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Operator
Good afternoon and welcome to the Precision Optics fourth quarter and fiscal year 2021 financial results conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your touchtone phone. To withdraw your question, please press star, then two. Please note, this event is being recorded. I would now like to turn the conference over to Robert Bloom with Listum Partners. Please go ahead.
Robert Bloom
All right. Thank you so much, Eileen, and thank you all for joining us today to discuss the financial results of Precision Optics for the fourth quarter of fiscal year 2021, ended June 30th, 2021. With us on the call representing the company today are Dr. Joe Forkey, Precision Optics Chief Executive Officer, and Dan Hebegger, the company's Chief Financial Officer. At the conclusion of today's prepared remarks, we will open the call for a question and answer session. Today's conference call is also being webcast with replay capabilities available both through the webcast as well as through dial-in instructions. The details of both were included in today's press release. Before we begin with prepared remarks, we submit for the record the following statement. Statements made by the management team of Precision Optics during the course of this conference call may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended, and such forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. forward-looking statements describe future expectations, plans, results, or strategies and are generally preceded by words such as may, future, plan or planned, will or should, expected, anticipates, draft, eventually, or projected. Listeners are cautioned that such statements are subject to a multitude of risks and uncertainties that could cause future circumstances, events, or results to differ materially from those projected in the forward-looking statements and including the risk that actual results may differ materially from those projected in the forward-looking statements as a result of various factors and other risks identified in our filings with the Securities and Exchange Commission. All forward-looking statements contained during this conference call speak only of the date on which they were made and are based on management's assumptions and estimates as of such date. The company does not undertake any obligation to publicly update any forward-looking statements whether as a result of the receipt of new information, the occurrence of future events, or otherwise. With that said, let me turn the call over to Dr. Joe Forkey, Chief Executive Officer, Precision Optics. Joe, please proceed.
Eileen
Thank you, Robert, and thank you all for joining our call today to discuss our fourth quarter and fiscal year-end 2021 financial results. Similar to our last few calls, I will first summarize a few key events of the quarter and year, including some brief commentary on the numbers and put it into the context of the strategic plans we have discussed on earlier calls. I'll then talk a bit about the status of our commercialized programs and pipeline projects, including some industry trends we are seeing and how Precision Optics is positioned to grow our operations going forward. Then I'll wrap up with a more detailed recap of the financial results and, as always, take questions. At a high level, I am pleased with the performance throughout fiscal 2021, as we reported record annual revenues of $10.7 million, consistent with our pre-announced results back in August. This is a great achievement, considering the difficult environment for many of our production projects due to the pandemic. As we have discussed on earlier calls, the pandemic has reduced significantly our production revenue for released product, by slowing or postponing production on three of our major programs. The revenue from these programs has largely been replaced by new engineering pipeline projects. This was possible because of the strategic focus we have made over the last few years to enhance our sales and engineering capabilities to acquire and advance new pipeline projects. While some of the new engineering pipeline projects were not as individually profitable as some of the more mature production revenue they replaced, they all generated positive gross margin and greatly reduced the impact that pandemic-related reductions in production revenues would have had otherwise. Our engineering pipeline today is as large and robust as it has been any time in the company's history. And with a hopeful return of many of our production projects to pre-pandemic levels in the future, We expect overall growth in fiscal 2022 and beyond. Our senior management team also did a great job managing our way through the pandemic by leveraging tools that were available to us to maintain our workforce, while at the same time taking the necessary precautions to ensure the safety of our employees. This efficient management allowed us to end fiscal year 2021 in June with only a slight adjusted EBITDA loss of $24,000, an improvement of nearly $750,000 in adjusted EBITDA performance as compared to fiscal 2020, which was the first fiscal year affected by the pandemic. Importantly, the market opportunities for micro-optic and 3D-enabled devices and components in the medical and defense and aerospace industries continues to be robust. Even during the pandemic, when some customers pulled back on production orders for some mature products, our customers uniformly have continued to pursue development efforts for next-generation applications that leverage the unique and proprietary capabilities of precision optics. This is true of both large established industry players as well as well-funded startup companies. And interestingly, is true of all three of the customers who reduced their production levels of their mature product. Coming off of a year with record revenue, a continuously growing engineering pipeline, a hopeful return to historic production levels for pandemic-impacted products, and continued efficient management of our operating expenses and cash flows, we believe we are well positioned for the future. With that high-level summary, I'll now comment on some of the details on our various projects and associated industry trends. Overall, production revenue during fiscal 2021 was $7.9 million, down about 7% compared to fiscal 2020. The impact from the pandemic on our cardiac otoscopy and lead defense product were the primary drivers for the decrease, as our ROS operations and traditional products all continued to perform well throughout the year. As we reported throughout much of fiscal 2021, we continued to see reduced production levels from the cardiac program from where they were prior to the start of the pandemic. As the pandemic reduced the number of surgical procedures last year, our customers' inventory of the endoscope that we make increased, and so we throttled back on our production rate. This resulted in a reduction of revenue from this customer by about 33% year-over-year and 52% compared to fiscal 2019, the last full pre-pandemic year. In conversations with this customer, there are strong indications that demand is coming back for their application. We believe we have moved beyond the immediate, acute impact of the pandemic and are starting to climb back to pre-pandemic levels of demand. In some cases, they have even begun to resume their efforts to expand into new geographic markets. This market recovery will have a delayed effect in terms of us ramping production levels back to pre-pandemic levels as they burn off some excess inventory. But the fact that demand in the market is recovering provides significant optimism that longer-term production will return to levels as high as and greater than they were before the pandemic. Production of our otoscopy product remains on hold pending better end market visibility for the product as our customer works through the excess inventory they have built up during the pandemic. While our customer continues to sell product and the market volume is beginning to show some early signs of recovery, the timing and extent of future order requirements are still uncertain. Despite this, our relationship with this customer continues to remain very strong. As I mentioned last quarter, They've engaged us to help them evaluate some design options on another program. While the long-term size of this program is difficult to predict, it continues to progress and grow and validates the strong partnership we have developed. At the end of the day, we continue to believe the long-term prospects for their product remains very positive and that our position as their sole supplier is solid. We look forward to working closely with them to make our original product, as well as this new program, successful for both of our companies. In our production defense program, the follow-on order has been held up since the beginning of the pandemic. We have heard recently, however, from our customer that this project is ramping back up and that we should expect an order any day now. As I've mentioned on earlier calls, we have already procured the raw materials for this product and are well prepared to start quickly when we receive this anticipated order. As I mentioned earlier, the volumes of our traditional products, including complex endocouplers, specialized endoscopes, custom spinal surgery products, along with the components supplied by our Ross Optical Division, all remained stable during the fourth quarter and year. We are maintaining good margins on these products, despite the impacts from worldwide shipping and lead time delays that have developed across many industries. Finally, we continue to see new customer opportunities developing out of cross-selling synergies between our Ross optical operations and our historical POC operations. This has always been one of the highlights of that acquisition, and we are pleased to see it coming to fruition. I simply couldn't be more pleased with how this acquisition has played itself out over the last few years. As we look forward to fiscal 2022, we believe that in later parts of the fiscal year, we will see growth from our production programs with long-term recovery from the effects of the pandemic, as well as transition of a couple pipeline programs into production. Let's transition to our engineering developments and pipeline, which is as large and robust as it has been at any time in recent history. Even compared to where we were when we last spoke in May, we have added new programs to the pipeline and have advanced certain projects beyond the initial evaluation stage. Today, we have development projects in the medical device areas of ophthalmology, colonoscopy, otoscopy, cardiology, and urology. And as a consequence of our continued efforts to explore business opportunities in the defense aerospace market, we have also recently added another development project from this market into our engineering pipeline. From a revenue standpoint, fiscal 2021 engineering revenue was $2.8 million, nearly double compared to fiscal 2020. Fourth quarter engineering revenue was $783,000. As I've discussed, this has helped significantly to offset revenue reductions due to pandemic impact on our recently released production products. This growth in engineering revenue is due in part to the increase in our sales resources, which has led to the identification of more opportunities, along with the increase in our technical capabilities, which has allowed us to respond to these opportunities quickly. Both of these are areas that we have identified over the last couple years as strategic areas of investment. Not only do the number of projects that are moving through our engineering group drive growth in our engineering revenue in the near term, they also increase the pipeline of candidates for long-term commercial production. And while we don't expect every one of these engineering pipeline projects to ultimately move through production, it is true that improvements in engineering revenue are generally a strong leading indicator of potential future growth in production revenue. On our last earnings call, I spent a few minutes discussing single-use products and the associated technology we have been developing in the areas of design and manufacture of such products. As I mentioned then, the market for single-use devices continues to expand as more and more customers recognize the medical and financial benefits of such devices. While we are well positioned to take advantage of the growing single-use market, we continue to see a robust ongoing market for reusable medical devices as well, especially those that require cutting-edge technologies to provide advanced next-generation performance. As such, we expect ongoing opportunities in this area for the foreseeable future, both from our long-term existing products as well as new and existing development projects. Finally, we continue to look at expanded markets for our proprietary technologies, particularly in the defense and aerospace markets. Today, we have a couple of pipeline projects in this area. With that overview of the three market areas we focus on for new opportunities, let me summarize the status of a few pipeline projects, starting with our most advanced pipeline project, the multi-camera colonoscope, which is enabled by the custom microcameras that we provide. Very similar to last quarter, we continue to wait anxiously for final FDA 510 clearance for our colonoscope customer. As has been well reported, the FDA has been behind due to pandemic-related emergency use authorizations, which I believe is the reason why this product has not yet received final clearance. Our customer, however, has reiterated their belief that they are on track for 510 clearance soon based on recent meetings they have had with the FDA. While we and our customer wait for the FDA, they have developed a robust go-to-market plan with the sales force, demo systems, and production facilities already in place. We remain confident that soon after they receive clearance, we will see additional production orders for our cameras. The project with the large defense aerospace company that we have discussed the last few quarters continues to move forward. We will complete what we expect to be the final lot of prototype units in the next week or so and still believe we are well positioned to have this project transition to production soon. Within our single-use ophthalmology program, we continue to move through the design validation stage of this program. As a single-use product, The design validation serves to confirm that this product can be made reproducibly in high volumes. We have already built a few hundred of these units and expect to build a few hundred more before completing the design validation process. While the costs of this program are somewhat higher than we originally anticipated, it is still profitable and we continue to gain valuable experience and technical know-how that will benefit us in future single-use projects. We still anticipate that this product will go through regulatory approval in the next three to six months and production by mid-next year. Other projects in our engineering pipeline include an augmented reality system for use in abdominal surgery, two additional otoscopy-related projects, a new multispectral camera system, a new ophthalmology program for infants, and a 3D defense aerospace imaging system. All of these programs are moving forward nicely. All told, the number of engineering pipeline projects is greater today than any time in the recent past, and our sales team continues to pursue additional opportunities. Consistent with our strategic plans, we continue to expand our engineering team, which is extremely busy, and doing a great job executing on pipeline projects to move them to long-term production as quickly as possible. All of this activity validates our recent strategic investments and gives us confidence in the prospects for future growth. I'll now spend a few minutes summarizing and commenting on some key elements of the income statement and balance sheet. On the top line, revenue during the fourth quarter was $2.7 million, a 20% increase compared to last year's fourth quarter and up 9% sequentially. For the year, revenue was $10.7 million, a new company record, up 8% compared to fiscal 2020. The quarterly breakdown was $1.9 million of production revenue during Q4 of fiscal 2021, roughly flat compared to $1.9 million in the previous sequential quarter, as well as the fourth quarter a year ago. Engineering services revenue was $783,000 during the fourth quarter, which was a 168% increase from the fourth quarter of a year ago, and up about $230,000 from the sequential third quarter. For the year, engineering revenue was $2.8 million, approximately double that of fiscal 2020. Again, the volume of projects in the pipeline is larger than at any point in the company's history, and pulling in this engineering revenue helped to offset some of the effects of the pandemic on productions. Our gross margin was 29% for the fourth quarter compared to 33% in the previous quarter and 29% in the fourth quarter a year ago. For the year, gross margins were 32% compared to 34% last year. This slight reduction year over year, despite our higher overall revenue, reflects the shift this year in revenue mix with a higher proportion of engineering work where costs can be somewhat more variable and difficult to predict. As we have discussed on previous calls, much of our engineering work also represents an investment in technology and know-how, which has payoffs far beyond each current quarter's gross margin. In particular, we continue to make what I believe are important investments in our single-use engineering pipeline programs, which are included in cost of goods sold, leading to a reduced overall gross margin. Adjusting for the impact of these costs gross margins would have been approximately 37% for the year. There is still room for improvement, much of which will come from more complete utilization of manufacturing overhead through a rebound in growth in production revenue. Our near-term goal continues to be to get back to the 40% plus gross margin range. Operating expenses were $1.2 million during the fourth quarter of fiscal 2021, up approximately $250,000 compared to the fourth quarter a year ago, and up $150,000 compared to the most recent third quarter of fiscal 2021. These increases in quarterly expenses for the fourth quarter were due mainly to a one-time increase in stock-based incentive compensations. For the year, operating expenses were $4.3 million compared to $4.8 million in fiscal 2020. The reduction in operating expenses year over year continues to come from overall careful management of all operating costs, as well as limitations in certain activities, particularly in the area of sales and marketing travel due to the pandemic. All told, On the net income line, we reported a gap net loss of $442,000 during the fourth quarter. However, adjusted EBITDA was a positive $24,000, with the primary difference being stock-based compensation. That compared to a $323,000 net loss in last year's Q4 and adjusted EBITDA of negative $207,000. For the year, Adjusted EBITDA was roughly break-even at $24,000 loss, and net loss was $103,000. This compares to an adjusted EBITDA net loss of $763,000 for fiscal 2020. The significant net loss for fiscal 2020 was caused mainly by the effects of the early days of the pandemic. The recovery back to roughly break-even for fiscal 2021 was due in large part to our ability to quickly pull in more engineering programs, as I've commented on already. As the effects of the pandemic subside and previously running production programs come back online, we expect revenues and margins to increase, although we still expect some level of quarterly ups and downs along the way due to timing of engineering projects and the timing and scheduling of specific production programs coming back online. Turning now to our balance sheet. Our cash balance at June 30th, 2021 was $861,000, which was up $80,000 compared to the balance of $781,000 at the end of March. The increase was driven primarily by increases in advances from customers as well as careful expense and cash management. We believe our cash balance at the end of the fourth quarter continues to position us well to execute on our plan. Before I take questions, let me recap the major elements of our strategic plan that we have discussed the last few quarters. First, growing our sales capabilities and capacity. Second, investing in our technical resources and developing our own intellectual property. Third, investing in and updating our production capabilities, for example, to address the single-use market. And fourth, augmenting our own skills and programs via external partnerships or acquisitions. On this last point, We continue to explore possible strategic transactions to increase the overall size of the business and benefit from economies of scale and to augment our existing capabilities and enhance our portfolio of offerings to our customers. Overall, I am pleased with the progress made in these four strategic areas. Precision Optics has created a strong position in micro-optics and 3D robotics, particularly within the medical device in defense and aerospace markets. We have created an end-to-end solution that allows visionary companies to leverage our capabilities to bring to market next-generation applications that they would otherwise be unable to accomplish on their own. Due to the proactive measures taken to increase investment in sales and marketing and research and development, our pipeline is as robust as it has ever been. We have a number of projects approaching near-term commercialization from which we anticipate production orders soon. Fiscal year 2021 for POC, as for much of the world, was all about managing our operations to minimize the impact of COVID-19 on our employees and on our business. In both of these, precision optics performed well. we were able to maintain our workforce and continue operations while keeping everyone safe. Through creative and diligent efforts, we were able to pull the company back to break even, even while the pandemic impacts on some production projects continued. Much of this, as I've said, was accomplished through the increase in engineering pipeline activities. We expect these increased engineering revenues to continue into fiscal year 2022 and beyond, and as the impact of the pandemic begins to lighten, as we all hope, we expect to recover long-term production orders for products currently running at reduced levels or on hold. While the timing of this recovery is difficult to predict, and while we expect some ups and downs in future quarters due to this uncertain timing, we believe that the advancements we have made during fiscal 2021 combined with the success of our overall strategy, positions us very well for the future. One final note, I will once again be available for virtual one-on-one meetings at the upcoming Lithium Partners Fall 2021 Investor Conference, which will be held next week on October 5th through the 7th. As usual, please contact Robert Bloom for additional information. Thank you for your time today. and I'll now be happy to take any questions.
Operator
We will now begin the question and answer session. To ask a question, you may press star, then 1 on your touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then 2.
Robert Bloom
You know, Eileen, while we maybe wait to see if there's any questions here, Joe, I've got just a couple of them for you here this quarter. Any impact of the supply chain issues that we've seen as it relates to any electronics and international shipping or with labor shortages in general? Anything that's affecting the business?
Eileen
Yeah, so... We are aware of all of those issues that we all hear about in the news. We certainly see some impact in some of those areas with the business, but we work very hard to minimize those. As far as the product shortages, we've not been impacted too significantly. We do use some electronics, but not so many of them that are in short supply. In many of the electronics we use, we can find alternatives for. Some of the international shipping and even domestic shipping has delayed some of the products that we're working with, but those delays are a matter of days, not weeks or months. So there hasn't been a huge impact there. I think of the ones that you mentioned, the labor shortage is the one that we see potentially having the biggest impact There are a couple of places where we're looking for some new employees, and those searches have taken a little longer than we would have expected. But I wouldn't say that any of that falls in the category of significant enough to have major impact on the business.
Robert Bloom
Okay, great. And then just one more here. Do you see any sort of a, let's call it a second round of impacts on any of the production rates or or anything else due to sort of maybe the Delta variant or, or other iterations here that we've seen from pandemic.
Eileen
Yeah. Um, so we've been, we've been watching for this closely. We've been talking with our customers. We, we talked with some folks who work, um, inside of the hospitals. And of course we watched the papers and the news, um, as, uh, as all of us do. I, I think that there's, um, um, while there, while there are clearly some increases in the number of, of, um, And while there seem to be some isolated incidents of hospitals that are being somewhat overburdened, I guess, by these, the sense that we get is that there's not a systemic pullback on the kinds of surgeries that our products are used in. And so, again, while it's hard to predict with any kind of certainty when these things are happening, it does seem that the overall impact on the surgical procedures that our products are used in is not having a major impact on our customers' nearer-term plans. Now, I think where there may be an impact is on the rate at which our customers start to burn off. Their inventory may increase or decrease a little bit, but it's nowhere near the kind of situation that we saw at the beginning of the pandemic where surgery stopped completely and our customers were not able to use their inventory at all. I think at the end of the day, it will impact to some degree the rate at which they come back, but it doesn't seem at this point to be causing a complete stop like it did in the past.
Robert Bloom
All right, perfect. That's all I had. I'll
Operator
turn it back over to you again if you would like to ask a question please press star then one at this time and seeing no further questions i'd like to go ahead and turn it back over to management for any closing remarks thank you operator and thank you everyone for joining us on the call today
Eileen
I look forward to speaking with many of you again during our virtual one-on-one meetings next week, and I hope we can all visit face-to-face again in the near future. Thanks, everyone. Have a good evening and stay safe.
Operator
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
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