SONO-TEK CORPORATION FORWARD-LOOKING STATEMENTS
We discuss expectations regarding our future performance, such as our business outlook, in our annual and quarterly reports, news releases, and other written and oral statements. These "forward-looking statements" are based on currently available competitive, financial and economic data and our operating plans. They are inherently uncertain, and investors must recognize that events could turn out to be significantly different from our expectations and could cause actual results to differ materially. These factors include, among other considerations, general economic and business conditions; political, regulatory, tax, competitive and technological developments affecting our operations or the demand for our products, including the imposition of tariffs; timely development and market acceptance of new products and continued customer validation of our coating technologies; adequacy of financing; capacity additions, the ability to enforce patents; maintenance of operating leverage; maintenance of increased order backlog; consummation of order proposals; completion of large orders on schedule and on budget; continued sales growth in the medical and alternative energy markets; successful transition from primarily selling ultrasonic nozzles and components to a more complex business providing complete machine solutions and higher value subsystems; and realization of quarterly and annual revenues within forecasted range.
We undertake no obligation to update any forward-looking statement.
OVERVIEW
Founded in 1975,Sono-Tek Corporation designs and manufactures ultrasonic coating systems that apply precise, thin film coatings to a multitude of products for the microelectronics/electronics, alternative energy, medical and industrial markets, including specialized glass applications in construction and automotive. We also sell our products to emerging research and development and other markets. We have invested significant resources to enhance our market diversity. Using our core ultrasonic coating technology, we have increased our portfolio of products, the industries we serve, and the countries in which we sell our products. Our ultrasonic nozzle systems use high frequency, ultrasonic vibrations that atomize liquids into minute drops that can be applied to surfaces at low velocity providing thin layers of protective materials over a surface such as glass. Our solutions are environmentally-friendly, efficient and highly reliable. They enable dramatic reductions in overspray, savings in raw material, water and energy usage and provide improved process repeatability, transfer efficiency, high uniformity and reduced emissions. We believe product superiority is imperative in all that we produce and that it is developed through the extensive experience we have in the coatings industry, our proprietary manufacturing know-how and skills and our unique work force we have built over the years. Our growth strategy is focused on leveraging our innovative technologies, proprietary know-how, unique talent and experience, and global reach to further develop thin film coating technologies that enable better outcomes for our customers' products and processes. We are a global business with approximately 65% of our sales generated from outsidethe United States in the first nine months of fiscal 2020. Our direct sales team and our distributor and sales representative network are located inNorth America ,Latin America ,Europe andAsia . Over the last few years, we have expanded our sales capabilities by increasing the size of our direct sales force and adding new distributors and sales representatives ("reps"). Of note, we have implemented demonstration labs in several areas ofAsia andEurope , in addition to our headquarters lab inNew York , that are used to train our distributors and reps. These labs are also valuable for demonstrating to prospective customers the capabilities of our equipment and enable us to develop custom solutions to meet their needs. Over the last few years, we have shifted our business from primarily selling our ultrasonic nozzles and components to a more complex business providing complete machine solutions and higher value subsystems to original equipment manufacturers ("OEMs"). The range for our average unit selling price has broadened as a result to$50 thousand per unit to over$240 thousand per unit. As a result, we can experience wide variations in both order flow and shipments from quarter to quarter. Third Quarter Fiscal 2020 Highlights (compared with the third quarter of fiscal 2019 unless otherwise noted) We refer to the three-month periods endedNovember 30, 2019 and 2018 as the third quarter of fiscal 2020 and fiscal 2019, respectively.
• Net sales were
sales for widetrack integrated coating systems in the float glass market,
and increased sales of our SonoBraze product for the manufacturing of heat
exchangers and condensers.
11
• Gross profit margin was 48.9% compared with 41.1%. Improvement is primarily
due to a shift in sales to countries other than
mix, and increased sales volume of integrated coating systems and multi-axis
coating systems.
• Operating income increased to
the quarter.
• Backlog on
Nine Month Fiscal 2020 Highlights (compared with the first nine months of fiscal 2019 unless otherwise noted) We refer to the nine-month periods endedNovember 30, 2019 and 2018 as the first nine months of fiscal 2020 and fiscal 2019, respectively.
• Net sales were
sales to the semiconductor industry, increased sales of stent coating
systems, and increased sales of float glass coating equipment.
• Gross profit margin was 47.2% compared with 45.1%. Improvement is primarily
due to a shift in sales to countries other than
mix, and increased sales volume of integrated coating systems and multi-axis
coating systems.
• Operating income increased to
revenue and gross profit were key factors in the improvement of operating
income during the quarter.
RESULTS OF OPERATIONS
Sales
Product Sales:
Three Months Ended Nine Months Ended
November 30, Change November 30, Change
2019 2018 $ % 2019 2018 $ %
Fluxing Systems
9,000 1%
Integrated Coating
Systems 628,000 286,000 342,000 120% 1,438,000 917,000 521,000 57%
Multi-Axis Coating
Systems 1,631,000 1,681,000 (50,000 ) (3% ) 4,519,000 3,813,000 706,000 19%
OEM Systems 400,000 402,000 (2,000 ) - 965,000 1,380,000 (415,000 ) (30% )
Other 752,000 505,000 247,000 49% 2,056,000 1,710,000 346,000 20%
TOTAL $ 3,672,000 $ 3,155,000 517,000 16% $ 9,841,000 $ 8,674,000 1,167,000 13%
Sales growth was driven by demand for our more complex, highly-engineered and
higher value multi-axis and integrated coating machines, primarily for the
Electronics/Microelectronics and Medical markets in the first nine months of
fiscal 2020. This equipment's average selling price can range from $100 thousand
to over $300 thousand per unit and is typically ordered in one-or two-unit
volumes. Growth in these product categories more than offset the decline in OEM
Systems, greatly influenced by our strategy to offer customers full coating
solutions at higher price points compared to smaller revenue OEM packages.
Market Sales:
Three Months Ended Nine Months Ended
November 30, Change November 30, Change
2019 2018 $ % 2019 2018 $ %
Electronics/Microelectronics
7% $ 4,017,000 $ 3,048,000 969,000 32%
Medical 1,083,000 644,000 439,000 68% 2,875,000 2,726,000 149,000 5%
Alternative Energy 917,000 1,061,000 (144,000 ) (14% ) 1,527,000 1,562,000 (35,000 ) (2% )
Emerging R&D and Other 252,000 289,000 (37,000 ) (13% ) 937,000 974,000 (37,000 ) (4% )
Industrial 316,000 127,000 189,000 148% 485,000 364,000 121,000 33%
TOTAL $ 3,672,000 $ 3,155,000 517,000 16% $ 9,841,000 $ 8,674,000 1,167,000 13%
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Customer use of our application process development laboratories, located
throughout the world, continue to reach record levels in the first nine months
of fiscal 2020, which we believe demonstrates the success of our strategy to
provide excellent application engineering expertise as well as paid coating
services to prospects and customers to validate the capabilities of our coating
technologies for their uses. These service-based customers are guided by our
applications engineering team, to develop successful coating processes for their
unique needs. Upon achieving coating results that meet the application
requirements, the customer's next step is typically to purchase the newly
defined coating solution. We believe a high percentage of prospects and
customers that use our lab services to develop their products results in sales
of our ultrasonic coating solutions.
We experienced a significant increase in the Electronics/Microelectronics
market, primarily as a result of sales to the semiconductor market. Sono-Tek
continues to make significant investment in both personnel and equipment for
focused application engineering expertise in this area.
The medical market showed an increase in the first nine months of fiscal 2020
which was primarily influenced by strong sales of our equipment to be used for
stent coating.
Geographic Sales:
Three Months Ended Nine Months Ended
November 30, Change November 30, Change
2019 2018 $ % 2019 2018 $ %
U.S. & Canada $ 1,278,000 $ 1,211,000 67,000 6% $ 3,440,000 $ 3,283,000 157,000 5%
Asia Pacific
(APAC) 1,372,000 1,368,000 4,000 - 2,712,000 2,744,000 (32,000 ) (1% )
Europe, Middle
East, Asia (EMEA) 737,000 440,000 297,000 68% 2,249,000 1,990,000 259,000 13%
Latin America 285,000 136,000 149,000 110% 1,440,000 657,000 783,000 119%
TOTAL $ 3,672,000 $ 3,155,000 517,000 16% $ 9,841,000 $ 8,674,000 1,167,000 13%
In both the third quarter and first nine months of fiscal 2020, approximately
65% of sales originated outside of the United States and Canada compared with
62% in the prior-year fiscal periods. The strong increase in sales to Latin
America was primarily the result of a significant custom designed multi-axis
medical device coating system, and a steady increase of fluxing systems sold
into Mexico .
Gross Profit:
Three Months Ended Nine Months Ended
November 30, Change November 30, Change
2019 2018 $ % 2019 2018 $ %Net Sales$ 3,672,000 $ 3,155,000 $ 517,000 16%$ 9,841,000 $ 8,674,000 $ 1,167,000 13% Cost of Goods Sold 1,875,000 1,859,000 16,000 1% 5,192,000 4,762,000 430,000 9% Gross Profit$ 1,797,000 $ 1,296,000 $ 501,000 39%$ 4,649,000 $ 3,912,000 $ 737,000 19%
Gross Profit % 48.9% 41.1% 47.2% 45.1% Gross profit increased$501,000 , or 39%, to$1,797,000 for the third quarter of fiscal 2020 compared with$1,296,000 in the prior year period. Gross profit margin was 48.9% in the third quarter of fiscal 2020, compared with 41.1% in the prior year period. Gross profit increased$737,000 , or 19%, to$4,649,000 for the first nine months of fiscal 2020 compared with$3,912,000 in the prior year period. Gross profit margin was 47.2% for the first nine months of fiscal 2020, compared with 45.1% in the prior year period.
The improvement in gross profit margin for the third quarter and the first nine months of fiscal 2020, is partially due to a shift in sales to countries other thanChina . In the prior fiscal year, our gross profit margin was negatively impacted as a result of our pricing strategy to establish a foothold in the fuel cell market inChina . In addition, the shift of sales away fromChina , has reduced the deep discounts required to sell inChina and the avoidance of tariffs which have had a negative impact on our margins. 13
In addition, in the third quarter and first nine months of fiscal 2020, our gross profit margins were partially improved due to increased sales of our widetrack systems and medicoat stent coating equipment, both of these product lines traditionally have had higher profit margins compared to our other products.
Operating Expenses:
Three Months Ended Nine Months Ended
November 30, Change November 30, Change
2019 2018 $ % 2019 2018 $ %
Research and
product
development $ 362,000 $ 325,000 37,000 11% $ 1,020,000 $ 979,000 41,000 4%
Marketing and
selling 849,000 653,000 196,000 30% 2,326,000 1,979,000 347,000 18%
General and
administrative 316,000 268,000 48,000 18% 936,000 858,000 78,000 9%
Total Operating
Expenses $ 1,527,000 $ 1,246,000 $ 281,000 23% $ 4,282,000 $ 3,816,000 $ 466,000 12%
Research and Product Development:
For the third quarter of fiscal 2020, research and product development costs increased primarily due to an increase in research and development materials.
For the first nine months of fiscal 2020, research and product development costs increased$41,000 as a result of higher salary expense and related health insurance costs from the addition of personnel and increased research and development materials expense. These expenses were partially offset by decreases in depreciation and travel expense.
Marketing and Selling:
Higher marketing and selling costs for the third quarter of fiscal 2020 were the result of increases in salaries and related health insurance premiums, international commission expense and trade show expense.
Higher marketing and selling costs for the first nine months of fiscal 2020 were due to increased salaries, health insurance premiums and trade show expense. These increases were partially offset by decreases in travel expense and international distributor training expense. In the third quarter of fiscal 2020, we expended approximately$229,000 for commissions as compared with$116,000 for the prior year fiscal period, an increase of$113,000 . For the first nine months of fiscal 2020, we expended approximately$505,000 for commissions as compared with$325,000 for the prior year fiscal period, an increase of$180,000 . The increase in commission expense, in both periods, is primarily the result of an increase in international sales being generated by our external distributors. Our external distributors are commissioned at a higher rate than our in house sales team.
General and Administrative:
Higher general and administrative costs in the third quarter and the first nine months of fiscal 2020 were the result of increases in health insurance premiums, corporate expense and stock-based compensation expense. These increases were partially offset by lower professional fees, supplies and other miscellaneous expenses. Health Insurance Premiums:
The Company's health insurance program requires employee contributions. In the third quarter of fiscal 2020, the Company's net health insurance expense was approximately$94,000 as compared with$88,000 for the prior year fiscal period, an increase of$6,000 or 7%. For the first nine months of fiscal 2020, the Company's net health insurance expense was approximately$285,000 as compared with$234,000 for the prior year fiscal period, an increase of$51,000 or 22%. The increase in health insurance expense for the first nine months of fiscal 2020 is primarily attributable to the timing of the Company's insurance program renewal and eligible employee
enrollment. Operating Income: Our operating income increased$220,000 , to$270,000 in the third quarter of fiscal 2020, compared with$50,000 for the prior year period. Growth in revenue and gross profit were key factors in the improvement of operating income in the third quarter of fiscal 2020. Operating margin for the quarter increased to 7.4% compared with 1.6% in the prior year period. 14 For the first nine months of fiscal 2020, operating income increased$271,000 , to$367,000 compared with$96,000 in the prior year period. Growth in revenue and related growth in gross profit were key factors in the improvement of operating income in the first nine months of fiscal 2020. Operating margin for the first nine months of fiscal 2020 increased to 3.7% compared with 1.1% in the prior year period. We continue to invest in research and product development, as well as marketing and selling activities as well as professional and other staffing to support our anticipated future market opportunities.
Interest Expense:
Interest expense was$8,000 in the third fiscal quarter of 2020 compared with$10,000 for the prior-year period. For the first nine months of fiscal 2020, interest expense was$25,000 compared with$31,000 for the prior year period. Interest expense is directly related to the mortgage on our industrial park. Interest and Dividend Income: Interest and dividend income decreased$12,000 to$21,000 in the third quarter of fiscal 2020 as compared with$33,000 for the prior year period. For the first nine months of fiscal 2020, interest and dividend income decreased$28,000 to$77,000 as compared with$105,000 in the prior year period. The decrease in interest and dividend income, in both periods, is due to the reallocation of our investments intoUS Treasury securities and certificates of deposit. Our present investment policy is to invest excess cash in highly liquid, low riskUS Treasury securities, certificates of deposit and mutual funds. AtNovember 30, 2019 , the majority of our holdings are rated at or above investment grade.
Net unrealized loss on marketable securities:
The Company adopted ASU 2016-01, "Financial Instruments - Overall: Recognition and Measurement of Financial Assets and Financial Liabilities" in the first quarter of fiscal 2019. ASU 2016-01 requires the Company to measure its equity investments at fair value and changes in fair value are to be recognized in net income. Further information is available in NOTE 2: SIGNIFICANT ACCOUNTING POLICIES in our financial statements.
In the third quarter and the first nine months of fiscal 2019, net income and
earnings per share reflect the actual deduction of
In the third quarter and the first nine months of fiscal 2020, there was no unrealized gain or loss recorded for the Company's marketable securities. Our present investment policy is to invest excess cash in highly liquid, low riskUS Treasury securities, certificates of deposit and mutual funds. Unrealized gains or losses, if any, are considered to be immaterial.
Other Income:
Included in other income is the net revenue related to the rental of the Company's real estate.
For the third quarter of fiscal 2020, the Company's rental revenue was$20,000 , expenses were$13,000 and net revenue was$7,000 . This compares with the third quarter of fiscal 2019 when rental revenue was$22,000 , expenses were$13,000 and net revenue was$9,000 .
For the first nine months of fiscal 2020, the Company's rental revenue was$60,000 , expenses were$41,000 and net revenue was$19,000 . This compares with the first nine months of fiscal 2019 when rental revenue was$63,000 , expenses were$43,000 and net revenue was$20,000 .
Income Tax Expense:
We recorded income tax expense of
We recorded income tax expense of
Net Income:
Net income increased by
Net income increased by
15
Fiscal Year 2020 Outlook
We expect that a significant portion of our backlog of $5,402,000 , as of
November 30, 2019 , will ship during the fiscal year ending February 29, 2020 .
However, shipments are dependent upon customer acceptance test schedules for
some of our more complex and customized equipment orders. Based on our existing
backlog, we expect that our current fiscal year sales will grow in the range of
15% to 25%. Furthermore, we expect that this increased sales volume will expand
margins and drive stronger earnings. Part of our anticipated growth is due to a
$1,650,000 order for one of Sono-Tek's newly developed Robotic Coating Platforms
called OMNIbot. OMNIbot is a product line that will allow us to pursue
additional prospects for customers' six-axis robotic coating needs, which
presents an opportunity for additional growth.
LIQUIDITY AND CAPITAL RESOURCES
Working Capital - Our working capital increased$272,000 to$6,696,000 atNovember 30, 2019 from$6,424,000 atFebruary 28, 2019 . The increase in working capital was mostly the result of the current period's net income and noncash charges partially offset by purchases of equipment and repayment of long-term debt.
The Company aggregates cash and cash equivalents and marketable securities in managing its balance sheet and liquidity. For purposes of the following analysis, the total is referred to as "Cash." AtNovember 30, 2019 andFebruary 28, 2019 , our working capital included: Cash November 30, February 28, (Decrease) 2019 2019 Increase Cash and cash equivalents$ 2,279,000 $ 3,144,000 ($ 865,000 ) Marketable securities 3,740,000 2,366,000 1,374,000 Total$ 6,019,000 $ 5,510,000 $ 509,000 The following table summarizes the accounts and the major reasons for the$509,000 increase in "Cash": Impact on Cash Reason Net income, adjusted for$ 841,000 non-cash items To reconcile increase in cash. Accounts receivable decrease 60,000 Cash receipts. Inventories increase (1,370,000) Required to support backlog. Prepaid expense decrease 201,000 Previous deposits on inventory. Equipment purchases (392,000) Equipment upgrade for productivity. Customer deposits increase 804,000 Received for new orders. Accounts payable increase 469,000 Timing of disbursements. Repayment of long-term debt (122,000) Repayment of debt. Taxes payable increase 18,000 Timing of disbursements. Net increase in cash$ 509,000
Stockholders' Equity - Stockholder's Equity increased
Operating Activities - We generated$1,023,000 of cash in our operating activities in the first nine months of fiscal 2020 compared with$88,000 in the first nine months of fiscal 2019. The increase in cash generated by operating activities was mostly the result of increased accounts payable, accrued expenses, customer deposits and a decrease in accounts receivable. These sources of cash were partially offset by increased inventories and a decrease in prepaid expenses directly related to inventory. Investing Activities - For the first nine months of fiscal 2020, cash used by investing activities was$1,766,000 compared with using$361,000 of cash for the first nine months of fiscal 2019. For the first nine months of fiscal years 2020 and 2019, we used$392,000 and$487,000 , respectively, for the purchase or manufacture of equipment, furnishings and leasehold improvements. For the first nine months of fiscal 2020, we used$1,374,000 for the purchase of marketable securities and for the first nine months of fiscal 2019 we received$126,000 from the sale of marketable securities. 16 Financing Activities - In the first nine months of fiscal years 2020 and 2019, we used$122,000 and$117,000 in cash, respectively, for the repayment of our note payable.Net (Decrease) in Cash and Cash Equivalents - In the first nine months of fiscal 2020 our cash balance decreased by$865,000 compared with a decrease of$390,000 in the first nine months of fiscal 2019. In the first nine months of fiscal 2020, our operating activities generated$1,023,000 of cash. In addition, we used$392,000 for the purchase or manufacture of equipment, furnishings and leasehold improvements, used$1,374,000 for the purchase of marketable securities and used$122,000 for the repayment of our note payable.
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of the Company's financial condition and results of operations are based upon the consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted inthe United States of America . The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amount of assets and liabilities, revenues and expenses, and related disclosure on contingent assets and liabilities at the date of the financial statements. Actual results may differ from these estimates under different assumptions
and conditions. Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and may potentially result in materially different results under different assumptions and conditions. The Company believes that critical accounting policies are limited to those described below. For a detailed discussion on the application of these and other accounting policies see Note 2 to the Company's consolidated financial statements included in Form 10-K for the year endedFebruary 28, 2019 .
Accounting for Income Taxes
As part of the process of preparing the Company's condensed consolidated financial statements, the Company is required to estimate its income taxes. Management judgment is required in determining the provision for the deferred tax asset.
Stock-Based Compensation The computation of the expense associated with stock-based compensation requires the use of a valuation model. ASC 718 is a complex accounting standard, the application of which requires significant judgment and the use of estimates, particularly surrounding Black-Scholes assumptions such as stock price volatility, expected option lives, and expected option forfeiture rates, to value equity-based compensation. The Company currently uses a Black-Scholes option pricing model to calculate the fair value of its stock options. The Company primarily uses historical data to determine the assumptions to be used in the Black-Scholes model and has no reason to believe that future data is likely to differ materially from historical data. However, changes in the assumptions to reflect future stock price volatility and future stock award exercise experience could result in a change in the assumptions used to value awards in the future and may result in a material change to the fair value calculation of stock-based awards. ASC 718 requires the recognition of the fair value of stock compensation in net income. Although every effort is made to ensure the accuracy of our estimates and assumptions, significant unanticipated changes in those estimates, interpretations and assumptions may result in recording stock option expense that may materially impact our financial statements for each respective reporting period.
IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS
For information regarding new accounting pronouncements and their effect on the Company, see "New Accounting Pronouncements" in Note 2 of the unaudited notes to the condensed consolidated financial statements.
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