Precision Optics (POCI) - 2022 Q2 - Quarterly Report

PART I FINANCIAL INFORMATION Item 1. Financial Statements This section presents the unaudited consolidated financial statements for Precision Optics Corporation, Inc. and its subsidiaries, including the Balance Sheets, Statements of Operations, Stockholders' Equity, and Cash Flows for the periods ended December 31, 2021, and June 30, 2021 (Balance Sheet) or December 31, 2020 (Income Statement, Cash Flow, Equity) Consolidated Balance Sheets Consolidated Balance Sheet Highlights | Metric | December 31, 2021 | June 30, 2021 | | :-------------------------------- | :------------------ | :------------------ | | ASSETS | | | | Cash and cash equivalents | $1,263,198 | $861,650 | | Accounts receivable, net | $2,216,061 | $1,878,755 | | Inventories | $2,503,392 | $1,885,395 | | Total current assets | $6,365,716 | $4,776,435 | | Net fixed assets | $644,062 | $594,252 | | Goodwill | $9,649,210 | $687,664 | | TOTAL ASSETS | $16,888,747 | $6,261,300 | | LIABILITIES | | | | Total current liabilities | $4,566,314 | $2,511,110 | | Long-term debt, net of current maturities | $2,145,000 | $0 | | Acquisition earn out liability, net of current portion | $855,591 | $166,666 | | STOCKHOLDERS' EQUITY | | | | Total stockholders' equity | $9,189,485 | $3,431,127 | | TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $16,888,747 | $6,261,300 | - Total assets significantly increased from $6.26 million at June 30, 2021, to $16.89 million at December 31, 2021, primarily driven by a substantial increase in Goodwill to $9.65 million, reflecting the Lighthouse Imaging acquisition[12] - Total current liabilities increased from $2.51 million to $4.57 million, largely due to increases in current maturities of long-term debt, current portion of acquisition earn-out liability, and customer advances[12] - Stockholders' equity more than doubled from $3.43 million to $9.19 million, influenced by additional paid-in capital and common stock issuance related to the acquisition and private placement[12] Consolidated Statements of Operations Consolidated Statements of Operations Highlights | Metric | Three Months Ended Dec 31, 2021 | Three Months Ended Dec 31, 2020 | Six Months Ended Dec 31, 2021 | Six Months Ended Dec 31, 2020 | | :---------------------------------- | :------------------------------ | :------------------------------ | :---------------------------- | :---------------------------- | | Revenues | $3,897,041 | $2,785,450 | $6,233,385 | $5,543,351 | | Cost of goods sold | $2,777,459 | $1,931,010 | $4,474,771 | $3,713,733 | | Gross profit | $1,119,582 | $854,440 | $1,758,614 | $1,829,618 | | Research and development expenses, net | $113,164 | $145,970 | $218,350 | $297,546 | | Selling, general and administrative expenses | $1,466,768 | $921,195 | $2,400,392 | $1,743,197 | | Operating loss | $(460,350) | $(212,725) | $(1,032,302) | $(211,125) | | Net loss | $(507,013) | $(213,454) | $(1,083,814) | $(212,661) | | Loss Per Share (Basic and Fully Diluted) | $(0.03) | $(0.02) | $(0.07) | $(0.02) | - Revenues increased by 39.9% for the three months ended December 31, 2021, to $3,897,041, and by 12.4% for the six months ended December 31, 2021, to $6,233,385, primarily due to the inclusion of the Lighthouse division[14][75][76] - Gross profit increased by 31.0% for the three-month period but decreased by 3.9% for the six-month period, with gross profit percentage declining from 30.7% to 28.7% (3-month) and 33.0% to 28.2% (6-month) due to cost over-runs on an engineering project, decreased higher-margin production revenues, and lower margins from the Lighthouse division[14][79][80] - Net loss significantly widened to $(507,013) for the three months and $(1,083,814) for the six months ended December 31, 2021, compared to the prior year periods, driven by increased operating expenses, particularly selling, general and administrative expenses, and business acquisition expenses[14][82] Consolidated Statements of Stockholders' Equity Changes in Stockholders' Equity (Six Months Ended December 31, 2021) | Item | Impact on Total Stockholders' Equity | | :------------------------------------------ | :----------------------------------- | | Balance, July 1, 2021 | $3,431,127 | | Stock-based compensation | $490,522 | | Proceeds from private placement of common stock | $1,490,625 | | Issuance of common stock in business acquisition | $4,825,000 | | Net loss | $(1,083,814) | | Balance, December 31, 2021 | $9,189,485 | - Total stockholders' equity increased from $3,431,127 at July 1, 2021, to $9,189,485 at December 31, 2021, primarily due to the issuance of common stock for the Lighthouse Imaging acquisition ($4,825,000) and proceeds from a private placement of common stock ($1,500,000 gross proceeds)[17][48][50] - Stock-based compensation expense recognized during the six-month period was $490,522[17][43] Consolidated Statements of Cash Flows Consolidated Statements of Cash Flows Highlights (Six Months Ended December 31) | Cash Flow Activity | 2021 | 2020 | | :----------------------------------- | :----------- | :----------- | | Net Cash Used In Operating Activities | $(715,163) | $(217,440) | | Net Cash Used In Investing Activities | $(293,155) | $(59,033) | | Net Cash Provided By (Used in) Financing Activities | $1,409,866 | $(41,961) | | NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS | $401,548 | $(318,434) | | CASH AND CASH EQUIVALENTS, END OF PERIOD | $1,263,198 | $816,263 | - Net cash used in operating activities increased significantly to $(715,163) for the six months ended December 31, 2021, compared to $(217,440) in the prior year, primarily due to a larger net loss[19] - Net cash used in investing activities increased to $(293,155), mainly due to the cash portion of the Lighthouse Imaging business acquisition ($255,063)[19][29] - Net cash provided by financing activities was $1,409,866, a substantial increase from a net use of $(41,961) in the prior year, driven by gross proceeds from a private placement of common stock ($1,500,000) and a new long-term debt financing for the acquisition[19][30][48] Notes to Consolidated Financial Statements The notes provide essential details on the company's accounting practices, the significant business acquisition of Lighthouse Imaging, inventory valuation, new bank financing, lease obligations, and various stock-based compensation activities. They also disaggregate revenue streams and discuss the ongoing impact of the COVID-19 pandemic 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - The financial statements are unaudited and include normal recurring adjustments, prepared in accordance with GAAP, requiring management estimates and judgments[21][22] - Basic and diluted loss per share calculations exclude potentially dilutive securities (stock options) due to the net loss generated, making their effect antidilutive[23][25] - A full valuation reserve has been provided for deferred tax assets, and no impairment of goodwill or patents was estimated as of December 31, 2021[27][28] 2. BUSINESS ACQUISITION - On October 4, 2021, the Company acquired substantially all assets of Lighthouse Imaging, LLC, a medical optics and digital imaging business[29] - The aggregate purchase price included $2,855,063 in cash, $1,500,000 in earn-out consideration over two years, and 2,500,000 unregistered shares of common stock[29] - The acquisition was financed by a $2,600,000 term loan from Main Street Bank and $1,500,000 gross proceeds from a private placement of common stock[30] Lighthouse Imaging Acquisition Purchase Price Allocation (Preliminary) | Item | Amount | | :------------------------------------ | :------------- | | Total Assets Acquired | $1,373,506 | | Total Liabilities Assumed | $1,344,382 | | Net assets acquired | $29,124 | | Goodwill | $8,961,546 | | Total Purchase Price-Initial and Contingent Consideration | $8,990,670 | - Pro forma revenues for the six months ended December 31, 2021, assuming the acquisition occurred on July 1, 2020, would have been $7,677,722, compared to actual reported revenues of $6,233,385[34] 3. INVENTORIES Inventory Composition | Category | December 31, 2021 | June 30, 2021 | | :--------------- | :------------------ | :------------------ | | Raw Materials | $1,013,788 | $626,255 | | Work-In-Progress | $640,514 | $453,117 | | Finished Goods | $849,090 | $806,023 | | Total Inventories | $2,503,392 | $1,885,395 | - Total inventories increased by 32.8% from $1,885,395 at June 30, 2021, to $2,503,392 at December 31, 2021[35] 4. BANK FINANCING ACTIVITIES - On October 4, 2021, the Company secured a $2,600,000 Term Loan and a $250,000 Revolving Line of Credit from Main Street Bank[36] - The Term Loan has monthly principal payments of $30,952.38 plus interest (prime + 1.5%, not less than 4.75%) and matures on October 15, 2028[37] - The line of credit had zero borrowings outstanding at December 31, 2021, and is secured by all company assets[36] Term Loan Note Principal Payments Due | Fiscal Year Ending June 30 | Amount | | :------------------------- | :----------- | | 2021 | $185,714 | | 2022 | $371,429 | | 2023 | $371,429 | | 2024 | $371,429 | | 2025 | $371,429 | | Thereafter | $866,665 | | Total | $2,538,095 | 5. LEASE OBLIGATIONS - The Company has capital leases for manufacturing equipment with a net book value of $167,126 as of December 31, 2021[40] - An operating lease for its El Paso, Texas facility has remaining minimum lease payments of $31,411 at December 31, 2021[41] Future Minimum Lease Payments (December 31, 2021) | Fiscal Year Ending June 30 | Capital Leases | Operating Lease | | :------------------------- | :------------- | :-------------- | | 2022 | $24,309 | $31,054 | | 2023 | $48,619 | $0 | | 2024 | $48,619 | $0 | | 2025 | $43,917 | $0 | | 2026 | $28,006 | $0 | | Total Minimum Payments | $193,470 | $31,054 | - Operating leases for Gardner, MA, and Windham, ME facilities are on a month-to-month tenant at will basis, with rent expense of $136,744 for the six months ended December 31, 2021[42] 6. STOCK-BASED COMPENSATION Stock-Based Compensation Expense | Category | Three Months Ended Dec 31, 2021 | Six Months Ended Dec 31, 2021 | | :-------------------------------- | :------------------------------ | :---------------------------- | | Cost of Goods Sold | $28,415 | $56,830 | | Research and Development | $50,310 | $93,799 | | Selling, General and Administrative | $251,726 | $339,893 | | Total Stock Based Compensation Expense | $330,451 | $490,522 | - Stock options outstanding at December 31, 2021, totaled 2,669,700 shares with a weighted average exercise price of $1.22 and a contractual life of 6.58 years[44] - The aggregate intrinsic value of in-the-money outstanding and exercisable options was $2,564,065 and $2,119,321, respectively, as of December 31, 2021[45] - 50,000 shares of restricted common stock were granted to an employee from the Lighthouse acquisition, with $9,417 recognized as compensation expense for the three months ended December 31, 2021[46] - 9,045 shares of common stock were issued to the CFO for services, resulting in $20,000 of stock-based compensation expense[47] 7. SALE OF STOCK IN OCTOBER 2021 - On October 1, 2021, the Company sold 937,500 unregistered shares of common stock at $1.60 per share, generating $1,500,000 in gross proceeds[48] - Net proceeds from this private placement were used to partially fund the acquisition of Lighthouse Imaging, LLC[48] - A registration statement for the resale of these shares was filed on January 31, 2022[49] 8. ISSUANCE OF COMMON STOCK IN BUSINESS ACQUISITION - On October 4, 2021, 2,500,000 unregistered shares of common stock were issued to the sellers of Lighthouse Imaging, LLC, valued at $1.93 per share, totaling $4,825,000[50] - The Company agreed to use reasonable efforts to register the resale of these shares[51] 9. REVENUE RECOGNITION - Revenues are recognized when performance obligations are satisfied, primarily for products and services marketed to medical device companies in the United States[52] Disaggregated Revenues by Product and Service Type | Revenue Type | Three Months Ended Dec 31, 2021 | Three Months Ended Dec 31, 2020 | Six Months Ended Dec 31, 2021 | Six Months Ended Dec 31, 2020 | | :-------------------------------- | :------------------------------ | :------------------------------ | :---------------------------- | :---------------------------- | | Engineering Design Services | $1,636,482 | $847,988 | $2,127,253 | $1,437,220 | | Optical Components | $1,486,006 | $1,398,213 | $2,945,332 | $2,874,298 | | Medical Device Products and Assemblies | $774,553 | $539,249 | $1,160,800 | $1,231,833 | | Total Revenues | $3,897,041 | $2,785,450 | $6,233,385 | $5,543,351 | - Contract liabilities (customer advances) increased significantly from $151,877 at December 31, 2020, to $1,137,470 at December 31, 2021, largely due to $826,679 assumed in the business acquisition[57] 10. COVID-19 PANDEMIC - The COVID-19 pandemic continues to pose an adverse impact on the Company's supply sources, customer orders, collections, internal operations, and overall financial condition[58] - The Company cannot predict with certainty the future impact of COVID-19 and related economic policies on its upcoming quarterly fiscal operating results[58] Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations This section provides management's perspective on the company's financial performance and condition, highlighting the impact of the Lighthouse Imaging acquisition on revenues and expenses. It details the company's business segments, strategic focus on advanced optical instruments for medical and defense applications, and discusses liquidity challenges, capital resources, and the ongoing effects of the COVID-19 pandemic Overview - Precision Optics Corporation, Inc. develops and manufactures advanced optical instruments, including endoscopes, endocouplers, and custom imaging/illumination products for minimally invasive surgical procedures[62] - The company operates Ross Optical Industries, supplying custom optical components for military, defense, medical, and industrial applications, and Lighthouse Imaging, manufacturing advanced optical imaging systems with expertise in electrical engineering and medical visualization devices[63][64] - Revenue breakdown for the six months ended December 31, 2021: 32% from engineering services, 49% from optical components, and 19% from medical device products and assemblies[65] - Future success depends on developing new optical products and services, with investments in Microprecision optics, micro medical cameras, illumination, single-use endoscopes, and 3D endoscopes[71] Results of Operations - Total revenues for the quarter ended December 31, 2021, increased by 39.9% to $3,897,041, and for the six months increased by 12.4% to $6,233,385, primarily due to the Lighthouse division acquisition[75][76] - Gross profit percentage decreased from 30.7% to 28.7% for the quarter and from 33.0% to 28.2% for the six months, attributed to cost over-runs on an engineering project, decreased higher-margin production revenues due to COVID-19, and lower margins from the Lighthouse division[79][80] - Research and development expenses decreased by 22.5% for the quarter and 26.6% for the six months, as more engineering personnel time was consumed in customer-focused activities[81] - Selling, general and administrative expenses increased by 59.2% for the quarter and 37.7% for the six months, mainly due to the Lighthouse acquisition, increased stock-based compensation, and marketing expenses[82] Liquidity and Capital Resources - The Company sustained recurring net losses, with a net loss of $1,083,814 and cash used in operating activities of $715,163 for the six months ended December 31, 2021[83] - At December 31, 2021, cash was $1,263,198, accounts receivables were $2,216,061, and current liabilities were $4,566,314, including $1,137,470 of customer advances[83] - The Company believes profitable operating results require achieving and maintaining sufficient quarterly revenues, realized gross margins, and controlled operating expenses, all subject to fluctuations[84] - Working capital needs have been funded through product sales, working capital management, stock offerings, equipment leases, and customer advances. The Lighthouse acquisition was financed by a $2.6 million bank term loan and $1.5 million from common stock sales[85][86] Contractual Cash Commitments (Subsequent to December 31, 2021) | Commitment Type | Fiscal 2022 | Thereafter | Total | | :------------------------------------ | :---------- | :--------- | :-------- | | Capital lease for equipment, including interest | $24,309 | $169,161 | $193,470 | | Minimum operating lease payments - Ross Optical division | $31,054 | $0 | $31,054 | | Open purchase orders | | | ~$1,793,652 | Off-Balance Sheet Arrangements - The Company currently has no off-balance sheet arrangements that have, or are reasonably likely to have, a material effect on its financial condition or results of operations[89] Item 3. Quantitative and Qualitative Disclosures About Market Risk As a smaller reporting company, Precision Optics Corporation, Inc. is electing scaled disclosure reporting obligations and is not required to provide the information requested by this Item - The Company is a smaller reporting company and is not required to provide quantitative and qualitative disclosures about market risk[90] Item 4. Controls and Procedures This section addresses the effectiveness of the company's disclosure controls and procedures, identifying material weaknesses related to segregation of duties and inventory valuation. It also outlines the remediation efforts undertaken to mitigate these weaknesses Management's Evaluation of Disclosure Controls and Procedures - The CEO and CFO concluded that disclosure controls and procedures, including internal control over financial reporting, were not effective as of December 31, 2021[91] - A material weakness exists due to insufficient staff for segregation of accounting duties, potentially leading to misstatements in financial statements[92] - Another material weakness relates to inventory valuation inconsistencies, where overhead rates and purchased item costs were not properly reflected, leading to periodic audit adjustments[95] - Remediation efforts include a higher-level review of financial reports by the CEO, CFO, and Board of Directors, and improved processes for inventory controls and documentation[93][97] Changes in Internal Control over Financial Reporting - There were no changes in internal control over financial reporting during the second quarter of the fiscal year that materially affected, or are reasonably likely to materially affect, internal control over financial reporting[96] PART II OTHER INFORMATION Item 1. Legal Proceedings The Company may be involved in legal matters in the ordinary course of business, but management believes current matters are insignificant and is not aware of any pending or threatened litigation that could materially impact operations or finances - The Company is not aware of any pending or threatened litigation that could have a material adverse effect on its business, financial condition, or results of operations[101] Item 1A. Risk Factors There have been no material changes to the risk factors previously disclosed in the Company's annual report on Form 10-K for the fiscal year ended June 30, 2021 - No material changes have occurred from the risk factors disclosed in the annual report on Form 10-K for the fiscal year ended June 30, 2021[102] Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Since October 4, 2021, the Company has not issued any unregistered securities, except as previously disclosed in the report, primarily related to the Lighthouse Imaging acquisition and a private placement - No unregistered securities were issued since October 4, 2021, other than those previously disclosed (e.g., for the Lighthouse Imaging acquisition and private placement)[103] Item 3. Defaults Upon Senior Securities This item is not applicable to the Company - This item is not applicable[104] Item 4. Mine Safety Disclosures This item is not applicable to the Company - This item is not applicable[106] Item 5. Other Information This item is not applicable to the Company - This item is not applicable[107] Item 6. Exhibits This section lists all exhibits filed with the Form 10-Q, including various agreements, organizational documents, equity incentive plans, and certifications. Key exhibits include the Asset Purchase Agreement for Lighthouse Imaging, financing agreements with Main Street Bank, and certifications under the Sarbanes-Oxley Act - Key exhibits include the Asset Purchase Agreement for Lighthouse Imaging, LLC (Exhibit 10.13), various financing agreements with Main Street Bank (Exhibits 10.16, 10.17, 10.18, 10.19), and certifications of officers under the Sarbanes-Oxley Act (Exhibits 31.1, 31.2, 32.1)[109][112][114][115][116][119][121]