ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This discussion and analysis contains statements of a forward-looking nature relating to future events or our future financial performance or financial condition. Such statements are only predictions and the actual events or results may differ materially from the results discussed in or implied by the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in “Part I. Item 1A. Risk Factors” as well as those discussed elsewhere in this report. The historical results set forth in this discussion and analyses are not necessarily indicative of trends with respect to any actual or projected future financial performance. This discussion and analysis should be read in conjunction with the financial statements and the related notes thereto included elsewhere in this report.
Overview
Amerityre engages in the research and development, manufacturing, and sale of polyurethane tires. We have developed unique polyurethane formulations that allow us to make products with superior performance characteristics in the areas of abrasion resistance, energy efficiency and load-bearing capabilities, when compared to conventional rubber tires. We also believe that our manufacturing processes are more energy efficient than the traditional, rubber tire, manufacturing processes, in part because our polyurethane compounds do not require the multiple processing steps, extreme heat, and high pressure that are necessary to cure rubber. We believe tires produced with our proprietary polyurethane formulations last longer, are less susceptible to failure and are friendlier to the environment when compared to competitor offerings.
We concentrate on three segments of the flat free tire market: light duty polyurethane foam tires, polyurethane elastomer industrial tires and agricultural tires. Our focus continues to be applications and markets where our advantages in product technology, tire performance, and customer service give us an opportunity to obtain premium pricing. Our most recent activities in these areas are set forth below:
Light Duty Polyurethane Foam Tires – The sale of polyurethane foam tires to original equipment manufacturers, distributors and dealers accounts for the majority of our revenue. We produce a broad range of products for the light duty tire market. Our product development and marketing efforts are focused on building customer relationships and expanding sales with original equipment manufacturers and tire distributors. Our competitive advantage is creating unique product solutions for customers who have challenging tire performance requirements that cannot be met by competitor offerings.
Due to the effect of COVID-19, we experienced lower than expected demand for our polyurethane foam tires in the 4th quarter of fiscal year 2020. However, sales have rebounded from a heavily depressed level in May 2020, and current sales levels are comparable to sales levels experienced pre-COVID. Sales for the fiscal first quarter 2021 were 7.4% higher than the sales level in fiscal first quarter 2020. Some of these sales are likely “catch up” sales related to the reopening of our customers from the COVID shutdown, but we are seeing similar strong sales trends that we saw last year during the pre-COVID period
Polyurethane Elastomer Industrial Tires – Overall sales volumes of our forklift tires remain small, less than 0.1% of our total sales revenue. Price sensitive consumers continue to favor imported solid rubber press-on forklift tires rather than our products. Due to other project priorities, we do not plan to devote significant resources towards promoting this product line.
The Company continues to see greater interest in its light-density elastomer formulation for use in tire applications where customers need higher abrasion resistance and load bearing capability. Elastothane TM 500 formulation provides better performance in these areas compared to our closed cell foam formulation. Lawn and garden tires continue to drive increased sales of this formulation We continue to believe this new formulation represents a significant upside opportunity for our product portfolio.
Agricultural Tires – Agricultural tires sales continue again to be negatively impacted by poor farm income levels. However, we have seen some recent strength in farm commodity prices which may improve the financial position of farmers and allow them to restart spending on equipment upgrades. However, we are not convinced yet that the prospect for improved agricultural commodity pricing will continue. We continue to approach OEMs and large distributors about promoting and utilizing our tires for certain applications, but their belief that farmers will not pay extra for a premium product has limited our success to date. The introduction of our ElastothaneTM 500 formulation has enabled us to offer a better product alternative for abrasive applications.
We believe investment in R&D for new and improved products is important to the continued growth and success of our overall business, and we will selectively invest in promising opportunities that can be supported within our current financial model. We have several product evaluation programs ongoing which have the potential to develop into significant future business. We expect our current R&D investments to continue to prove to be a prudent investment of our capital resources.
As described above, our product line covers diverse market segments which are unrelated in terms of customer base, product distribution, market demands and competition. Our external sales team is comprised of independent manufacturer representatives, whose experience is complementary to our product portfolio. The Company’s continued emphasis on proper product pricing and new marketing campaigns continue to drive more profitable sales. Our website educates the marketplace about our products as well as generates some online sales.
Factors Affecting Results of Operations
Our operating expenses consisted primarily of the following:
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Cost of sales, which consists primarily of raw materials, components and production of our products, including applied labor costs and benefits expenses, maintenance, facilities and other operating costs associated with the production of our products;
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Selling, general and administrative expenses, which consist primarily of salaries, commissions and related benefits paid to our employees and related selling and administrative costs including professional fees;
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Research and development expenses, which consist primarily of direct labor conducting research and development, equipment and materials used in new product development and product improvement using our technologies;
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Consulting expenses, which consist primarily of amounts paid to third-parties for outside services;
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Depreciation and amortization expenses which result from the depreciation of our property and equipment, including amortization of our intangible assets; and
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Stock based compensation expense related to stock awards issued to employees and consultants for services performed for the Company.
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Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with United States generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an ongoing basis, we evaluate our estimates, including those related to uncollectible receivables, inventory valuation, deferred compensation and contingencies. We base our estimates on historical performance and on various other assumptions that we believe to be reasonable under the circumstances. These estimates allow us to make judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.
We believe the following accounting policies are our critical accounting policies because they are important to the portrayal of our financial condition and results of operations and are in addition to revenue, inventory and stock valuation with accounting policies disclosed in our financial statements. The following require critical management judgments and estimates about matters that may be uncertain. If actual results or events differ materially from those contemplated by us in making these estimates, our reported financial condition and results of operations for future periods could be materially affected.
Valuation of Intangible Assets and Goodwill
Patent and trademark costs have been capitalized at September 30, 2020, totaling $487,633 with accumulated amortization of $399,154 for a net book value of $88,479. Patent and trademark costs capitalized at September 30, 2019, the prior year, totaled $487,633 with accumulated amortization of $381,456 for a net book value of $106,177.
The patents which have been granted are being amortized over a period of 20 years. Patents which are pending or are being developed are not amortized. Amortization begins once the patents have been issued. As of September 30, 2020 and 2019, respectively, there were no pending patents. Annually, pending or expired patents are inventoried and analyzed, which resulted in the recognition of a loss on abandonment, expiration or retirement of patents and trademarks of $-0- for each of the periods ended September 30, 2020 and 2019, respectively.
Amortization expense for the years ended September 30, 2020 and 2019 was $4,425 and $4,425 respectively. The Company evaluates the recoverability of intangibles and reviews the amortization period on a continual basis utilizing the guidance of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 350, Intangibles – Goodwill and Other. We consider the following indicators, among others, when determining whether or not our patents are impaired:
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any changes in the market relating to the patents that would decrease the life of the asset;
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any adverse change in the extent or manner in which the patents are being used;
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any significant adverse change in legal factors relating to the use of the patents;
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current period operating or cash flow loss combined with our history of operating or cash flow losses;
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future cash flow values based on the expectation of commercialization through licensing; and
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current expectations that, more likely than not, the patents will be sold or otherwise disposed of significantly before the end of its previously estimated useful life.
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Results of Operations
Our management reviews and analyzes several key performance indicators in order to manage our business and assess the quality and potential variability of our sales and cash flows. These key performance indicators include:
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Revenues, net of returns and trade discounts, which consists of product sales and services and is an indicator of our overall business growth and the success of our sales and marketing efforts;
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Gross profit, which is an indicator of both competitive pricing pressures and the cost of goods sold of our products and the mix of product and license fees, if any;
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Growth in our customer base, which is an indicator of the success of our sales efforts; and
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Distribution of sales across our products offered.
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The following summary table presents a comparison of our results of operations for the fiscal quarters ended September 30, 2020 and 2019 with respect to certain key financial measures. The comparisons illustrated in the table are discussed in greater detail below.
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Three Month Period Ended September 30,
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Percent Change
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(in 000’s)
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2020
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2019
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2020 vs. 2019
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Net revenues
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$
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1,051
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$
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979
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7.4
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%
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Cost of revenues
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(708
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)
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(690
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)
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2.5
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%
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Gross profit
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343
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289
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18.7
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%
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Research and development expenses
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(20
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)
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(26
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)
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(23.1
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)%
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Sales and marketing expense
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(60
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)
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(43
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)
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39.5
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%
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General and administrative expense
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(210
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)
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(193
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)
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8.8
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%
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Loss on asset disposal
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(3
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)
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-
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100.0
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%
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Other income
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4
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2
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100.0
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%
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Net income
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54
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29
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86.2
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%
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Preferred stock dividend
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-
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(25
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)
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(100.0
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)%
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Net income (loss) attributable to common shareholders
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$
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54
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$
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4
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1,250.0
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%
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Quarter Ended September 30, 2020 Compared to September 30, 2019
Net Revenues. Net revenues of $1,051,286 for the quarter ended September 30, 2020, represents an 7.4% increase over net revenues of $979,297 for the same period in 2019. These results exceeded our expectations. We did not expect sales to rebound quickly from the depressed sales levels seen in the previous quarter ending June 30th, 2020, due to the COVID-19 pandemic. We expect our polyurethane foam products to continue to constitute the majority of our sales during the remainder of the fiscal year.
Cost of Revenues. Cost of revenues for the quarter ended September 30, 2020 was $707,566 or 67.3% of sales compared to $690,599 or 70.5% of sales for the same period in 2019. This increase in Gross Margin was due to a favorable product mix compared to the year ago period. We have started to see indications that raw material costs, particularly chemical feedstocks, will increase in price due to a tightening of supply in the marketplace. We also expect tariffs to remain in place for the foreseeable future, regardless of the results of the US national elections in November 2020. These scenarios will likely keep pressure on our Gross Margins for the rest of the fiscal year.
Gross Profit. Gross profit for the quarter ended September 30, 2020 was $343,720 compared to $288,698 for the same period in 2019, an increase of $55,022 or 18.7% ,over the same period in 2019. The September 30, 2020 gross profit reflects a 32.7% gross margin for product sales compared to a gross margin on product sales of 29.5% in 2019.
Research & Development Expenses (R&D). Research and development expenses for the quarter ended September 30, 2020 were $20,471 compared to $26,016 for the same period in 2019. We continue to invest in product formulation and new product development where appropriate to support our business plan.
Sales & Marketing Expenses. Sales and marketing expenses for the quarter ended September 30, 2020 were $59,800 as compared to $43,471 for the same period in 2019. The difference between periods reflects higher commission expenses paid during the recent period due to higher sales volumes.
General & Administrative Expenses. General and administrative expenses for the quarter ended September 30, 2020 were $210,486 compared to $193,430 for the same period in 2019, driven by higher compensation costs. We continue to control costs and find more efficient ways to conduct our business activities.
Other Income, net. Other income for the quarter ended September 30, 2020 was $820 compared to other income of $3,122 for the same period in 2019. The primary driver in this variance is loss on asset disposal of $2,853.
Net Income. Net income for the quarter ended September 30, 2020 of $53,783 compared to a net income of $28,903 for the same period in 2019, an increase in net income of $24,880.
Liquidity and Capital Resources
Cash Flows
The following table sets forth our cash flows for the quarters ended September 30, 2020 and 2019.
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Periods ended Sept. 30,
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(in 000’s)
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2020
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2019
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Net cash used by operating activities
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$
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(48
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$
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(79
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)
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Net cash used by investing activities
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-
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(13
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Net cash used by financing activities
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-
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(2
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Net increase (decrease) in cash during the period
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$
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(48
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$
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(94
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Net Cash (Used)/Provided by Operating Activities. Our primary sources of operating cash during the quarter ended September 30, 2020 came from collections from customers on balances from June 30, 2020 and sales for the quarter. Our primary use of operating cash was an increase in prepaid and other current assets, specifically related to renewal of insurance policies (a normal reoccurrence in our first quarter of fiscal year 2021), increase in inventory levels in preparation for shipment of a large order in early October and a larger accounts payable balance at September 30, 2020 versus June 30, 2020 (a timing variance due to when the quarter ended). Net cash used by operating activities was $47,493 for the quarter ended September 30, 2020 compared to net cash provided by operating activities of $78,859 for the same period in 2019.
Non-cash items include depreciation and amortization and stock based compensation. Our net income was $53,783 for the quarter ended September 30, 2020 compared to a net income of $28,903 for the same period in 2019. The net income for the quarter ended September 30, 2020 included non-cash expenses for depreciation and amortization of $55,062, stock-based compensation of $12,323 and a loss on asset disposal of $2,853. As of September 30, 2019, depreciation and amortization was $25,194 and stock-based compensation totaled $10,119.
Net Cash Used by Investing Activities. Net cased used by investing activities was $-0- for the quarter ended September 30, 2020; as of September 30, 2019 we used $12,641 as we purchased new computers and rebuilt production equipment.
Net Cash Used by Financing Activities. Net cash used by financing activities was $263 for the quarter ended September 30, 2020 and $2,842 for the same period in 2019. The use of cash for the quarter ended September 30, 2020 was payment of notes payable.
Our principal sources of liquidity consist of cash and payments received from our customers. In February 2020, the Company secured a $50,000 line of credit with a local community bank. As of September 30, 2020, the line had not been used. In April 2020, the Company secured a Small Business Administration Paycheck Protection Program loan for $149,570, which has a term of 2 years at 1% interest. The first payment is expected to be due on or about November 15, 2020. In October 2020, the Company’s bank that brokered this loan has recommended full forgiveness be provided by the Small Business Administration.
Historically, management has been reluctant to pursue financing at terms that subject the Company to the high costs of debt, or raise money through the sale of equity at prices we believe do not reflect the true value of the Company.
As part of its effort to maintain adequate working capital levels, Amerityre has not declared dividends on its preferred stock since June 2016. These unpaid dividends have accrued in the amount of $25,000 per quarter since that time. The preferred stock automatically converted on May 13, 2020 into 20,000,000 shares of common stock.
We continue to have access to a short-term receivable factoring agreement with a third party to sell our receivable invoices. This agreement enables us to sell individual customer invoices for faster cash flow to the Company. As of March 31, 2020, we have not needed to activate this financing option due to increased focus on enforcement of established collection policies and proactive communication with customers.
Cash Position, Outstanding Indebtedness and Future Capital Requirements
At November 6, 2020, our total cash balance was $526,702, none of which is restricted; accounts receivables was $384,045; and inventory, net of reserves for slow moving or obsolete inventory, and other current assets was $610,244. Our total indebtedness, specifically which management reviews for cash management, was $1,223,386 and includes $476,962 in accounts payable and accrued expenses, $92,844 in current portion of long-term debt, $120,329 in long-term debt and $533,250 in total operating lease liability.
We continue to take actions to improve our liquidity and access to capital resources. Management continues to maintain that an equity financing in the current market environment would be too dilutive and not in the best interests of our shareholders. We have been successful in securing a line of credit with our bank, and additional financing was secured in April 2020 from the U.S. government Paycheck Protection Program, a Small Business Administration loan program initiated to combat the negative effects of COVID-19 on U.S. small businesses. These new sources of liquidity have been key tools to provide the Company with the tools to overcome negative effects of the coronavirus on our business.
We are focused on the sale and distribution of profitable product lines. Management continues to look for further financing facilities at affordable terms that will allow the Company to maintain sufficient working capital to capitalize on new sales growth opportunities. We are limiting our capital expenditures to that required to maintain current manufacturing capability or support key business initiatives identified in our strategic sales plan.
In assessing our liquidity, management reviews and analyzes our current cash, accounts receivable, accounts payable, capital expenditure commitments and other obligations. In connection with the preparation of our financial statements for the period ended September 30, 2020, we have analyzed our cash needs for the next twelve months. We have concluded that our available cash and accounts receivables are sufficient to meet our current minimum working capital, capital expenditure and other cash requirements for this period. We expect to limit manufacturing and sales operation investments until the negative effects of the COVID-19 pandemic can be fully quantified and addressed. Although we have seen a significant increase in business activity in the recent quarter, we are not assured that a resurgence of the COVID-19 virus will not cause another significant decrease in demand from our customers If there is a new shutdown of the economy , we may lack sufficient working capital to meet our needs for the next 12 months.
The Company has, on occasion, instituted initiatives to incentivize sales of slower-moving inventory through promotional pricing. These programs will continue to be selectively utilized in the upcoming quarters to monetize inventory, promote individual product lines, and improve our cash flow.
As of November 9, 2020, the Company has approximately 25,707,000 shares authorized and available for issuance. Although we are reluctant to raise money through stock sales at what we believe are dilutive share prices, these authorized but unissued and unreserved shares of our common stock can be utilized if necessary, to raise new funds.
Off-Balance Sheet Arrangements
We do not currently have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we do not engage in trading activities involving non-exchange traded contracts.
Cautionary Note Regarding Forward Looking Statements
This report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements regarding economic conditions in general and in the agricultural market, in particular, our sales prospects in light of new products, increased sales and resulting profits, and liquidity. All statements other than statements of historical facts contained in this report, including statements regarding our future financial position, liquidity, business strategy and plans and objectives of management for future operations, are forward-looking statements. The words “believe,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “should,” “plan,” “could,” “target,” “potential,” “is likely,” “will,” “expect” and similar expressions, as they relate to us, are intended to identify forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs.
These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including those described in our Annual Report on Form 10-K for the year ended June 30, 2020. New risk factors emerge from time-to-time and it is not possible for us to predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any risk factor, or combination of risk factors, may cause actual results to differ materially from those contained in any forward-looking statements. Except as otherwise required by applicable laws, we undertake no obligation to publicly update or revise any forward-looking statements described in this report, whether as a result of new information, future events, changed circumstances or any other reason after the date this report is filed.