnect solutions, and system-level assemblies along with an on-site material analysis laboratory for advanced manufacturing process development.
•Rochester, New York - Focuses on precision metalworking services including complex metal chassis and assemblies.
•Albuquerque, New Mexico - Specializes in the aerospace and defense markets with complex circuit board and system-level assemblies along with a state of the art analysis and testing laboratory which conducts root cause failure analysis, reliability, inspection and authenticity testing.
We excel at complex, highly engineered products that require sophisticated manufacturing support where quality and reliability are of paramount importance. With our customers at the center of everything we do, we have created a high-intensity, rapid response culture capable of reacting and adapting to their ever-changing needs. Our customer-centric approach offers a high degree of flexibility while simultaneously complying with rigorous quality and on-time delivery standards.
We proactively invest in areas we view as important for our continued long-term growth. All of our locations are ISO 9001:2015 certified and ITAR registered. We are Nadcap accredited and AS9100D certified at our Newark and Albuquerque locations to support the stringent quality requirements of the aerospace industry. Our Newark location is ISO 13485 certified to serve the medical sector and is an approved supplier by the National Security Agency (“NSA”) under the COMSEC standard regarding communications security. Our analysis and testing laboratory in Albuquerque is ISO 17025 accredited, an IPC-approved Validation Services Qualified Test Laboratory, and we believe is the only on-site EMS laboratory that has been approved by the DLA for their QTSL program which deems the site suitable to conduct various QTSL and military testing
standards including counterfeit component analysis and environmental testing to qualify a part fit for use. Albuquerque also performs work per NASA-STD-8739 and J-STD-001ES space standards.
The technical expertise of our experienced workforce enables us to build some of the most advanced electronic, wire and cable, interconnect solutions, and precision metal systems sought by original equipment manufacturers (“OEMs”).
IEC Electronics Corp., a Delaware corporation, is the successor by merger in 1990 to IEC Electronics Corp., a New York corporation, which was originally organized in 1966. Our executive offices are located at 105 Norton Street, Newark, New York 14513. Our telephone number is 315-331-7742, and our Internet address is www.iec-electronics.com. We have not incorporated by reference into this report the information included, or that can be accessed through, our website and you should not consider it to be part of this report.
The Electronics Manufacturing Services Industry
The EMS industry specializes in providing the program management, technical support and manufacturing expertise required to take a product from the early design and prototype stages through volume production and distribution. Primarily as a response to rapid technological change and increased competition in the electronics industry, OEMs have recognized that by utilizing EMS providers, such as IEC, they can improve their competitive position, realize an improved return on investment and concentrate on their core competencies such as research, product design and development and marketing. In addition, EMS providers allow OEMs to bring new products to market more rapidly and to adjust more quickly to fluctuations in product demand; avoid additional investment in plant, equipment and personnel; reduce inventory and other overhead costs; and determine known unit costs over the life of a contract. Many OEMs now consider EMS providers valued partners in executing their business and manufacturing strategy.
OEMs increasingly require EMS providers to provide complete turn-key manufacturing and material handling services rather than working on a consignment basis in which the OEM supplies all materials and the EMS provider supplies labor. Turn-key contracts involve design, manufacturing and engineering support, the procurement of all materials, sophisticated in-circuit and functional testing, and distribution.
IEC is focused on providing services for life-saving and mission critical products in the medical, industrial, aerospace and defense sectors that require a sophisticated level of manufacturing support. We offer our customers a full range of manufacturing services, combined with advanced scientific technical support to ensure their products perform for the critical applications for which they are intended. The ability to solve our customers’ technical challenges, meet their stringent quality requirements, and integrate seamlessly within their supply chain, is the value add that IEC brings.
We often engage with our customers in the early stages of product or program design, work with customers to evaluate the manufacturability and testability of their products, with the objective of enhancing quality and reducing the overall cost of ownership for our customers. Due to the highly regulated environment for many of our customers, they are seeking a long-term partnership throughout the life-cycle of their product.
We are a certified small business with advanced technical capabilities. This allows us to focus on our customer’s needs and deliver solutions in a responsive manner to accelerate their time to market.
The EMS industry is highly fragmented and characterized by intense competition. We believe that the principal competitive factors in the EMS market include: technology capabilities, quality and range of services, past performance, design, cost, responsiveness and flexibility. We specialize in the custom manufacture of life-saving and mission critical products that require complex circuit boards and system-level assemblies; a wide array of cable and wire harness assemblies capable of withstanding extreme environments; and precision metal components.
We are certified to serve the military and commercial aerospace sector as well as the medical sector and we hold various accreditations. We believe we excel where quality and reliability are of paramount importance and when low-to-medium volume, high-mix production is the norm. We utilize state-of-the-art, automated circuit board assembly equipment together with a full complement of high-reliability manufacturing stress testing methods. Our customer-centric approach offers a high degree of flexibility while simultaneously complying with rigorous quality and on-time delivery standards.
We compete against numerous foreign and domestic companies in addition to the internal capabilities of some of our customers. Some of our competitors include Sparton Corporation, Benchmark Electronics, Inc., Plexus Corp. and Ducommun Incorporated. We may face new competitors in the future as the outsourcing industry evolves and existing or new-to-market companies develop capabilities similar to ours.
Products and Services
We manufacture a wide range of assemblies that are incorporated into many different products, such as aerospace and defense systems, medical devices, industrial equipment and transportation products. Our products are distributed to and through OEMs. We support multiple divisions and product lines for many of our customers and frequently manufacture successive generations of products. In some cases, we are the sole EMS contract manufacturer for the customer site or division.
We generally procure materials to meet specific contract requirements and are often protected by contract terms that call for reimbursement to us in the event a contract is terminated by the customer. Whether purchased by us or supplied by a customer, materials are tracked and controlled by our internal systems throughout the manufacturing process.
Availability of Components
Our revenues are principally derived from turn-key services that involve the acquisition of raw and component materials, often from a limited number of suppliers, to be manufactured in accordance with each customer’s specifications. While we believe we are well positioned with supplier relationships and procurement expertise, potential shortages of components in the world market could have a material adverse effect on our revenue levels or operating efficiencies.
Although we depend on a limited number of key suppliers, as a result of strategic relationships we have established with them, the Company frequently benefits from one or more of the following enhancements: reduced lead-times; competitive pricing; favorable payment terms; and preference during periods of limited supply. We have preferred supplier partnership agreements in place to support our business generally and to ensure access to custom commodities, such as printed circuit boards.
For the fiscal year ended September 30, 2020 (“fiscal 2020”), IEC obtained 22% of the materials used in production from two vendors, Avnet, Inc. and Arrow Electronics Inc. If either of these vendors were to cease supplying us with materials for any reason, we would be forced to find alternative sources of supply. A change in suppliers could cause a delay in availability of products and a possible loss of sales, which could adversely affect operating results.
Marketing and Sales
We utilize a direct sales force as well as a nationwide network of manufacturer’s representatives. Through this hybrid sales approach, we execute a focused sales strategy targeting those customers whose product profiles are aligned with our core areas of expertise. For example, we focus on customers that are developing complex, advanced technology products for a wide array of market sectors ranging from satellite communications to medical, military and ruggedized industrial products.
Typically, the demand profiles associated with these customers are in the low-to-moderate volume range with high variability in required quantities and product mix. These customers’ products often employ emerging technologies that require concentrated engineering and manufacturing support from product development through prototyping and on to volume manufacturing, which can result in significant lead times before full production and are difficult to forecast. As a result of the specialized services required, such customers rarely rely on an outsourcing model that focuses primarily on minimizing costs.
To reduce risk, the Company seeks a balanced distribution of business across industry sectors, as indicated in the table that follows. This can fluctuate based on end customer demands.
|Percent of Sales by Sector||September 30,|
|Aerospace and Defense||60%||60%|
Two individual customers in the aerospace and defense sector, ViaSat Inc., at 27%, and L3Harris Technologies, Inc. at 11%, represented 10% or more of sales in fiscal 2020. One customer in the medical sector, Baxter International, Inc. at 17%, represented 10% or more in sales in fiscal 2020. In the fiscal year ended September 30, 2019 (“fiscal 2019”), one individual customer in the aerospace and defense sector, ViaSat Inc., at 23% represented 10% or more of sales.
Two individual customers represented 10% or more of receivables at September 30, 2020. One customer is in the aerospace and defense sector and the other is in the medical sector, and together they accounted for 30% of the outstanding balances at September 30, 2020. Two individual customers represented 10% or more of receivables at September 30, 2019. Both customers were in the aerospace and defense sector, and together accounted for 38% of the outstanding balances at September 30, 2019.
Our backlog at the end of fiscal 2020 was $194.5 million, which is 8.2% lower than $212.0 million at the end of fiscal 2019. Backlog consists of two categories: purchase orders and firm forecasted commitments. In addition to fulfilling orders and commitments contained in quarter-end backlog reports, we also receive and ship orders within each quarter that do not appear in the period end backlog reports. Variations in the magnitude and duration of contracts as well as customer delivery requirements may result in fluctuations in backlog from period to period. Approximately $180.2 million of our backlog at September 30, 2020, an increase of 19.1%, is expected to be shipped within the fiscal year ending September 30, 2021 (“fiscal 2021”), with the remainder expected to ship in future years. This compares to $151.3 million that was expected to be shipped within 12 months from year-end as of September 30, 2019, with the remainder at such time that was expected to be shipped greater than 12 months from the prior year-end.
Our operations are subject to certain United States government regulations that control the export and import of defense-related articles and services, as well as federal, state and local regulatory requirements relating to environmental protection, waste management, and employee health and safety matters. We believe that our business is operated in substantial compliance with all applicable laws and governmental regulations. While current costs of compliance, including compliance with environmental laws, are not material, our expenses could increase if new laws, regulations or requirements were to be introduced. Some of our medical and other customers are highly regulated. Any failure to comply by customers, related to products we produce for them, can delay or disrupt their orders from us.
Employees are our single greatest resource. Our total employees numbered 860, all of which are full time employees, at September 30, 2020. Some of our full-time employees are temporary employees. We make a concerted effort to engage our employees in initiatives that improve our business and provide opportunities for growth, and we believe that our employee relations are good. We have access to a large and technically qualified workforce in close proximity to our operating locations in Rochester, NY and Albuquerque, NM.
Expansion of Newark, New York Manufacturing Operations
In February 2018, we announced that we will open a new state-of-the-art manufacturing facility in Newark, NY funded in part by the State of New York. The new 150,000 square foot facility is located in the Silver Hill Technology Park and allowed us to design, from the ground up, a state-of-the-art, advanced technology facility to support our operations. As part of this expansion, we intend to move our administrative offices to this location.
The COVID-19 pandemic continues to disrupt supply chains and affect production and sales across a range of industries. The extent of the impact of the COVID-19 pandemic on our supply chain, workforce, customer demand, operations and financial performance will depend on certain developments, including the duration and spread of the outbreak, impact on our customers, employees and vendors all of which are uncertain and cannot be predicted.
In accordance with the Department of Defense guidance issued in March 2020, designating the Defense Industrial Base as a critical infrastructure workforce, our production facilities have continued to operate in support of essential products and services required to meet national security commitments to the U.S. government and the U.S. military.
Please see Item 1A. Risk Factors in this report for additional information regarding certain risks associated with the COVID-19 pandemic.
The COVID-19 pandemic presents a level of uncertainty around the availability of raw material components in future periods. During March 2020, we were aware of some component manufacturers that were required to shut down temporarily, as a result of COVID-19 related illnesses impacting their employee populations or to comply with government mandates. Due to the lifesaving and mission critical nature of the products we support, many of our suppliers and the related programs are given certain priority ratings, which helped to ensure the required supply of material continued.
We are continually assessing potential supply chain impacts and working with our distribution partners to identify existing, on hand stock that we can access. We are also working with our customer base to determine their interest in participating in inventory pre-purchase arrangements, which would be funded through additional customer deposits.
The safety and well-being of our employees has been, and continues to be, our top priority, especially during the COVID-19 pandemic. Although we are deemed an essential business based on the lifesaving and mission critical products we support, and we remain fully operational, we chose early on to ask our non-essential employees to work from home in order to reduce the employee density in our facilities. As circumstances have allowed and in accordance with applicable guidelines, we have assigned non-essential employees into two groups, working alternating weeks in the office to maintain social distancing. In support of those working on site, we have taken numerous actions to help provide for a safe work environment and allow for appropriate social distancing, where possible. Some examples of the actions we have taken include, but are not limited to, the following:
•Adjusted shift start and end times to limit the number of people entering and exiting our facilities simultaneously;
•Adjusted break and lunch times to reduce the number of people in common areas;
•Designated stairwells and walkways as one-way to ensure employees are not passing each other in tight quarters; and
•Implemented additional cleaning protocols to ensure work surfaces, high touch areas and common spaces are routinely cleaned and disinfected in accordance with guidelines from the Centers for Disease Control and Prevention.
We have also developed contingency plans in the event that one of our employees tests positive for COVID-19. We expect to continue to enhance our practices to remain aligned with state and federal guidelines.
Due to the nature of the lifesaving and mission critical products that we support, the majority of our customers are also deemed to be essential businesses and remain operational. At a macro level, we have seen increases in demand from some of our existing customers, especially those in the medical sector. However, certain customers have requested that a portion of their demand be moved out to future periods beyond fiscal 2021. To date, these requests represent a small percentage of our current backlog and we do not expect to see a material impact from these requests. We continue to work in partnership with our customers to continually assess any potential impacts from the pandemic and opportunities to mitigate risk.
Item 1A. RISK FACTORS
Risks Related to the COVID-19 Pandemic
Our business, results of operations and financial condition may be adversely impacted by the recent “COVID-19” pandemic.
The COVID-19 pandemic has negatively affected the U.S. and global economy, disrupted global supply chains, resulted in significant travel and transport restrictions, including mandated closures and orders to “shelter-in-place,” and created significant disruption of the financial markets. We continue to closely monitor the impact of the COVID-19 pandemic on all aspects of our business, including how the pandemic impacts our customers, employees, supply chain, and distribution network. While the COVID-19 pandemic did not have a material adverse effect on our reported results for fiscal 2020, we are unable to predict the ultimate impact that it may have on our business, future results of operations, financial position or cash flows. Project disengagements and delays and decreases in customer demand in response to the pandemic, could adversely impact our business and results of operations. The extent to which our operations may be impacted by the COVID-19 pandemic will depend largely on future developments, which are highly uncertain and cannot be accurately predicted, including new information which may emerge concerning the severity of the outbreak and actions by government authorities to contain the outbreak or treat its impact. Even after the COVID-19 pandemic has subsided, we may experience materially adverse impacts to our business due to any resulting economic recession or depression. Furthermore, the impacts of a potential worsening of global economic conditions and the continued disruptions to and volatility in the financial markets remain unknown.
The impact of the COVID-19 pandemic may also exacerbate the other risks discussed in this Item 1A, "Risk Factors", any of which could have a material effect on us. This situation continues to change rapidly and additional impacts may arise that we are not aware of currently.
The COVID-19 pandemic, or similar health epidemics, could negatively impact our supply chain thereby adversely affecting our business.
We depend on a limited number of suppliers for components that are critical to our manufacturing processes. The COVID-19 pandemic has resulted in significant governmental measures being implemented to control the spread of the virus, including, among others, restrictions on manufacturing and the movement of employees in many regions of the country and in regions worldwide. As a result of the pandemic and the measures designed to contain the spread of the virus, our suppliers may not have the materials, capacity, or capability to supply our components according to our schedule and specifications. Any reduction in production capacity or capacity at our suppliers may reduce or even halt the supply of goods and necessary components for many of our customers’ products, which could result in product shortages and an increase in our inventory of unfinished products. Further, there may be logistics issues, including our ability and our supply chain’s ability to quickly ramp up production, and transportation demands that may cause further delays. If our suppliers’ operations are curtailed, we may need to seek alternate sources of supply, which may be more expensive. Alternate sources may not be available or may result in delays in shipments to us from our supply chain and subsequently to our customers, each of which would affect our results of operations. While the disruptions and restrictions on the ability to travel, quarantines, and any temporary closures of the facilities of our suppliers, as well as general limitations on movement are expected to be temporary, the duration of the production and supply chain disruption, and related financial impact, cannot be estimated at this time. Should the production and distribution closures continue for an extended period of time, the impact on our supply chain could have a material adverse effect on our results of operations and cash flows.
The COVID-19 pandemic may significantly disrupt our workforce and internal operations.
The COVID-19 pandemic may significantly disrupt our workforce, including our ability to hire and onboard employees, if a significant percentage of our employees or any potential hires are unable to work due to illness, quarantines, government
actions, facility closures in response to the pandemic, fear of acquiring COVID-19 while performing essential business functions, or as a result of changes to unemployment insurance where unemployed workers can receive benefits in excess of what would be offered for working for us. While we remain fully operational at this time, we cannot guarantee that we will be able to adequately staff our operations when needed, particularly as the COVID-19 pandemic progresses, which may strain our existing personnel, increase costs, and negatively impact our operations. As a result, our internal operations may experience disruptions. The pandemic may create additional challenges in attracting and retaining quality employees in the future. In addition, COVID-19 related-illness could impact members of our Board of Directors resulting in absenteeism from meetings of the directors or committees of directors, making it more difficult to convene the quorums of the full Board of Directors or its committees needed to conduct meetings for the management of our affairs. We cannot predict the extent to which the COVID-19 pandemic may disrupt our workforce and internal operations.
We have taken certain precautions due to the COVID-19 pandemic that could harm our business.
In response to the COVID-19 pandemic, we have taken measures intended to protect the health and well-being of our employees, customers and our communities, which could negatively impact our business. These measures include temporarily requiring certain employees to work remotely, restricted employee travel, increasing the frequency and extent of cleaning and disinfecting facilities, developing social distancing plans, and cancelling in-person meetings, events and conferences. The health of our workforce, customers and others is of primary concern and we may take further actions as may be required by government authorities or as we determine are in the best interests of our employees, customers and others. In addition, our management team has, and will likely continue to, spend significant time, attention and resources monitoring the COVID-19 pandemic and seeking to manage its effects on our business and workforce. The extent to which the pandemic and our precautionary measures may impact our business will depend on future developments, which are highly uncertain and cannot be predicted at this time.
The COVID-19 pandemic may decrease demand for our services and any such decrease in demand would adversely affect our backlog, revenues and results of operations.
The COVID-19 pandemic is creating uncertainty in the markets we serve and the duration, scope or impact of the outbreak cannot be predicted. While we have experienced some increase in demand from the medical and aerospace & defense sectors, we may face decreased demand in these or other sectors in the future. Demand for our services may be affected by changes in demand from our customers as a result of the pandemic, including any heightened emphasis on shorter lead times which places increased demands on our capacity and may result in increased costs, or the ordering of smaller quantities which prevents us from acquiring component materials in larger volumes at lower costs. In addition, the COVID-19 pandemic may require customers to make unexpected changes to their product offerings which may adversely affect our business and operating results. Any material modifications, delays, payment defaults or cancellations on underlying contracts relating to the COVID-19 pandemic could reduce the amount of backlog currently reported and, consequently, could inhibit the conversion of that backlog into revenues. In addition, worsening overall market conditions could result in further reductions of backlog, which will impact our financial performance. While the pandemic is expected to affect customer demand, it is difficult to predict such changes at this time and the impact that such changes will have on our revenues and operating margins. There can be no assurance that we will be successful in implementing effective strategies to counter any changes in demand. Any decrease in demand or disruption to our business resulting from the COVID-19 pandemic would adversely affect our revenues and results of operations.
We may be unable to meet the demands of our customers, including those in the aerospace & defense and medical sectors, as expected which may adversely and materially affect our business, results of operations and financial conditions.
During fiscal 2020, the aerospace & defense sector represented 60% of our business and the medical sector represented 26% of our business. Due to the nature of the lifesaving and mission critical products provided by these markets, many of our customers in these sectors are deemed to be essential businesses. In response to the pandemic and the increased demand for aerospace & defense, medical and lifesaving products, we experienced increases in demand from existing customers in the aerospace & defense and medical sectors. This demand has increased at the same time our supply chain has begun to face limitations, which may result in a shortage of supply, increased costs, and delays, requiring us in certain instances to pass through expenses or otherwise increase prices. Customers may reject any attempts to pass through expenses or increase pricing which would negatively impact our business. Further, if we are unable to ramp up our production, hire and onboard sufficient staff to meet the increased demand, or if we are otherwise unable to timely meet the demand from our customers, our business and results of operations will be negatively affected. The realization of our backlog is affected by our performance and the late completion of a project may result in decreased revenues derived from those projects. In addition, the increase in demand we are currently experiencing from the medical sector as a result of the COVID-19 pandemic may not continue after the pandemic subsides. Moreover, the increase in demand may result in decreased demand for such products after the COVID-19 pandemic subsides because there may be a large surplus of such medical products after the pandemic subsides.
Business and Operational Risks
We depend on a relatively small number of customers, the loss of one or more of whom may have a material adverse effect on our operating results.
A relatively small number of customers are responsible for a significant portion of our net sales. During fiscal 2020 and fiscal 2019, our five largest customers accounted for 68% and 51% of net sales, respectively. The percentage of our sales to our major customers may fluctuate from period to period, and our principal customers may also vary from year to year. Significant reduction in sales to any of our major customers, or the loss of a major customer, could have a material adverse effect on our results of operations and financial condition.
We rely on the continued growth and financial stability of our customers, including our major customers. Adverse changes in the end markets they serve can reduce demand from our customers in those markets and/or make customers in these end markets more price sensitive. Further, mergers or restructuring among our customers, or their end customers, could increase concentration or reduce total demand as the combined entities reevaluate their business and consolidate their suppliers. Future developments, particularly in those end markets that account for more significant portions of our revenues, could harm our business and our results of operations.
Because of this concentration in our customer base, we have significant amounts of trade accounts receivable from some of our customers. If one or more of our customers experiences financial difficulty and is unable to provide timely payment for the services provided, our operating results and financial condition could be adversely affected.
In addition, consolidation among our customers could intensify this concentration and adversely affect our business. In the event of consolidation among our customers, depending on which organization controls the supply chain function following the consolidation, we may not be retained as a preferred or approved supplier. In addition, product duplication could result in the termination of a product line that we currently support. While there is potential for increasing our position with the combined customer, our revenues could decrease if we are not retained as a continuing supplier. Even if we are retained as a supplier, we may also face the risk of increased pricing pressure from the combined customer because of its increased market share.
We participate in the electronics industry, which historically produces technologically advanced products with short life cycles.
Factors affecting the electronics industry in general could seriously harm our customers and, as a result, us. These factors may include, but may not be limited to:
•the inability of our customers to adapt to rapidly changing technology and evolving industry standards, which result in short product life cycles;
•the inability of our customers to develop and market their products, some of which are new and untested;
•increased competition among our customers and their competitors, including downward pressure on pricing;
•the potential that our customers’ products may become obsolete, or the failure of our customers’ products to gain anticipated commercial acceptance; and
•periods of significantly decreased demand in our customers’ markets.
Because a significant portion of our business is defense-related, reductions or delays in U.S. defense spending may have a material adverse effect on our revenues.
During fiscal 2020 and fiscal 2019, our sales to customers serving the aerospace and defense industries approximated 60% of our sales in both years. Because these products and services are ultimately sold to the U.S. government by our customers, these sales are affected by, among other things, the federal budget process, which is driven by numerous factors beyond our control, including geopolitical, macroeconomic and political conditions. The contracts between our direct customers and their government customers are subject to political and budgetary constraints and processes, changes in short-range and long-range strategic plans, the timing of contract awards, the congressional budget authorization and appropriation processes, the government’s ability to terminate contracts for convenience or for default, as well as other risks such as contractor suspension or debarment in the event of certain violations of legal and regulatory requirements.
While we believe that our customers’ programs are well aligned with national defense and other priorities, shifts in domestic and international spending and tax policy, changes in security, defense and intelligence priorities, the affordability of our products and services, general economic conditions and developments, and other factors may affect a decision to fund or the level of funding for existing or proposed programs. An impasse in federal budget decision-making could lead to substantial delays or reductions in federal spending. As a result, U.S. government funding for certain of our customers has been and could continue to be reduced, delayed or eliminated, which could significantly impact these customers’ demand for our products and services and if so this could have a material adverse effect on our business, results of operations and cash flows.
We are subject to extensive regulation and audit by the Defense Contract Audit Agency.
The accuracy and appropriateness of certain costs and expenses used to substantiate our direct and indirect costs for U.S. government contracts are subject to extensive regulation and audit by the Defense Contract Audit Agency, an arm of the U.S. Department of Defense. Such audits and reviews could result in adjustments to our contract costs and profitability. We cannot ensure the outcome of any future audits and adjustments may be required to reduce net sales or profits upon completion and final negotiation of audits. If any audit or review were to uncover inaccurate costs or improper activities, we could be subject to penalties and sanctions, including termination of contracts, forfeiture of profits, suspension of payments, fines and suspension or prohibition from conducting future business with the U.S. government. Any such outcome could have a material adverse effect on our financial results.
Our business could be negatively impacted by economic slowdowns in the medical sector.
The medical sector represented approximately 26% and 22% of our sales during fiscal 2020 and fiscal 2019, respectively. Medical device industries are intensely competitive and heavily regulated. Medical businesses must operate within an evolving regulatory and risk environment, with ongoing pricing and cost pressures, and adoption of new business models driven by scientific and technological advances. Any significant change in production rates or any restructuring by customers in this sector would likely have a material effect on our results of operations. There is no assurance that our customers will continue to buy products from us at current levels, that we will retain any or all of our existing customers or that we will be able to form new relationships with customers upon the loss of one or more of our existing customers in this market. Any material reduction in sales, consolidation or slowdowns in the medical sector could have a negative impact on our business and financial results.
Global economic and financial market conditions may have a material adverse effect on our results of operations and financial condition.
Current global economic and financial market conditions, including the onset of a global economic recession, may have a material adverse effect on our results of operations and financial condition. These conditions may also materially impact our customers and suppliers. Economic and financial market conditions that adversely affect our customers may cause them to terminate or delay existing purchase orders or to reduce the volume of products they purchase from us in the future. We may be owed significant balances from customers that operate in cyclical industries and under leveraged conditions that could impair their ability to pay amounts owed to us on a timely basis. Failure to collect a significant portion of those receivables could have a material adverse effect on our results of operations and financial condition.
Similarly, adverse changes in credit terms extended to us by our suppliers, such as shortening the required payment period for outstanding accounts payable or reducing the maximum amount of trade credit available to us could significantly affect our liquidity and thereby have a material adverse effect on our results of operations and financial condition.
If we are unable to successfully anticipate changing economic and financial market conditions, we may be unable to effectively plan for and respond to those changes, and this could have a material adverse effect on our operating results.
Tariffs imposed by the U.S. and those imposed in response by other countries, as well as rapidly changing trade relations, could have a material adverse effect on our business and results of operations.
Changes in U.S. and foreign governments’ trade policies have resulted in, and may continue to result in, tariffs on imports into and exports from the U.S. The U.S. has imposed tariffs on imports from several countries, including China, Canada and the European Union. In response, China, Canada and the European Union have proposed or implemented their own tariffs on certain products and product components, including components we use, impacting our supply chain and increasing our costs of doing business. Although the majority of our customers allow us to recover tariffs, if we are unable to recover these costs, our profit margins may be negatively impacted. Continued diminished trade relations between the U.S. and other countries, including potential reductions in trade with China and others, as well as the continued escalation of tariffs, could have a material adverse effect on our financial performance and results of operations.
A failure of our information technology systems, including the implementation of our new enterprise resource planning system, could have a material adverse effect on our business.
A failure or prolonged interruption in our information technology systems, some of which are aging, or difficulties encountered in upgrading our systems or implementing new systems, that compromises our ability to meet our customers’ needs, or impairs our ability to record, process and report accurate information could have a material adverse effect on our financial condition.
We are in the process of implementing a financial reporting system, Epicor ERP Software (“Epicor”), as part of a multi-year plan to integrate and upgrade our systems and processes. Epicor will assist with the collection, storage, management and
interpretation of data from our business activities to support future growth and to integrate significant processes. Enterprise resource planning (“ERP”) system implementations are complex and time-consuming and involve substantial expenditures on system software and implementation activities, as well as changes in business processes. As part of the Epicor implementation, certain changes to our processes and procedures have and will continue to occur. These changes will result in changes to our internal control over financial reporting. While Epicor is designed to strengthen our internal financial controls by automating certain manual processes and standardizing business processes and reporting across our organization, management will continue to evaluate and monitor our internal controls as each of the affected areas evolve.
Our ERP system is critical to our ability to accurately maintain books and records, record transactions, provide important information to our management and prepare our consolidated financial statements. ERP system implementations also require the transformation of business and financial processes in order to reap the benefits of the ERP system; any such transformation involves risks inherent in the conversion to a new computer system, including loss of information and potential disruption to our normal operations. Any disruptions, delays or deficiencies in the design and implementation of a new ERP system could adversely affect our ability to process orders, provide services and customer support, send invoices and track payments, fulfill contractual obligations or otherwise operate our business. Additionally, if the ERP system does not operate as intended, the effectiveness of our internal control over financial reporting could be adversely affected or our ability to assess it adequately could be further impacted.
Products we manufacture may contain defects in workmanship, which could result in reduced demand for our services and product liability claims against us.
We manufacture highly complex products to our customers’ specifications, often within tight tolerance ranges, and such products may contain design or manufacturing errors or defects. Defects in the products we manufacture, whether caused by customer design, workmanship, component failure, the use of component suppliers’ products or services, or other error, may result in delayed shipments to customers or reduced or canceled customer orders, adversely affecting our reputation and may result in product liability claims against us. Even if customers or component suppliers are responsible for the defects, they may be unwilling or unable to assume responsibility for costs associated with product failure, which could adversely affect our reputation, customer relationships, and results of operations.
We may not be able to maintain the engineering, technological and manufacturing capabilities required by our customers in the future.
The markets for our manufacturing and engineering services are characterized by rapidly changing technology and evolving process development. The continued success of our business will depend upon our ability to:
•hire and retain qualified engineering and technical personnel;
•maintain and enhance our technological leadership; and
•develop and market manufacturing services that meet changing customer needs.
Although we believe that our operations provide the assembly and testing technologies, equipment and processes that are currently required by our customers, there is no certainty that we will develop the capabilities required by our customers in the future. The emergence of new technology, industry standards or customer requirements may render our equipment, inventory or processes obsolete or noncompetitive; or we may have to acquire new assembly and testing technologies and equipment to remain competitive. The acquisition and implementation of new technologies and equipment may require significant expense or capital investment that could adversely affect our operating results, as could our failure to anticipate and adapt to our customers’ changing technological requirements.
Failure to attract and retain key personnel and other skilled employees could have a material adverse effect on our business.
Our continued success depends to a large extent on our ability to recruit, train, and retain skilled employees, particularly executive management and technical employees. The competition for these individuals is significant. Accordingly, the loss of the services of certain of these key employees or an inability to attract or retain qualified employees could negatively impact us.
Further, any new acquisitions or developments by us will require the hiring of significant additional workforce to support operations at such properties. Any shortage of skilled labor in the areas of these operations could result in our having insufficient personnel to expand production and fully utilize capacity at our new or developed properties, which could adversely affect our financial condition and results of operations. As a result of our acquisitions and developments, we may be more susceptible to labor shortages than our competitors.
Increases in minimum wage could increase the cost of our labor and have a material adverse effect on our financial results.
We have a substantial number of hourly employees who are paid wage rates at or above the applicable federal or state minimum wage. From time to time, federal and state governments have increased and will consider increases in the minimum wage. Several states in which we operate have enacted increases in the minimum wage and legislation to increase the minimum wage may be enacted in the future in states in which we operate. As federal or state minimum wage rates increase, we may need to increase not only the wage rates of our minimum wage employees, but also the wages paid to our other hourly employees in order to remain competitive. Any increase in the cost of our labor could have an adverse effect on our operating costs, financial condition and results of operations.
Our operating results may fluctuate from period to period.
Our annual and quarterly operating results may fluctuate significantly depending on various factors, many of which are beyond our control. These factors may include, but are not necessarily limited to:
•adverse changes in general economic conditions;
•natural disasters that may impede our operations, the operation of our customers’ business, or availability of manufacturing inputs from our suppliers;
•the level and timing of customer orders and the accuracy of customer forecasts;
•the capacity utilization of our manufacturing facilities and associated fixed costs;
•market acceptance of our customers’ products;
•business conditions in our customers’ end markets;
•our level of experience in manufacturing a particular product;
•changes in the mix of sales to our customers;
•variations in efficiencies achieved in managing inventories and property, plant and equipment;
•fluctuations in cost and availability of materials;
•timing of expenditures in anticipation of future orders;
•changes in cost and availability of labor and components;
•our effectiveness in managing the high reliability manufacturing process required by our customers; and
•failure or external breach of our information technology systems.
The EMS industry is affected by the United States and global economies, both of which are influenced by world events. An economic slowdown, particularly in the industries we serve, may result in our customers reducing their forecasts or delaying orders. The demand for our services could weaken, which in turn could substantially influence our sales, capacity utilization, margins and financial results.
If we experience deficiencies in our internal control over financial reporting and procedures, it could have a material adverse effect on our business and on our investors’ confidence in our reported financial information, and there is no guarantee that our internal control over financial reporting and procedures will not fail in the future.
Effective internal control over financial reporting and disclosure controls and procedures are necessary for us to provide reliable financial reports and to detect and prevent fraud. We have been and may be required in the future to expend funds and resources in order to rectify identified deficiencies in our internal controls. Our disclosure controls and internal control over financial reporting may not prevent all errors or all instances of fraud. Because of the inherent limitations in control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our business have been detected. Moreover, projections of any evaluation of effectiveness to future periods are subject to the risks that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. The benefits of a control system also must be considered relative to the costs of the system and management’s judgments regarding the likelihood of potential events. There can be no assurance that any control system will succeed in achieving its goals under all possible future conditions, and as a result of these inherent limitations, misstatements due to error or fraud may occur and may or may not be detected. If there is a failure in any of our internal controls and procedures, we could face investigation or enforcement actions by the SEC and other governmental and regulatory bodies, litigation, loss of reputation and investor confidence, the inability to acquire capital, and other material adverse effects on our finances and business operations.
The agreements governing our debt contain various covenants that may constrain the operation of our business, and our failure to comply with these covenants may have a material adverse effect on our financial condition.
The agreements and instruments governing our secured bank credit facility (the “Credit Facility”) with Manufacturers and Traders Trust Company (“M&T Bank”) and other existing debt contain various covenants that, among other things, require us
to comply with certain financial covenants including maintenance of a fixed charge coverage ratio. The agreements and instruments governing the Credit Facility require financial and other reporting, contain limitations on revolving loan borrowings and restrict or limit our ability to take certain corporate actions.
The Credit Facility is secured by a general security agreement covering the assets of the Company and its subsidiaries, a pledge of the Company’s equity interest in its subsidiaries, a negative pledge on the Company’s real property, and a guarantee by the Company’s subsidiaries, all of which restrict use of these assets to support other financial instruments.
To the extent we are required to seek waivers and/or amendments, we may experience increased borrowing costs. If we are not in compliance with all of our debt covenants, and if M&T Bank chooses to exercise its remedies, M&T Bank could accelerate our primary indebtedness which could cause cross-defaults with respect to other obligations, causing a material adverse effect on our financial condition including, our inability to obtain replacement financing or continue operations. Our ability to comply with covenants contained in our Credit Facility and other existing debt may be affected by events beyond our control, including prevailing economic, financial and industry conditions.
We are subject to ongoing compliance obligations in connection with an administrative order and our failure to comply with those obligations could adversely affect our business and the liquidity of our common stock.
In June 2016, we consented to the entry of a settled administrative order by the SEC (the “Administrative Order”), pursuant to which, among other things, we agreed to cease-and-desist from committing or causing any violations or future violations of certain provisions of the Securities Exchange Act of 1934, as amended, and certain rules thereunder. If we are found to be in violation of the Administrative Order, we may be subject to additional enforcement actions or lawsuits that could lead to added penalties and consequences which may be more severe than if we were not subject to the Administrative Order. The costs of such actions and of defending lawsuits could be significant and exceed the amount of our available insurance coverage. Governmental scrutiny, pending or future investigations by regulators or law enforcement agencies or legal proceedings involving us or our affiliates could adversely affect our business and results of operations.
Start-up costs and inefficiencies related to new or transferred programs can have a material adverse effect on our operating results and may not be recoverable.
Our long-term success depends in part upon our ability to support our customers as they bring new products and programs to market, or transfer programs to us. Often these products and programs have technological issues and require, or our customers desire, engineering and other changes and innovations in order to facilitate full-scale production and end-user acceptance. Although some of these programs, particularly in the defense and space industries, once mature, will likely profitably extend over many years and will be difficult to transfer to our competitors, we may have to make significant upfront investments in them that may be recovered only over the longer term. These investments may have a significant impact on our profitability in nearer term periods. Moreover, start-up costs, including the management of labor and equipment resources in connection with establishing new programs and new customer relationships, and difficulties in estimating required resources and the timing of those resources in advance of production, can adversely affect our operating results. If new programs or customer relationships are terminated or delayed, this could have a material adverse effect on our operating results, particularly in the near term, as we may not recoup those start-up costs or quickly replace anticipated new program revenues.
Some of our customers may have regulatory issues that adversely affect our operating results.
Some of our larger customers are in heavily regulated industries, such as health care. If they encounter issues with their regulators related to products we manufacture for them, there may be long delays in resolving those issues or the issues may not be resolved at all, which would adversely affect our operating results.
We may not realize the full value of our backlog, which may result in lower than expected revenue.
At the end of fiscal 2020, our backlog was $194.5 million. We may never realize all of the revenue included in our present backlog. In addition, there can be no assurance that our backlog will result in actual revenue in any particular period due to the receipt, timing, and amount of revenue under contracts included in backlog being subject to various contingencies, many of which are beyond our control. Even if our revenue included in our backlog is realized, there can be no guarantee that the revenue realization will result in a profit. A failure to realize any or all of the revenue included in our present backlog could result in a material adverse effect on our business and results of operations.
Most of the customers in our industry do not commit to long-term production schedules, which can make it difficult for us to schedule production.
Customers may cancel their orders, change production quantities or delay production for any number of reasons that are beyond our ability to foresee or control. Although we are always seeking new opportunities, we may not be able to replace any deferred, reduced or canceled orders. Cancellations, reductions or delays by a significant customer or by a group of customers could adversely affect our operating results and working capital levels. Such cancellations, reductions or delays have occurred and may occur again. The volume and timing of sales to our customers may vary due to:
•variation in demand for our customers’ products in their end markets;
•actions taken by our customers to manage their inventory;
•product design changes by our customers; or
•changes in our customers’ manufacturing strategy.
Due in part to these factors, most of our customers do not commit to firm, long-term production schedules. Therefore, we make significant judgments based on our estimates of customer requirements, including:
•deciding on the levels of business that we will seek;
•component procurement commitments;
•personnel needs; and
•other resource requirements.
Increased competition may result in decreased demand or reduced prices for our products and services.
The EMS industry is highly fragmented and characterized by intense competition. Additionally, consolidation in the electronic industry could result in an increasing number of very large electronics companies offering products similar to ours in multiple sectors of the EMS industry. We may be operating at a cost disadvantage compared to larger EMS providers who have greater direct buying power from component suppliers, distributors and raw material suppliers or who have lower cost structures as a result of other efficiencies of scale or their geographic location. As a result, other EMS providers with significant purchasing and marketing power may have a competitive advantage. Our manufacturing processes are generally not subject to significant proprietary protection, and companies with greater resources or a greater market presence may enter our market or increase their competition with us. We also expect our competitors to continue to improve the performance of their current products or services, to reduce the prices of their products or services and to introduce new products or services that may offer greater performance and improved pricing. Any of these factors may cause a decline in our sales, loss of market acceptance for our products or services, profit margin compression, or loss of market share.
We depend on a limited number of suppliers for components that are critical to our manufacturing processes. A shortage of these components or an increase in their price could interrupt our operations and adversely affect our operating results.
For fiscal 2020, IEC obtained 22% of the materials used in production from two vendors Avnet, Inc. and Arrow Electronics, Inc. If our vendors were to cease supplying us with materials for any reason, we would be forced to find alternative sources of supply. A change in suppliers could cause a delay in availability of products and a possible loss of sales, which could adversely affect operating results.
Much of our net revenue is derived from turn-key manufacturing for which we provide the materials specified by our customers. Some of our customer agreements permit periodic adjustments to pricing based on increases or decreases in component prices and other factors. However, we typically bear the risk of component price increases that occur between any such re-pricing dates or, if such re-pricing is not permitted during the balance of the term of a particular customer agreement. As a result, some component price increases may have a material adverse effect on our operating results, if we cannot increase prices enough to offset increased costs or if increased prices lead to canceled orders.
Many of the products we manufacture require one or more components that are available from a limited number of suppliers. In response to supply shortages, some of these components are from time to time subject to allocation limits. In some cases, supply shortages or delayed deliveries could substantially curtail production of those assemblies requiring a limited-supply component, which could contribute to an increase in our inventory levels, and could delay shipments to customers and the associated revenue of all products using that component. Component shortages have been prevalent in our industry, and such shortages may recur. An increase in economic activity could result in shortages if manufacturers of components do not adequately anticipate increased order volume or if they have excessively reduced their production capabilities. World events,
armed conflict, governmental regulation, embargoes and changes in trade relations, natural disaster, and epidemics could also affect our supply chain, leading to an inability to obtain sufficient components on a timely basis.
In addition, due to the specialized nature of some components and our customers’ product specifications, we may be required to use sole-source suppliers for certain components. Such suppliers may encounter financial or operational difficulties that could cause delays in or the curtailment of component deliveries.
Our turn-key manufacturing services involve inventory risk.
Our turn-key manufacturing services described above involve a greater investment in inventory and a corresponding increase in risk as compared to consignment services, for which the customer provides all materials. For example, in our turn-key operations, we must frequently order parts and supplies in minimum lot sizes that may be larger than the quantity of product ultimately needed for our customers. Customers’ cancellation or reduction of orders could result in additional expense to us. If we are not reimbursed for excess inventory ordered to meet customer forecasts, we may accumulate excess inventory and/or incur return charges imposed by suppliers. In addition, component price increases and inventory obsolescence associated with turn-key orders could adversely affect our operating results.
Furthermore, we provide inventory management programs for some of our customers under which we are required to hold and manage finished goods inventories. Such inventory management programs may lead to higher finished goods inventory levels, reduced inventory turns and increased financial exposure. In cases where customers have contractual obligations to purchase managed inventories from us, we remain subject to the risk of enforcing the obligation.
Security breaches and other disruptions, both physical and virtual, could compromise our information, harm customer relationships and expose us to liability, which would cause our business and reputation to suffer.
We have access to, create and store sensitive data, including intellectual property, our proprietary business information and that of our customers, and personally identifiable information of our employees. Despite our security measures, our information technology and infrastructure may be vulnerable to attacks by hackers or breached due to employee error, malfeasance or other disruptions. As certain of our employees work remotely in accordance with government mandates related to the ongoing pandemic, we face heightened cyber-security risks related to unauthorized system access, aggressive social engineering tactics, and attacks on our information technology systems used to conduct our business. For example, during the fourth quarter of fiscal 2020, we were subject to a cyber incident which, individually and in the aggregate, did not result in a material impact to our operations or financial condition. While we have taken preventative measures to mitigate this risk, we can provide no assurance that we will not be the subject of similar cyberattacks in the future. Cybersecurity breaches, system disruptions and failures may interrupt or delay our ability to provide services to our customers and expose our business and our customers to harm. Any such breach could compromise our networks and the information stored there could be improperly accessed, disclosed, lost or stolen. Any such access, disclosure or other loss of information could disrupt our operations and the services we provide to customers, damage our reputation or our customer relationships, impair our ability to record, process and report accurate information to our stockholders and the SEC, or result in legal claims or proceedings, any of which could adversely affect our business, financial condition, revenues and competitive position. We carry cyber insurance to minimize the potential impact that a security breach may have on our financial condition or results of operations; however, liabilities incurred in connection with a security breach could exceed the limit that our insurer will pay or reimburse, in which case we would bear these fees and costs directly.
Our manufacturing processes and services may result in exposure to intellectual property infringement and other claims.
Providing manufacturing services can expose us to potential claims that products, designs or manufacturing processes we use infringe third party intellectual property rights. Even though many of our manufacturing services contracts generally require our customers to indemnify us for infringement claims relating to their products, including associated product specifications and designs, a particular customer may not, or may not have the resources to, assume responsibility for such claims. In addition, we may be responsible for claims that our manufacturing processes or components used in manufacturing infringe third party intellectual property rights. Infringement claims could subject us to significant liability for damages, potential injunctive action, or hamper our normal operations such as by interfering with the availability of components and, regardless of merits, could be time-consuming and expensive to resolve, and could have a material adverse effect on our results of operations and financial position. In the event of such a claim, we may be required to spend a significant amount of money to develop non-infringing alternatives or obtain and maintain licenses. We may not be successful in developing such alternatives or obtaining and maintaining such a license on reasonable terms or at all. Our customers may be required to or decide to discontinue products which are alleged to be infringing rather than face continued costs of defending the infringement claims, and such discontinuance may result in a significant decrease in our business.
A failure to comply with customer-driven policies and standards, including those related to social responsibility and conflict minerals, could adversely affect our business and reputation.
In addition to government regulations and industry standards, our customers may require us to comply with their own social responsibility, conflict minerals, quality or other business policies or standards, which may be more restrictive than current laws and regulations as well as our pre-existing policies, before they commence, or continue, doing business with us. Such policies or standards may be customer-driven, established by the industry sectors in which we operate or imposed by third party organizations, such as the SEC’s conflict mineral rules.
Our compliance with these policies, standards and third party certification requirements could be costly, and our failure to comply could adversely affect our operations, customer relationships, reputation and profitability. In addition, our adoption of these standards could adversely affect our cost competitiveness, ability to provide customers with required service levels and ability to attract and retain employees in jurisdictions where these standards vary from prevailing local customs and practices.
If we are unable to maintain satisfactory capacity utilization rates, our results of operations and financial condition would be adversely affected.
Given the high fixed costs of our operations, decreases in capacity utilization rates can have a significant effect on our business. Accordingly, our ability to maintain or enhance gross margins continues to depend, in part, on maintaining satisfactory capacity utilization rates. In turn, our ability to maintain satisfactory capacity utilization depends on the demand for our products, the volume of orders we receive, and our ability to offer products that meet our customers’ requirements at competitive prices. If current or future production capacity fails to match current or future customer demands, our facilities would be underutilized, our sales may not fully cover our fixed overhead expenses, and we would be less likely to achieve anticipated gross margins. If forecasts and assumptions used to support the implied fair value of goodwill or realizability of our long-lived assets including intangible assets change, we may incur significant impairment charges, which would adversely affect our results of operations and financial condition, as we have experienced.
In addition, we generally schedule our production facilities at less than full capacity to retain our ability to respond to unexpected additional quick-turn orders. However, if these orders are not received, we may forego some production and could experience continued excess capacity. If we conclude that we have significant, long-term excess capacity, we may decide to permanently close one or more of our facilities and lay off some of our employees. Closures or lay-offs could result in our recording restructuring charges such as severance and other exit costs, and asset impairments.
If our customers choose to provide manufacturing services in-house or overseas, our results of operations could suffer.
Our business has benefited from OEMs deciding to outsource their EMS needs to us. Our future revenue growth depends, in part, on new outsourcing opportunities from OEMs. Current and prospective customers continuously evaluate our performance against other providers, including off-shore procurement opportunities. They also evaluate the potential benefits of manufacturing these products themselves. To the extent that outsourcing opportunities are not available either due to OEM decisions to produce these products themselves or to use other domestic or foreign providers, this could have a material adverse effect on our financial results and prospects.
We may experience disruptions to our business as a result of the relocation of our headquarters and a significant portion of our operations.
We expect to open a new state-of-the-art manufacturing facility, including our headquarters and a significant portion of our operations, in Newark, New York. The process of moving our operations to a new facility is not part of our typical day-to-day operations and may be complex. This relocation process could cause significant disruption to our operations and productivity. We can give no assurance that the relocation will be completed as planned or within the anticipated timeframe. Additionally, the relocation may involve significant costs and the expected benefits of the relocation may not be fully realized due to any associated disruption to our operations and personnel.
Acquired properties and development may subject us to unanticipated liabilities.
Properties that we have acquired, or those we may acquire in the future, may subject us to unanticipated liabilities for which we would have no recourse, or only limited recourse, to the former owners of such facilities, including the discovery of structural or other latent defects in the property. As a result, if a third party claim for liability were asserted against us based upon ownership of an acquired facility, we might be required to pay significant sums to settle it, which could adversely affect our financial results and cash flow. Unknown liabilities relating to acquired facilities could include, among other things, (i) liabilities for clean-up of undisclosed environmental contamination, (ii) claims by vendors or other persons arising on account of actions or omissions of the former owners of the facilities, and (iii) liabilities incurred in the ordinary course of business.
Further, acquiring properties that are not yet fully developed or need substantial renovation, rehabilitation or redevelopment poses additional risks, including delays or cost overruns due to a variety of factors including, material or labor shortages, difficulties in obtaining necessary permits and authorizations, and unanticipated changes in scope of the project due to unforeseen structural or environmental issues. Any failure to complete a redevelopment project in a timely manner and within budget could have a material adverse effect upon our business, results of operation and financial condition.
Demand estimates for investments in new properties or development may not result in the benefits we anticipate from these investments.
Substantial capital investments are made in connection with acquisitions and development of our properties to increase our capacity. If we overestimate demand, we may not realize the benefit we anticipate from these investments. Overestimates in customer demand could result in excess capacity at our properties, which would result in increased fixed costs relative to the revenue we generate, which could adversely affect our results of operations.
Failure to comply with current and future governmental regulations related to defense, health and safety and the environment could impair our operations or cause us to incur significant expense.
We are subject to a variety of United States government regulations that control the export and import of defense-related articles and services, as well as federal, state and local regulatory requirements relating to employee occupational health and safety, and environmental and waste management regulations relating to the use, storage, discharge and disposal of hazardous materials used in our manufacturing process. To date, the cost to us of such compliance has not had a material impact on our business, financial condition or results of operations. However, violations may occur in the future as a result of human error, equipment failure or other causes. Further, we cannot predict the nature, scope or effect of environmental legislation or regulatory requirements that could be imposed in the future, or how existing or future laws or regulations will be administered or interpreted. Compliance with more stringent laws or regulations, as well as more vigorous enforcement policies of regulatory agencies, could require substantial expenditures by us and could have a material adverse effect on our business, financial condition and results of operations. If we fail to comply with any present or future regulations, we could be subject to future liabilities or the suspension of production which could have a material adverse effect on our results of operations. While we are not currently aware of any violations, such regulations could restrict our ability to expand our facilities or could require us to acquire costly equipment, or to incur other significant compliance-related expenses.
We may face heightened liability risks specific to our medical device business as a result of additional healthcare regulatory related compliance requirements and the potential severe consequences that could result from manufacturing defects or malfunctions (e.g., death or serious injury) of the medical devices we manufacture, design or test.
As a manufacturer and designer of medical devices for our customers, we have compliance requirements in addition to those relating to other areas of our business. We are required to register with the FDA and are subject to periodic inspection by the FDA for compliance with the FDA’s Quality System Regulation (“QSR”) and current Good Manufacturing Practices (“cGMP”) requirements, which require manufacturers of medical devices to adhere to certain regulations and to implement design and process manufacturing controls, quality control, labeling, handling and documentation procedures. The FDA, through periodic inspections and product field monitoring, continually reviews and rigorously monitors compliance with these QSR requirements and other applicable regulatory requirements. If any FDA inspection reveals noncompliance, and we do not address the FDA’s concerns to its satisfaction, the FDA may take action against us, including issuing a form noting the FDA’s inspection observations, a notice of violation or a warning letter, imposing fines, bringing an action against us and our officers, requiring a recall of the products we manufactured for our customers, issuing an import detention on products entering the U.S. from an offshore facility or temporarily halting operations at or shutting down a manufacturing facility. If any of these were to occur, our reputation and business could suffer.
In addition, any defects or malfunctions in medical devices we manufacture or in our manufacturing processes and facilities may result in liability claims against us, expose us to liability to pay for the recall or remanufacture of a product, or otherwise adversely affect product sales or our reputation. The magnitude of such claims could be particularly severe as defects in medical devices could cause severe harm or injuries, including death, to users of these products and others.
Item 1B. UNRESOLVED STAFF COMMENTS
Item 2. PROPERTIES
We own or lease properties in three locations that together house our administrative offices (“AO”), engineering (“E”), manufacturing (“M”), warehouse (“W”) and distribution (“D”) functions, as follows:
|Location||Principal Use||Building SF||Owned/Leased||Lease Expiration|
Newark, New York (1)
|Rochester, New York||AO,M,W,D||47,000||Leased||5/31/2033|
|Albuquerque, New Mexico||AO,E,M,W,D||72,000||Leased||9/30/2031|
(1)Please see the disclosure regarding the expansion of our operations in Newark, NY below and under “Expansion of Newark, New York Manufacturing Operations” in Part I, Item 1 of this report.
(2)Please see the disclosure regarding our recent acquisition of the Jetview property in Rochester, NY under “Note 15—Subsequent Events.” We anticipate that when operational this property will be principally used for administrative offices, manufacturing, warehouse and distribution functions.
Our properties are generally in good condition and are suitable for their intended purposes.
On December 10, 2018, the Company, entered into a Lease (the “Lease”), with 1000 Silver Hill LV LLC, a New York limited liability company (the “Landlord”), for certain property located in Newark, New York, that will include a new state-of-the art manufacturing facility and administrative offices having approximately 153,000 square feet (the “Property”). Pursuant to the Lease, the Company will lease the Property for an initial term of 15 years with one renewal option of 10 years. The lease will not commence until we take control of the building, which is anticipated to be during fiscal 2021.
In October 2020, the Company acquired an approximately 86,000 square foot industrial and office building and certain equipment located at 50 Jetview Drive, Rochester, New York for a purchase price of $5,250,000, exclusive of closing costs. The Company financed a portion of the purchase price for this property with a mortgage loan from M&T Bank.
Item 3. LEGAL PROCEEDINGS
From time to time, we may be involved in legal actions in the ordinary course of our business, but management does not believe that any such proceedings individually or in the aggregate, will have a material effect on our consolidated financial statements.
Item 4. MINE SAFETY DISCLOSURES
INFORMATION ABOUT OUR EXECUTIVE OFFICERS
Our executive officers at September 30, 2020 were as follows:
|Jeffrey T. Schlarbaum||54||President and Chief Executive Officer|
|Thomas L. Barbato||51||Senior Vice President and Chief Financial Officer |
Jeffrey T. Schlarbaum, age 54, has served as a director and as our President and Chief Executive Officer since February 2015. From February 2013 to June 2013 and from June 2014 to February 2015, Mr. Schlarbaum pursued personal interests. From June 2013 to June 2014, Mr. Schlarbaum served as Chief Operations Officer for LaserMax, Inc., a manufacturer of laser gun sights for law enforcement and the shooting sports community. From October 2010 to February 2013, Mr. Schlarbaum served as our President. Prior to that, Mr. Schlarbaum served as our Executive Vice President and President of Contract Manufacturing from October 2008 to October 2010, Executive Vice President from November 2006 to October 2008 and Vice President, Sales & Marketing from May 2004 to November 2006. Prior to joining us, Mr. Schlarbaum served in senior management roles with various contract manufacturing companies. Since July 2017, Mr. Schlarbaum also serves as a director and member of the audit committee of Lakeland Industries, Inc.
Thomas L. Barbato, age 51, has served as our Senior Vice President and Chief Financial Officer since September 2018.
Prior to joining us, Mr. Barbato held various positions with Xerox Corporation, an American global corporation that sells print and digital document solutions, and document technology products, most recently serving as Vice President of Finance, North America Operations, Pricing and Contracting Center of Excellence, from January 2017 to September 2018; Vice President of Finance and Chief Financial Officer, Xerox Large Enterprise Operations (LEO) U.S., from March 2014 to December 2016;
Vice President of Finance Transformation and Director, Xerox Business Services, from April 2013 to March 2014; and Finance Director, Acquisition Operations Office from April 2010 to April 2013. Prior to joining Xerox Corporation in 1995, Mr. Barbato was a senior auditor with Deloitte & Touche, LLP in Rochester, New York.
Item 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES
(a) Market Information
Our common stock trades on the Nasdaq Global Market under the symbol “IEC”.
As of November 10, 2020, there were approximately 177 holders of record of IEC’s common stock. This figure does not include an estimate of the indeterminate number of beneficial holders whose shares may be held of record by brokerage firms and clearing agencies.
Our Credit Facility includes certain restrictions on paying cash dividends as more fully described in Note 6—Credit Facilities to the Consolidated Financial Statements. We have never paid any cash dividends and have no current plans to pay any dividends in the foreseeable future.
(d) Recent sales of Unregistered Securities
(e) Repurchases of IEC Securities
We did not repurchase any shares during the fourth quarter of the fiscal year ended September 30, 2020. Furthermore, certain covenants in our credit agreement with M&T Bank limit our ability to repurchase shares of our common stock.
Item 6. SELECTED FINANCIAL DATA
|Years Ended September 30,|
|(amounts in thousands, except per share data)|
|Net sales||$||182,714 ||$||156,981 ||$||116,922 ||$||96,455 ||$||127,010 |
|Gross profit||24,120 ||21,644 ||14,157 ||11,257 ||20,287 |
|Operating profit||10,134 ||7,568 ||2,719 ||1,060 ||6,248 |
|Income before income taxes||8,696 ||5,923 ||1,573 ||143 ||4,856 |
|Provision/(benefit) for income taxes||1,943 ||1,176 ||(8,837)||62 ||70 |
|Net income||$||6,753 ||$||4,747 ||$||10,410 ||$||81 ||$||4,786 |
|Gross margin as % of sales||13.2 ||%||13.8 ||%||12.1 ||%||11.7 ||%||16.0 ||%|
|Operating profit as % of sales||5.5 ||%||4.8 ||%||2.3 ||%||1.1 ||%||4.9 ||%|
|Diluted net income per common share:||$||0.63 ||$||0.45 ||$||1.01 ||$||0.01 ||$||0.47 |
|Working capital||$||38,448 ||$||40,915 ||$||20,748 ||$||17,194 ||$||19,772 |
|Total assets||122,964 ||110,832 ||90,448 ||52,447 ||50,397 |
|Long-term debt (excluding current portion)||21,476 ||28,910 ||16,002 ||14,023 ||16,732 |
|Long-term finance lease obligation||6,616 ||6,685 ||7,027 ||5,362 ||— |
|Stockholders’ equity||39,155 ||31,240 ||25,376 ||14,429 ||13,864 |
|Fiscal year 2018 was impacted by the income tax benefit recorded to release the majority of the valuation allowance against the net deferred income tax assets. |
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information in this Management’s Discussion and Analysis should be read in conjunction with the accompanying Consolidated Financial Statements (“Financial Statements”), the related Notes and the five-year summary of Selected Financial Data. References to “Notes” in this report are references to the Notes to the Consolidated Financial Statements unless otherwise specified. Forward-looking statements in this Management’s Discussion and Analysis are qualified by the cautionary statement preceding Item 1 of this Form 10-K and the risk factors identified in Item 1A.
Results of Operations
Fiscal Years Ended September 30, 2020 and 2019
A summary of selected income statement amounts during the fiscal years ended September 30, 2020 and 2019 is as follows:
| ||Years Ended|
|Income Statement Data||September 30,|
|Net sales||$||182,714 ||$||156,981 |
|Gross profit||24,120 ||21,644 |
|Selling and administrative expenses||13,986 ||14,076 |
|Interest expense||1,438 ||1,645 |
|Income before income taxes||8,696 ||5,923 |
|Provision for income taxes||1,943 ||1,176 |
|Net income||$||6,753 ||$||4,747 |
A summary of sales, according to the market sector within which IEC’s customers operate, follows:
|Percent of Sales by Sector||September 30,|
|Aerospace and Defense||60%||60%|
Revenue increased 16.4%, or $25.7 million, during fiscal 2020 as compared to the prior fiscal year. The increase was driven by increases in sales in the aerospace and defense sector of $14.4 million and in the medical sector of $14.1 million, partially offset by decreases in the industrial sector of $2.8 million.
Various increases and decreases for our aerospace and defense customers resulted in a net increase in sales of $14.4 million for fiscal 2020 compared to fiscal 2019. Programs frequently fluctuate in demand or end and are replaced by new programs. Aggregate increases in sales in fiscal 2020 due to net increases in customer demand was $7.1 million. We also experienced an increase in sales of $14.0 million from production ramp ups. However, these increases were partially offset by ending customer relationships, contracts reaching the end of their term and other customer delays, which caused a decrease in sales of $6.7 million during fiscal 2020.
The net increase of $14.1 million in sales in the medical sector was primarily due to programs ramping up of $17.5 million. The remaining changes were the result of net increases in customer demand of $4.0 million, partially offset by programs ending with various customers of $7.4 million.
The net decrease in sales for the industrial market sector of $2.8 million was due to $1.9 million of products on hold at two customers and net decreases in customer demand of $0.3 million. The remaining decrease of $0.6 million was the result of programs ending for two customers.
Due to the Chapter 11 bankruptcy filing of a customer, we incurred a $1.0 million pre-tax non-cash charge during fiscal 2020, related to the increase in our excess and obsolete inventory reserve. The customer communicated to its vendors to “cease providing all products” under its court-supervised process. No portion of the impairment charge is anticipated to result in future cash expenditures. We intend to preserve all rights and pursue available legal remedies to recover any losses suffered as a result of the customer’s Chapter 11 bankruptcy filing. These charges impacted our financial results reported under accounting principles generally accepted in the United States of America (“GAAP”). Net income in fiscal 2020 was $6.8 million, and, adjusted for the $1.0 million pre-tax impact from the one-time inventory reserve, adjusted net income was $7.5 million. Information regarding this non-GAAP measure and a reconciliation of net income to adjusted net income is provided below under “Non-GAAP Financial Measures.”
Gross profit was $24.1 million in fiscal 2020 and increased by $2.5 million compared to $21.6 million in fiscal 2019. Gross profit represented 13.2% and 13.8% of sales in fiscal 2020 and fiscal 2019, respectively. The customer bankruptcy filing had the most significant impact on gross profit, in addition to customer mix. Excluding the non-cash charge related to the customer's Chapter 11 bankruptcy filing, our adjusted gross margin would have been 13.7% of sales. Information regarding this non-GAAP measure and a reconciliation of gross profit and gross margin to adjusted gross profit and adjusted gross margin are provided below under “Non-GAAP Financial Measures.”
Selling and administrative expenses decreased slightly and represented 7.7% of sales in fiscal 2020, compared to 9.0% of sales in the prior fiscal year. The decrease is due to professional fees, offset by higher employee related costs.
Interest expense decreased by $0.2 million in fiscal 2020 compared to the prior fiscal year. The weighted average interest rate on our debt was 1.34% lower during fiscal 2020 than the prior fiscal year. Our average outstanding debt balances increased by $1.7 million in fiscal 2020 compared to fiscal 2019 because of higher balances on our revolving credit facility. Cash paid for interest on credit facility debt was approximately $1.3 million for fiscal 2020 and fiscal 2019. Detailed information regarding our borrowings is provided in Note 6—Credit Facilities.
As of September 30, 2020, our deferred tax assets were primarily the result of U.S. federal net operating loss carryforwards (“NOLs”) and New York state tax credit carryforwards. A valuation allowance of $1.4 million was recorded against our gross deferred tax asset balance as of September 30, 2020, and 2019.
We have federal NOLs for income tax purposes of approximately $15.2 million at September 30, 2020, expiring in tax year 2034. We also have an additional state NOL available of $0.1 million in one jurisdiction in which we file.
Non-GAAP Financial Measures
In addition to reporting net income, gross profit and gross margin, U.S. GAAP measures, we present adjusted net income, adjusted gross profit and adjusted gross margin, which are non-GAAP measures, to reflect the impact of a one-time inventory reserve related to a customer’s bankruptcy. We believe these non-GAAP measures are important measures of our performance because they allow management, investors and others to evaluate and compare our performance from period to period by removing the impact of the one-time inventory reserve related to a customer's bankruptcy. Adjusted net income, adjusted gross profit and adjusted gross margin are not measures of financial performance under GAAP and are not calculated through the application of GAAP. As such, they should not be considered as a substitute for the GAAP measures of net income, gross profit and gross margin and therefore, should not be used in isolation of, but in conjunction with, the GAAP measures. These non-GAAP measures may produce results that vary from the GAAP measures and may not be comparable to a similarly titled non-GAAP measure used by other companies.
|Twelve Months Ended|
|Reconciliation to adjusted gross profit:|
|Gross profit||$||24,120 |
Non-cash charge (1)
|Adjusted gross profit||$||25,107 |
|Reconciliation to adjusted gross margin:|
|Gross margin||13.2 ||%|
Non-cash charge (1)
|Adjusted gross margin||13.7 ||%|
|Reconciliation to adjusted net income:|
|Net income||$||6,753 |
Non-cash charge (1)
Income tax effect (2)
|Adjusted net income||$||7,533 |
(1) A non-cash charge related to the increase in our excess and obsolete inventory reserve due to the Chapter 11 bankruptcy filing of a customer of IEC.
(2) The income tax effect related to the non-cash charge was calculated using an effective tax rate of 21%.
Liquidity and Capital Resources (Fiscal Years Ended September 30, 2020 and 2019)
As of September 30, 2020, there was $4.4 million of outstanding capital expenditure commitments for manufacturing equipment and manufacturing facilities. We generally fund capital expenditures with cash flow from operations, our revolving credit facility and our equipment line advances. Based on our current expectations, we believe that our projected cash flows provided by operations and potential borrowings under the revolving credit facility and equipment line advances, are sufficient to meet our working capital, debt service and capital expenditure requirements for the next twelve months.
Our cash management system provides for the funding of the disbursement accounts on a daily basis as checks are presented for payment. Under this system, outstanding checks in excess of the bank balance create a book overdraft.
Summary of Cash Flows
A summary of selected cash flow amounts for the fiscal years ended follows:
| ||Years Ended|
|Cash Flow Data||September 30,|
|Cash, beginning of year||$||— ||$||— |
|Net cash flow provided by/(used in):|| || |
|Operating activities||15,020 ||(10,456)|
|Financing activities||(8,440)||12,554 |
|Net cash increase for the year||312 ||— |
|Cash, end of year||$||312 ||$||— |
Cash flows provided by operations, before considering changes in working capital, were $14.4 million in fiscal 2020 and $9.5 million in fiscal 2019. Net income of $6.8 million in fiscal 2020 was higher compared to net income of $4.7 million in fiscal 2019.
Working capital provided cash flows of $0.6 million and used cash flows of $20.0 million in fiscal 2020 and fiscal 2019, respectively. The change in working capital in fiscal 2020 was primarily due to an increase in accounts payable of $5.3 million and an increase in customer deposits of $6.6 million, partially offset by an increase in accounts receivable of $2.9 million and an increase in inventories of $8.4 million. Increases in accounts receivable were primarily due to the timing of revenue in the fourth quarter of fiscal 2020. The accounts payable increase in fiscal 2020 was due to timing of purchases. In both fiscal 2020 and fiscal 2019, the increase in inventory and customer deposits was due to securing materials for future production.
Cash flows used by investing activities were $6.3 million for fiscal 2020 and $2.1 million for fiscal 2019. Cash flows used in fiscal 2020 consisted of purchases of equipment, including equipment for our new manufacturing facility. Cash flows used in fiscal 2019 consisted of purchases of equipment.
Cash flows used in financing activities were $8.4 million in fiscal 2020 and provided cash of $12.6 million for fiscal 2019. During fiscal 2020, net borrowings under all credit facilities were $8.8 million, with $6.7 million of net borrowings under the Revolver, as defined below, repayments of $3.9 million for term debt and $1.8 million of new borrowings from the master lease. During fiscal 2019, net borrowings under all credit facilities were $12.8 million, with $13.7 million of net borrowings under the Revolver, as defined below, repayments of $1.2 million for term debt, and $0.4 million of new borrowings related to equipment line advances.
At September 30, 2020, borrowings outstanding under the revolving credit facility (the “Revolver”) under the Sixth Amended and Restated Credit Facility Agreement dated as of June 4, 2020 (the “Credit Facility”) which replaced the Fifth Amended and Restated Credit Facility Agreement dated as of December 14, 2015, as amended by various amendments (the “Prior Credit Facility, as amended”) amounted to $20.0 million, and the upper limit was $39.4 million. We believe that our liquidity is sufficient to satisfy anticipated operating requirements during the next twelve months.
The Credit Facility contains various affirmative and negative covenants including financial covenants. As of September 30, 2020, we had to maintain a minimum fixed charge coverage ratio (“Fixed Charge Coverage Ratio”). The Fixed Charge Coverage Ratio compares (i) EBITDAS minus unfinanced capital expenditures minus tax expense, to (ii) the sum of interest expense, principal payments, payments on all capital lease obligations and dividends, if any (fixed charges). “EBITDAS” is defined as earnings before interest, taxes, depreciation, amortization and non-cash stock compensation expense. The Fixed Charge Coverage Ratio is measured for the trailing twelve months ended September 30, 2020. The Credit Facility also provides for customary events of default, subject in certain cases to customary cure periods, in which events, the outstanding balance and any unpaid interest would become due and payable.
Pursuant to the Credit Facility, the Fixed Charge Coverage Ratio covenant of a minimum of 1.10 was the only covenant in effect at September 30, 2020. The Fixed Charge Coverage Ratio was calculated as 2.32 at September 30, 2020. The Company was in compliance with the financial debt covenant at September 30, 2020.
Detailed information regarding our borrowings is provided in Note 6—Credit Facilities.
Off-Balance Sheet Arrangements
We are not a party to any material off-balance sheet arrangements.
Critical Accounting Policies and Use of Estimates
Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) as presented in the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“ASC”). In preparing financial statements, management is required to (i) determine the manner in which accounting principles are applied and (ii) make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses. A discussion of our critical accounting policies follows.
Revenue recognition: Revenue is derived primarily from the sale of electronics components that are built to customer specifications. In compliance with “Revenue from Contracts with Customers” (“ASC 606”), for revenue recognized over time, we use an input measure to determine progress towards completion. Under this method, sales and gross profit are recognized as work is performed generally based on the relationship between the actual costs incurred and the total estimated costs at completion. If we have an enforceable right to payment for work completed to date, with a recapture of costs incurred plus an applicable margin, and the goods do not have an alternative future use once the manufacturing process has commenced, then we record an unbilled revenue associated with non-cancellable customer orders. Similarly, we record an unbilled revenue related to our work-in-process inventory (“WIP inventory”) when the manufacturing process has commenced and there is a non-cancellable customer purchase order.
We record unbilled contract revenue for revenue related to our WIP inventory when the manufacturing process has commenced and there is a non-cancellable customer purchase order. We use direct manufacturing labor inputs to estimate the percentage of completion in satisfying its performance obligation associated with WIP inventory. If assumptions change related to the estimate of the performance obligation associated with WIP inventory, this could have a material impact on the revenue and corresponding margin recognized.
Inventory reserves: FASB ASC 330-10-35 (Inventory) requires us to reduce the carrying value of inventory when there is evidence that the utility of goods will be less than cost, whether due to physical deterioration, obsolescence, changes in price levels or other causes. Inventory balances are generally reduced to the lower of cost or net realizable value by establishing offsetting balance sheet reserves.
Recently Issued Accounting Standards
Information with respect to recently issued accounting standards is provided in Note 1—Our Business and Summary of Significant Accounting Policies.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a result of its financing activities, the Company is exposed to changes in interest rates that may adversely affect operating results. The Company actively monitors its exposure to interest rate risk and from time to time may use derivative financial instruments to manage the impact of this risk. The Company may use derivatives only for the purpose of managing risk associated with underlying exposures. The Company does not trade or use instruments with the objective of earning financial gains on the interest rate nor does the Company use derivatives instruments where it does not have underlying exposure. The Company did not have any derivative financial instruments at September 30, 2020 or September 30, 2019.
At September 30, 2020, the Company had $21.7 million of debt, all with variable interest rates. Interest rates on variable loans are currently based on the London interbank offered rate (“LIBOR”) and include an alternate benchmark rate when LIBOR is discontinued. The credit facilities are more fully described in Note 6—Credit Facilities. Interest rates based on LIBOR currently adjust daily, causing interest on such loans to vary from period to period. A sensitivity analysis as of September 30, 2020, indicates that a one-percentage point increase or decrease in our variable interest rates, which represents more than a 10% change, would increase or decrease the Company’s annual interest expense by approximately $0.2 million.
The Company is exposed to credit risk to the extent of non-performance by M&T Bank under the Credit Facility. M&T Bank’s credit rating is monitored by the Company, and IEC expects that M&T Bank will perform in accordance with the terms of the Credit Facility.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements are included in this Item 8 on the pages indicated below:
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the stockholders and the Board of Directors of IEC Electronics Corp.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of IEC Electronics Corp. and subsidiaries (the "Company") as of September 30, 2020 and 2019, the related consolidated statements of operations, changes in stockholders’ equity, and cash flows for each of the two years in the period ended September 30, 2020, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of September 30, 2020 and 2019, and the results of its operations and its cash flows for each of the two years in the period ended September 30, 2020, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Deloitte & Touche LLP
Rochester, New York
November 20, 2020
We have served as the Company's auditor since fiscal 2017.
IEC ELECTRONICS CORP.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2020 and 2019
(in thousands, except share and per share data)
| ||September 30,|
|Cash||$||312 ||$||— |
|Accounts receivable, net of allowance||30,361 ||27,618 |
|Unbilled contract revenue||8,773 ||9,529 |
|Inventories||51,374 ||44,267 |
|Federal income tax receivable||— ||517 |
|Other current assets||1,757 ||1,454 |
|Total current assets||92,577 ||83,385 |
|Property, plant and equipment, net||23,587 ||19,433 |
|Deferred income taxes||4,840 ||7,154 |
|Operating lease right-of-use assets, net of accumulated amortization||260 ||— |
|Other long-term assets||1,700 ||860 |
|Total assets||$||122,964 ||$||110,832 |
|LIABILITIES AND STOCKHOLDERS’ EQUITY|
|Current portion of long-term debt||$||— ||$||1,371 |
|Current portion of operating lease obligation||61 ||— |
|Current portion of finance lease obligation||436 ||338 |
|Accounts payable||29,733 ||23,690 |
|Accrued payroll and related expenses||3,659 ||3,174 |
|Other accrued expenses||457 ||668 |
|Customer deposits||19,783 ||13,229 |
|Total current liabilities||54,129 ||42,470 |
|Long-term debt||21,476 ||28,910 |
|Long-term operating lease obligation||184 ||— |
|Long-term finance lease obligation||6,616 ||6,685 |
|Other long-term liabilities||1,404 ||1,527 |
|Total liabilities||83,809 ||79,592 |
|Commitments and contingencies (Note 11)|
|Preferred stock, $0.01 par value:||— ||— |
|500,000 shares authorized; none issued or outstanding|
|Common stock, $0.01 par value:|
|Authorized 50,000,000 shares|
|Issued: 11,556,214 and 11,394,036 shares, respectively |
|Outstanding: 10,500,726 and 10,338,548 shares, respectively||105 ||103 |
|Additional paid-in capital||49,161 ||48,001 |
|Treasury stock, at cost: 1,055,488 shares||(1,589)||(1,589)|
|Total stockholders’ equity||39,155 ||31,240 |
|Total liabilities and stockholders’ equity||$||122,964 ||$||110,832 |
The accompanying notes are an integral part of these consolidated financial statements.
IEC ELECTRONICS CORP.
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED SEPTEMBER 30, 2020 and 2019
(in thousands, except share and per share data)
|Net sales||$||182,714 ||$||156,981 |
|Cost of sales||158,594 ||135,337 |
|Gross profit||24,120 ||21,644 |
|Selling and administrative expenses||13,986 ||14,076 |
|Operating profit||10,134 ||7,568 |
|Interest expense||1,438 ||1,645 |
|Income before income taxes||8,696 ||5,923 |
|Provision for income taxes||1,943 ||1,176 |
|Net income||$||6,753 ||$||4,747 |
|Net income per common share:|
|Basic||$||0.65 ||$||0.46 |
|Diluted||$||0.63 ||$||0.45 |
|Weighted average number of shares outstanding:|
|Basic||10,417,445 ||10,306,947 |
|Diluted||10,727,438 ||10,518,126 |
The accompanying notes are an integral part of these consolidated financial statements.
IEC ELECTRONICS CORP.
CONSOLIDATED STATEMENTS of CHANGES in STOCKHOLDERS’ EQUITY
YEARS ENDED SEPTEMBER 30, 2020 and 2019
(in thousands, except share data)
|Number of Shares Outstanding||Common|
|Balances, September 30, 2018||10,248,905 ||$||102 ||$||47,326 ||$||(20,463)||$||(1,589)||$||25,376 |
|Impact of adoption of ASC 606, net of taxes||— ||— ||— ||441 ||— ||441 |
|Net income||— ||— ||— ||4,747 ||— ||4,747 |
|Stock-based compensation||— ||— ||567 ||— ||— ||567 |
|Vested restricted stock and restricted stock units, net of shares withheld for payment of taxes||51,872 ||1 ||(53)||— ||— ||(52)|
|Exercise of stock options, net of shares surrendered||26,707 ||— ||101 ||— ||— ||101 |
|Employee stock plan purchases||11,064 ||— ||60 ||— ||— ||60 |
|Balances, September 30, 2019||10,338,548 ||$||103 ||$||48,001 ||$||(15,275)||$||(1,589)||$||31,240 |
|Net income||— ||— ||— ||6,753 ||— ||6,753 |
|Stock-based compensation||— ||— ||739 ||— ||— ||739 |
|Vested restricted stock and restricted stock units, net of shares withheld for payment of taxes||46,695 ||— ||(98)||— ||— ||(98)|
|Exercise of stock options, net of shares surrendered||100,500 ||1 ||433 ||— ||— ||434 |
|Employee stock plan purchases||14,983 ||1 ||86 ||— ||— ||87 |
|Balances, September 30, 2020||10,500,726 ||$||105 ||$||49,161 ||$||(8,522)||$||(1,589)||$||39,155 |
The accompanying notes are an integral part of these consolidated financial statements.
IEC ELECTRONICS CORP.
CONSOLIDATED STATEMENTS of CASH FLOWS
YEARS ENDED SEPTEMBER 30, 2020 and 2019
| ||Years Ended|
|CASH FLOWS FROM OPERATING ACTIVITIES:|
|Net income||$||6,753 ||$||4,747 |
|Stock-based compensation||739 ||567 |
|Depreciation and amortization||3,332 ||2,832 |
|Change in reserve for doubtful accounts||114 ||(14)|
|Change in excess/obsolete inventory reserve||1,268 ||(81)|
|Deferred tax expense||2,314 ||1,577 |
|Amortization of deferred gain on sale of leaseback||(114)||(114)|
|Changes in assets and liabilities:|
|Unbilled contract revenue||756 ||(5,196)|
|Federal income tax receivable||517 ||(517)|
|Other current assets||(303)||293 |
|Other long-term assets||(856)||(434)|
|Accounts payable||5,251 ||(2,670)|
|Change in book overdraft position||(332)||(2,329)|
|Accrued expenses||274 ||1,588 |
|Customer deposits||6,554 ||5,634 |
|Net change in lease right-of-use assets and liabilities||(15)||— |
|Other long-term liabilities||— ||(75)|
|Net cash flows provided by/(used in) operating activities||15,020 ||(10,456)|
|CASH FLOWS FROM INVESTING ACTIVITIES|
|Purchases of property, plant and equipment||(6,268)||(2,118)|
|Proceeds from disposal of property, plant and equipment||— ||20 |
|Net cash flows used in investing activities||(6,268)||(2,098)|
|CASH FLOWS FROM FINANCING ACTIVITIES|
|Advances from revolving line of credit||76,038 ||81,225 |
|Repayments of revolving line of credit||(82,724)||(67,575)|
|Borrowings under other loan agreements||1,782 ||391 |
|Repayments under other loan agreements||(3,904)||(1,231)|
|Payments under finance lease||(387)||(310)|
|Proceeds received from lease financing obligation||416 ||— |
|Debt issuance costs||(84)||(55)|
|Proceeds from exercise of stock options||434 ||101 |
|Proceeds from employee stock plan purchases||87 ||60 |
|Cash paid for employee taxes upon vesting of restricted stock||(98)||(53)|
|Restricted (non-vested) stock grants, net of forfeitures||— ||1 |
|Net cash flows (used in)/provided by financing activities||(8,440)||12,554 |
|Net cash increase for the year||312 ||— |
|Cash, beginning of year||— ||— |
|Cash, end of year||$||312 ||$||— |
|Supplemental cash flow information:|
|Interest paid||$||1,351 ||$||1,623 |
|Income taxes paid||147 ||7 |
|Property, plant and equipment purchased with extended payment terms||$||1,124 ||$||— |
The accompanying notes are an integral part of these consolidated financial statements.
IEC ELECTRONICS CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2020 and 2019
NOTE 1—OUR BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
IEC Electronics Corp. ( “IEC,” “we” or the “Company”) provides electronic manufacturing services (“EMS”) to advanced technology companies that produce life-saving and mission critical products for the medical, industrial, aerospace and defense sectors. The Company specializes in delivering technical solutions for the custom manufacture of complex full system assemblies by providing on-site analytical testing laboratories, custom design and test engineering services combined with a broad array of manufacturing services encompassing electronics, interconnect solutions, and precision metalworking. As a full service EMS provider, IEC holds all appropriate certifications for the market sectors it supports including ISO 9001:2015, AS9100D, and ISO 13485, and we are Nadcap accredited. IEC is headquartered in Newark, NY and also has operations in Rochester, NY and Albuquerque, NM. Additional information about IEC can be found on its web site at www.iec-electronics.com. The contents of this web site are not incorporated by reference into this annual report.
Generally Accepted Accounting Principles
IEC’s financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”), as set forth in the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“ASC”).
The Company’s fiscal year ends on September 30 and the first three quarters generally end on the Friday closest to the last day of the calendar quarter. For the fiscal year ended September 30, 2020 (“fiscal 2020”), the fiscal quarters ended on December 27, 2019, March 27, 2020 and June 26, 2020. For the fiscal year ended September 30, 2019 (“fiscal 2019”), the fiscal quarters ended on December 28, 2018, March 29, 2019 and June 28, 2019.
The consolidated financial statements include the accounts of IEC and its wholly-owned subsidiaries: IEC Electronics Corp-Albuquerque (“Albuquerque”); IEC Analysis & Testing Laboratory, LLC (“ATL”); and, for fiscal 2019, IEC California Holdings, Inc., which was dissolved as of September 18, 2019. All intercompany transactions and accounts are eliminated in consolidation.
The Company’s cash represents deposit accounts with Manufacturers and Traders Trust Company (“M&T Bank”), a banking corporation headquartered in Buffalo, NY. The Company’s cash management system provides for the funding of the disbursement accounts on a daily basis as checks are presented for payment. Under this system, outstanding checks in excess of the bank balance create a book overdraft. Book overdrafts are presented in accounts payable in the consolidated balance sheets. There were no book overdrafts as of September 30, 2020. Book overdrafts were $0.3 million as of September 30, 2019. Changes in the book overdrafts are presented within net cash flows provided by/(used in) operating activities within the consolidated statements of cash flows.
Allowance for Doubtful Accounts
The Company establishes an allowance for doubtful accounts receivable based on the age of outstanding invoices and management’s evaluation of collectability. Accounts are written off after all reasonable collection efforts have been exhausted and management concludes that the likelihood of collection is remote.
Inventories are stated at the lower of cost or net realizable value under the first-in, first-out method. The Company regularly assesses slow-moving, excess and obsolete inventory and maintains balance sheet reserves in amounts required to reduce the recorded value of inventory to the lower of cost or net realizable value.
Property, Plant and Equipment
Property, plant and equipment (“PP&E”) are stated at cost and are depreciated over various estimated useful lives using the straight-line method. Maintenance and repairs are charged to expense as incurred, while renewals and improvements are capitalized. At the time of retirement or other disposition of PP&E, cost and accumulated depreciation are removed from the accounts and any gain or loss is recorded in earnings.
Depreciable lives generally used for PP&E are presented in the table below. Leasehold improvements are amortized over the shorter of the lease term or estimated useful life of the improvement.
|PP&E Lives||Estimated |
|Buildings and improvements||5 to 40|
|Machinery and equipment||3 to 10|
|Furniture and fixtures||3 to 7|
|Software||3 to 10|
Reviewing Long-Lived Assets for Potential Impairment
ASC 360 (Property, Plant and Equipment) requires the Company to test long-lived assets (PP&E and definite lived assets) for recoverability whenever events or circumstances indicate that the carrying amount may not be recoverable. If carrying value exceeds undiscounted future cash flows attributable to an asset, it is considered impaired and the excess of carrying value over fair value must be charged to earnings. No impairment charges were recorded by IEC for long-lived assets during fiscal 2020 and fiscal 2019.
When legal proceedings are brought or claims are made against the Company and the outcome is uncertain, ASC 450 (Contingencies) requires the Company to determine whether it is probable that an asset has been impaired or a liability has been incurred. If such impairment or liability is probable and the amount of loss can be reasonably estimated, the loss must be charged to earnings.
When it is considered probable that a loss has been incurred but the amount of loss cannot be estimated, disclosure but not accrual of the probable loss is required. Disclosure of a loss contingency is also required when it is reasonably possible, but not probable, that a loss has been incurred.
Legal Expense Accrual
The Company records legal expenses as they are incurred, based on invoices received or estimates provided by legal counsel. Future estimated legal expenses are not recorded until incurred.
Customer deposits represent amounts invoiced to customers for which the revenue has not yet been earned and therefore represent a commitment for the Company to deliver goods or services in the future. Deposits are generally short-term in nature and are recognized as revenue when earned.
Fair Value Measurements
Under ASC 825 (Financial Instruments), the Company is required to disclose the fair value of financial instruments for which it is practicable to estimate value. The Company’s financial instruments consist of cash, accounts receivable, accounts payable, accrued liabilities and borrowings. IEC believes that recorded value approximates fair value for all cash, accounts receivable, accounts payable, accrued liabilities and borrowings.
ASC 820 (Fair Value Measurements and Disclosures) defines fair value, establishes a framework for measurement, and prescribes related disclosures. ASC 820 defines fair value as the price that would be received upon sale of an asset or would be paid to transfer a liability in an orderly transaction. Inputs used to measure fair value are categorized under the following hierarchy:
Level 1: Quoted prices in active markets for identical assets or liabilities that the Company can access at the measurement date.
Level 2: Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; and model-derived valuations in which all significant inputs are observable market data.
Level 3: Model-derived valuations in which one or more significant inputs are unobservable.
The Company deems a transfer between levels of the fair value hierarchy to have occurred at the beginning of the reporting period. There were no such transfers during fiscal 2020 or fiscal 2019.
ASC 718 (Stock Compensation) requires that compensation expense be recognized for equity awards based on fair value as of the date of grant. For stock options, the Company uses the Black-Scholes pricing model to estimate grant date fair value. Costs associated with stock awards are recorded over requisite service periods, generally the vesting period. If vesting is contingent on the achievement of performance objectives, fair value is accrued over the period the objectives are expected to be achieved only if it is considered probable that the objectives will be achieved. The Company also has an employee stock purchase plan (“ESPP”) that provides for the purchase of Company common stock at a discounted stock purchase price.
Income Taxes and Deferred Taxes
ASC 740 (Income Taxes) requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns, but not in both. Deferred tax assets are also established for tax benefits associated with tax loss and tax credit carryforwards. Such deferred tax balances reflect tax rates that are scheduled to be in effect, based on currently enacted legislation, in the years the book/tax differences reverse and tax loss and tax credit carryforwards are expected to be realized. An allowance is established for any deferred tax asset for which realization is not likely.
ASC 740 also prescribes the manner in which a company measures, recognizes, presents, and discloses in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return. The Company recognizes tax benefits from uncertain tax positions only if it is more likely than not that the position will be sustained following examination by taxing authorities, based on technical merits of the position. The Company believes that it has no material uncertain tax positions.
Any interest incurred is reported as interest expense. Any penalties incurred are reported as tax expense. The Company’s income tax filings are subject to audit by various tax jurisdictions and current open years are for fiscal year ended September 30, 2015 through fiscal 2020.
IEC does not pay dividends on its common stock as it is the Company’s current policy to retain earnings for use in the business. Furthermore, the Company’s Sixth Amended and Restated Credit Facility Agreement with M&T Bank includes certain restrictions on paying cash dividends, as more fully described in Note 6—Credit Facilities.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses and the disclosure of contingent assets and liabilities. Significant items subject to such estimates include: excess and obsolete inventory reserve, warranty reserves, the valuation of deferred income tax assets and revenue recognition related to the accounts for over time contracts. Actual results may differ from management’s estimates.
Statements of Cash Flows
The Company presents operating cash flows using the indirect method of reporting under which non-cash income and expense items are removed from net income.
The Company’s results of operations for fiscal 2020 and fiscal 2019 represent a single operating and reporting segment, referred to as contract manufacturing within the EMS industry. The Company strategically directs production between its various manufacturing facilities based on a number of considerations to best meet its customers’ requirements. The Company shares resources for sales, marketing, engineering, supply chain, information services, human resources, payroll and corporate accounting functions. Consolidated financial information is available that is evaluated regularly by the chief operating decision maker in assessing performance and allocating resources. The Company’s operations as a whole reflect the level at which the business is managed and how the Company’s chief operating decision maker assesses performance internally.
At contract inception, the Company determines if the new contractual arrangement is a lease or contains a leasing arrangement. If a contract contains a lease, the Company evaluates whether it should be classified as an operating lease or a finance lease. Upon modification of the contract, the Company will reassess to determine if a contract is or contains a leasing arrangement.
The Company records lease liabilities based on the future estimated cash payments discounted over the lease term, defined as the non-cancellable time period of the lease, together with all the following:
•Periods covered by an option to extend the lease if the Company is reasonably certain to exercise that option; and
•Periods covered by an option to terminate the lease if the Company is reasonably certain not to exercise that option.
Leases may also include options to terminate the arrangement or options to purchase the underlying lease property. Lease components provide the Company with the right to use an identified asset, which consist of real estate properties and equipment. Non-lease components consist primarily of maintenance services.
As an implicit discount rate is not readily available in the Company’s lease agreements, the Company uses its estimated secured incremental borrowing rate based on the information available at the lease commencement date in determining the present value of future lease payments. For certain leases with original terms of twelve months or less, the Company recognizes lease expense as incurred and does not recognize any lease liabilities. Short-term and long-term portions of operating lease liabilities are classified as other current liabilities and other long-term liabilities, respectively.
A right-of-use (“ROU”) asset is measured as the amount of the lease liability with adjustments, if applicable, for lease prepayments made prior to or at lease commencement, initial direct costs incurred by the Company to implement the lease and lease incentives. ROU assets are classified as other long-term assets, on the Company’s condensed consolidated balance sheets. The Company evaluates the carrying value of ROU assets if there are indicators of potential impairment, and performs the analysis concurrent with the review of the recoverability of the related asset group. If the carrying value of the asset group is determined to not be fully recoverable and is in excess of its estimated fair value, the Company will record the impairment loss in its condensed consolidated statements of operations. The Company did not recognize an impairment loss during the fiscal year ended September 30, 2020.
Fixed lease expense payments are recognized on a straight-line basis over the lease term. Variable lease payments vary because of changes in facts or circumstances occurring after the commencement date, other than the passage of time, and are often due to changes in an external market rate or the value of an index (e.g. Consumer Price Index). The Company did not incur variable lease payments during the fiscal year ended September 30, 2020.
Recently Adopted Accounting Standards
FASB Accounting Standards Update (“ASU”) 2016-02, “Leases” (Topic 842) was issued in February 2016. The guidance was effective for the Company beginning with the first quarter of fiscal 2020. As a result of this adoption, the following accounting policies were implemented or changed.
The Company elected the optional transition method to initially apply the new lease standard at the adoption date and not adjust its comparative period consolidated financial statements. The Company has elected the package of three practical expedients, which permits the Company not to reassess prior conclusions about lease identification, lease classification and initial direct costs. The Company has not elected the use-of-hindsight or the practical expedient in determining lease term or impairment of
ROU assets. In addition, the Company has elected a short-term lease exemption policy that permits the Company to not apply the recognition requirements of the new lease standard to leases with a term of 12 months or less. The Company has also elected an accounting policy to not separate lease and non-lease components for certain classes of leases.
Adoption of Topic 842 resulted in recognition of additional net lease assets of approximately $0.3 million and net lease liabilities of approximately $0.3 million as of October 1, 2019 based on the present value of remaining minimum rental payments and corresponding ROU assets based upon the operating lease liabilities. The adoption did not impact our beginning stockholders’ equity for fiscal 2020 and did not have a material impact on the consolidated statements of operations or cash flows.
Recently Issued Accounting Updates
In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes,” which amends the existing guidance relating to the accounting for income taxes. This ASU is intended to simplify the accounting for income taxes by removing certain exceptions to the general principles of accounting for income taxes and to improve the consistent application of GAAP for other areas of accounting for income taxes by clarifying and amending existing guidance. This ASU is effective for fiscal years beginning after December 15, 2021, with early adoption permitted. The Company is evaluating the effect of adopting this new accounting guidance, but does not expect adoption will have a material impact on the Company’s consolidated financial statements.
In March 2020, the FASB issued ASU 2020-03 “Codification Improvements to Financial Instruments.” This ASU improves and clarifies various financial instruments topics, including the current expected credit losses (“CECL”) standard issued in 2016. The ASU includes seven different issues that describe the areas of improvement and the related amendments to GAAP, intended to make the standards easier to understand and apply by eliminating inconsistencies and providing clarifications. The amendments have different effective dates. The Company is evaluating the effect of adopting this new accounting guidance, but does not expect adoption will have a material impact on the Company’s consolidated financial statements.
In March 2020, the FASB issued ASU No. 2020-04, “Reference Rate Reform (Topic 848)—Facilitation of the Effects of Reference Rate Reform on Financial Reporting.” This standard provides optional guidance for a limited time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. The amendments in this standard apply only to contracts and hedging relationships that reference LIBOR or another reference rate expected to be discontinued due to reference rate reform. The expedients and exceptions provided by the amendments do not apply to contract modifications made and hedging relationships entered into or evaluated after December 31, 2022. The amendments in this standard are elective and are effective upon issuance for all entities. The Company is evaluating the expedients and exceptions provided by the amendments in this standard to determine their impact on the Company's consolidated financial statements.
NOTE 2—REVENUE RECOGNITION
ASC 606: Revenue from Contracts with Customers
Satisfaction of Performance Obligations
A performance obligation is a promise in a contract to transfer a distinct good or service to the customer, and is the unit of account in ASC 606. A contract's transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. Many of the Company's contracts have a single performance obligation as the promise to transfer the individual goods or services is not separately identifiable from other promises in the contracts and, therefore, not distinct. The Company primarily provides contract manufacturing services to its customers. The customer provides a design, the Company procures materials and manufactures to that design and ships the product to the customer. Revenue is derived primarily from the manufacturing of these electronics components that are built to customer specifications.
The Company's performance obligations are satisfied at a point in time or over time as work progresses. Revenue from goods and services transferred to customers at a point in time accounted for 51.0% and 51.2% of the Company's revenue for the fiscal years ended September 30, 2020 and September 30, 2019, respectively. Revenue on these contracts is recognized when obligations under the terms of the customer contract are satisfied; generally this occurs with the transfer of control upon shipment. If there is no enforceable right to payment for work completed to date, or the Company does not recapture costs incurred plus an applicable margin, then the Company records revenue upon shipment to the customer.
Revenue from goods and services transferred to customers over time accounted for 49.0% and 48.8% of the Company's revenue for the fiscal years ended September 30, 2020 and September 30, 2019, respectively. For revenue recognized over time, the Company uses an input measure to determine progress towards completion. Under this method, sales and gross profit are
recognized as work is performed generally based on the relationship between the actual costs incurred and the total estimated costs at completion. If the Company has an enforceable right to payment for work completed to date, with a recapture of costs incurred plus an applicable margin, and the goods do not have an alternative future use once the manufacturing process has commenced, then the Company records an unbilled revenue associated with non-cancellable customer orders.
The Company derives revenue from engineering and design services. Service revenue is generally recognized once the service has been rendered. For material management arrangements, revenue is generally recognized as services are rendered. Under such arrangements, some or all of the following services may be provided: design, bid, procurement, testing, storage or other activities relating to materials the customer expects to incorporate into products that it manufactures. Value-added support services revenue, including material management and repair work revenue, amounted to less than 3% of total revenue in each of the fiscal years ended September 30, 2020 and September 30, 2019.
Returns and Discounts
The Company does not offer its customers a right of return. Rather, the Company warrants that each unit received by the customer will meet the agreed upon technical and quality specifications and requirements. Only when the delivered units do not meet these requirements can the customer return the non-compliant units as a corrective action under the warranty. The remedy offered to the customer is repair of the returned units or replacement if repair is not viable. Accordingly, the Company records a warranty reserve and any warranty activities are not considered to be a separate performance obligation. Historically, warranty reserves have not been material.
Provisions for discounts, allowances, estimated returns and other adjustments are recorded in the period the related sales are recognized.
Shipping and Handling Costs
Amounts billed to customers for shipping and handling activities after the customer obtains control are treated as a promised service performance obligation and recorded in net sales in the accompanying consolidated statements of operations. Shipping and handling costs incurred by the Company for the delivery of goods to customers are considered a cost to fulfill the contract and are included in cost of sales in the accompanying consolidated statements of operations.
Contract assets consist of unbilled contract amounts resulting from sales under contracts when the revenue recognized exceeds the amount billed to the customer.
Practical Expedients and Exemptions
The Company generally expenses incremental costs of obtaining a contract when incurred because the amortization period would be less than one year. These costs primarily relate to sales commissions and are recorded in selling and administrative expense in the consolidated statements of operations.
The Company does not disclose the value of unsatisfied performance obligations for contracts with an original expected length of one year or less.
The table below shows net sales from contracts with customers by market sector. See additional information regarding market sectors in Note 10—Market Sectors and Major Customers.
|September 30, 2020||September 30, 2019|
|Point in Time||Over Time||Net Sales||Point in Time||Over Time||Net Sales|
|Aerospace & Defense||$||56,454 ||$||53,174 ||$||109,628 ||$||42,625 ||$||51,564 ||$||94,189 |
|Medical||15,826 ||31,680 ||47,506 ||18,115 ||16,421 ||34,536 |
|Industrial||20,877 ||4,703 ||25,580 ||19,597 ||8,659 ||28,256 |
|$||93,157 ||$||89,557 ||$||182,714 ||$||80,337 ||$||76,644 ||$||156,981 |
Customer deposits are recorded when cash payments are received or due in advance of revenue recognition from contracts with customers. The timing of revenue recognition may differ from the timing of billings to customers. The changes in customer deposits from the Company's custom manufacturing services are as follows:
|Customer Deposits||September 30,|
|Beginning balance||$||13,229 ||$||7,595 |
|Recognition of deferred revenue||(17,807)||(10,799)|
|Deferral of revenue||24,361 ||16,433 |
|Ending balance||$||19,783 ||$||13,229 |
Sales Outside the United States
For each of the fiscal years ended September 30, 2020 and September 30, 2019, less than 3% of net sales were shipped to locations outside the United States.
NOTE 3—ALLOWANCE FOR DOUBTFUL ACCOUNTS
A summary of activity in the allowance for doubtful accounts during the fiscal years ended September 30, 2020 and 2019 follows:
| ||Years Ended|
|Allowance for Doubtful Accounts||September 30,|
|(in thousands)|| || |
|Allowance, beginning of period||$||71 ||$||85 |
|Increase (decrease) in provision for doubtful accounts||114 ||(14)|
|Write-offs||— ||— |
|Allowance, end of period||$||185 ||$||71 |
A summary of inventory by category at period end follows:
|Raw materials||$||32,904 ||$||25,393 |
|Work-in-process||15,009 ||15,928 |
|Finished goods||3,461 ||2,946 |
|Total inventories||$||51,374 ||$||44,267 |
NOTE 5—PROPERTY, PLANT AND EQUIPMENT, NET
A summary of property, plant and equipment and accumulated depreciation at period end follows:
|Property, Plant and Equipment||September 30,|
|Land and improvements||$||788 ||$||788 |
|Buildings and improvements||7,430 ||7,411 |
|Building under capital lease||7,750 ||7,750 |
|Machinery and equipment||34,095 ||31,708 |
|Furniture and fixtures||8,113 ||8,047 |
|Software||5,215 ||5,215 |
|Construction in progress||6,079 ||1,173 |
|Total property, plant and equipment, at cost||69,470 ||62,092 |
|Property, plant and equipment, net||$||23,587 ||$||19,433 |
Depreciation expense during the fiscal years ended September 30, 2020 and 2019 follows:
| ||Years Ended|
|Depreciation Expense||September 30,|
|Depreciation expense||$||3,238 ||$||2,775 |
NOTE 6—CREDIT FACILITIES
A summary of borrowings at period end follows:
|Fixed/||September 30, 2020||September 30, 2019|
|M&T credit facilities:|
|Revolving Credit Facility||v||6/4/2023||$||19,960 ||2.75 ||%||$||26,646 ||4.31 ||%|
|Master Lease||v||6/4/2023||1,782 ||3.00 ||— ||— |
|Term Loan B||v||5/5/2022||— ||—||2,779 ||4.59 |
|Equipment Line Term Note||v||Various||— ||—||1,125 ||4.56 |
|Total debt, gross||21,742 ||30,550 |
|Unamortized debt issuance costs||(266)||(269)|
|Total debt, net||21,476 ||30,281 |
|Less: current portion||— ||(1,371)|
|Long-term debt||$||21,476 ||$||28,910 |
M&T Bank Credit Facilities
Effective as of June 4, 2020, the Company and M&T Bank entered into the Sixth Amended and Restated Credit Facility Agreement (the “Credit Facility”) which replaced the Fifth Amended and Restated Credit Facility Agreement dated as of December 14, 2015, as amended by various amendments (collectively, the “Prior Credit Facility, as amended”).
Pursuant to the Credit Facility, the Company increased its revolving credit facility to an aggregate principal amount of $45.0 million and added provisions that allow the Company, subject to certain requirements, to request further increases, in minimum amounts of $5.0 million, up to $55.0 million. Some of the proceeds from the Credit Facility were used to repay the existing outstanding Term Loan B and Equipment Line Term Note. The Credit Facility also amended the financial covenant, Fixed Charge Coverage Ratio, and set a Minimum Fixed Charge Coverage Ratio. In addition, the Credit Facility modified the definition of Applicable Margin used to determine interest charges on outstanding and unused borrowings under the revolving credit facility and modified the definition of Permitted Acquisitions. The Credit Facility also established a LIBOR floor of 1% and included an alternate benchmark rate when LIBOR is discontinued. During the fiscal year ended September 30, 2020, the Company paid fees of approximately $84 thousand related to this Credit Facility.
Also as of June 4, 2020, the Company and M&T Bank entered into a master equipment lease (the “Master Lease”) for a lease line of up to $10.0 million in lease value of equipment to the Company. The Master Lease contains terms and provisions customary for transactions of this type, including obligations relating to the use, operation and maintenance of the equipment. The Master Lease also contains customary events of default, including nonpayment of amounts due under the lease and assignments for the benefit of creditors, bankruptcy or insolvency. In the event that an event of default occurs, M&T Bank may exercise one or more remedies specified in the Master Lease. At the conclusion of the lease term, the Company will have the right to purchase the equipment under the Master Lease. The Master Lease will renew automatically for additional 12-month terms until the Company provides M&T Bank with notice of non-renewal.
The Credit Facility is secured by a general security agreement covering the assets of the Company and its subsidiaries, a pledge of the Company’s equity interest in its subsidiaries, a negative pledge on the Company’s real property, and a guarantee by the Company’s subsidiaries, all of which restrict use of these assets to support other financial instruments.
Individual debt facilities provided under the Credit Facility as of September 30, 2020, and Prior Credit Facility, as amended, as of September 30, 2019, are described below:
a)Revolving Credit Facility (“Revolver”): At September 30, 2020, up to $45.0 million was available pursuant to the Credit Facility through June 4, 2023. At September 30, 2019, up to $35.0 million was available through May 5, 2022 under the Prior Credit Facility, as amended. The maximum amount the Company may borrow is determined based on a borrowing base calculation described below.
b)Master Lease: At September 30, 2020, we had drawn down $1.8 million pursuant to the $10.0 million Master Lease that was entered into as of June 4, 2020.
c)Term Loan B: As of September 30, 2019, $14.0 million was borrowed on January 18, 2013. Principal was being repaid in 120 equal monthly installments of $117 thousand. As part of an amendment to the Prior Credit Facility, as amended, the principal was modified from $8.0 million to $6.0 million and principal was being repaid in equal monthly installments of $71 thousand plus a balloon payment of $0.6 million. The maturity date of the loan was May 5, 2022. Some of the proceeds from the Credit Facility were used to repay the existing outstanding Term Loan B and no amounts remained outstanding as of September 30, 2020.
d)Equipment Line Term Note: On March 18, 2019, $0.3 million was converted from an Equipment Line Advance, principal was being repaid in 36 equal monthly installments of $9 thousand and was set to mature on March 18, 2022. On May 6, 2019, $0.4 million was converted from an Equipment Line Advance, principal was being repaid in 36 equal monthly installments of $11 thousand and was set to mature on May 6, 2022. Some of the proceeds from the Credit Facility were used to repay the existing outstanding Equipment Line Term Note and no amounts remained outstanding as of September 30, 2020.
At September 30, 2020, under the Credit Facility, the maximum amount the Company can borrow under the Revolver was the lesser of (i) 85% of eligible receivables plus (ii) up to 90% of eligible investment grade accounts plus (iii) a percentage of eligible inventories (up to a cap of $30.0 million). At September 30, 2019, under the Prior Credit Facility, as amended, the maximum amount the Company could borrow under the Revolver was the lesser of (i) 85% of eligible receivables plus a percentage of eligible inventories (up to a cap of $30.0 million) or (ii) $35.0 million.
At September 30, 2020, the upper limit on Revolver borrowings was $39.4 million, and $19.4 million was available. At September 30, 2019, the upper limit on Revolver borrowings was $35.0 million with $8.4 million available. Average Revolver balances amounted to $24.4 million and $21.4 million during the fiscal years ended September 30, 2020 and September 30, 2019, respectively.
Under the Credit Facility, variable rate debt accrues interest at LIBOR plus the applicable marginal interest rate that fluctuates based on the Company’s Fixed Charge Coverage Ratio, as defined below. At September 30, 2020, the applicable marginal interest rate was 1.75% for the Revolver. At September 30, 2019, the applicable marginal interest rate was 2.25% for the Revolver and 2.50% for Term Loan B and Equipment Line Advances. Changes to applicable margins and unused fees resulting from the Fixed Charge Coverage Ratio, as defined below, generally become effective mid-way through the subsequent quarter.
The Company incurs quarterly unused commitment fees ranging from 0.250% to 0.375% of the excess of $45.0 million over average borrowings under the Revolver. Fees incurred amounted to $32 thousand and $20 thousand during the fiscal years ended September 30, 2020 and September 30, 2019, respectively. The fee percentage varies based on the Company’s Fixed Charge Coverage Ratio, as defined below.
The Credit Facility contains various affirmative and negative covenants including financial covenants. As of September 30, 2020, the Company had to maintain a minimum fixed charge coverage ratio (“Fixed Charge Coverage Ratio”). The Fixed Charge Coverage Ratio compares (i) EBITDAS minus unfinanced capital expenditures minus income tax expense, to (ii) the sum of interest expense, principal payments, payments on all capital lease obligations and dividends, if any (fixed charges). “EBITDAS” is defined as earnings before interest, income taxes, depreciation, amortization and non-cash stock compensation expense. The Fixed Charge Coverage Ratio was measured for a trailing twelve months ended September 30, 2020 as a minimum of 1.10 times. The Fixed Charge Coverage Ratio was the only covenant in effect at September 30, 2020. The Credit Facility also provides for customary events of default, subject in certain cases to customary cure periods, in which the outstanding balance and any unpaid interest would become due and payable.
The Company was in compliance with the financial debt covenant at September 30, 2020.
Contractual Principal Payments
A summary of contractual principal payments under IEC’s borrowings at September 30, 2020 for the next three years taking into consideration the Credit Facility is as follows:
|Debt Repayment Schedule||Contractual |
|(in thousands)|| |
|Twelve months ending September 30,|| |
|2021|| ||$||— |
|2022|| ||— |
|2023|| ||21,742 |
| || ||$||21,742 |
NOTE 7—WARRANTY RESERVES
IEC generally warrants its products and workmanship for up to twelve months from date of sale. As an offset to warranty claims, the Company is sometimes able to obtain reimbursement from suppliers for warranty-related costs or losses. Based on historical warranty claims experience and in consideration of sales trends, a reserve is maintained for estimated future warranty costs to be incurred on products and services sold through the balance sheet date. The warranty reserve is included in other accrued expenses on the consolidated balance sheets.
A summary of additions to and charges against IEC’s warranty reserves during the period follows:
| ||Years Ended|
|Warranty Reserve||September 30,|
|(in thousands)|| || |
|Reserve, beginning of period||$|