GIGA TRONICS INC - Annual Report: 2016 (Form 10-K)

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended March 26, 2016

Or

[  ]   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from     to      .

Commission File No. 0-12719

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (925) 328-4650

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act: None.

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [ ] No [ X ] Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes [ ] No [X]

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days: Yes [X] No [ ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ X ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2). Yes [ ] No [X]

The aggregate market value of voting and non-voting common equity held by non-affiliates of the Registrant computed by reference to the price at which the common equity was sold or the average bid and asked prices as of September 24, 2015 was $6,455,711.

There were a total of 9,549,703 shares of the Registrant’s Common Stock outstanding as of June 2, 2016.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the following documents have been incorporated by reference into the parts indicated:

TABLE OF CONTENTS   

Page

Unless the context otherwise requires, we use the terms “Giga-tronics Incorporated,” “Giga-tronics,” “we,” “us,” “the Company” and “our” in this Annual Report on Form 10-K to refer to Giga-tronics Inc. and its wholly owned subsidiary.

FOWARD-LOOKING INFORMATION

This Annual Report on Form 10-K includes "forward-looking statements" within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, including but not limited to certain disclosures contained in Item 1A, “Risk Factors” and Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”. These forward-looking statements include, but are not limited to, statements about our plans, objectives, representations and contentions, and are not historical facts and typically are identified by the use of terms such as "may," "will," "should," "could," "expect," "plan," "anticipate," "believe," "estimate," "predict," "potential," "continue" and similar words, although some forward-looking statements are expressed differently. You should be aware that the forward-looking statements included herein represent management's current judgment and expectations, but our actual results, events and performance could differ materially from those expressed or implied by forward-looking statements. We do not intend to update any of these forward-looking statements or publicly announce the results of any revisions to these forward-looking statements, other than as is required under the federal securities laws.

PART 1

ITEM 1. BUSINESS

General

Giga-tronics Incorporated (Giga-tronics, or the Company) includes the operations of the Giga-tronics Division and Microsource Inc. (Microsource), a wholly owned subsidiary. Giga-tronics Division designs, manufactures and markets the new Advanced Signal Generator (ASG) for the electronic warfare market, and switching systems that are used in automatic testing systems primarily in aerospace, defense and telecommunications.

Microsource develops and manufactures a broad line of YIG (Yttrium, Iron, Garnet) tuned oscillators, filters and microwave synthesizers, which are used by its customers in operational applications and in manufacturing a wide variety of microwave instruments and devices. Microsource’s two largest customers are prime contractors for which it develops and manufactures YIG RADAR filters used in fighter jet aircraft.

In an effort to improve long term sales growth and profitability, Giga-tronics has embarked on a strategy of concentrating our efforts on the Giga-tronics Division’s newly developed ASG, and Microsource YIG RADAR filters. Giga-tronics has started to move away from the Giga-tronics legacy products. These products were developed ten to twenty five years ago, and have been steadily decreasing in both sales and gross margins. For example, we sold our SCPM line to Teradyne in 2013, and in December 15, 2015 we entered into an agreement for the sale of much of our power meter, amplifier and legacy signal generator business to Spanawave Corporation. Both of these transactions will allow us to increase our focus on the ASG and Microsource YIG RADAR filters.

Giga-tronics was incorporated on March 5, 1980, and Microsource was acquired by Giga-tronics on May 18, 1998.

The combined Company principal executive offices are located at 4650 Norris Canyon Road, San Ramon, California, and our telephone number at that location is (925) 328-4650.

Operating Segments

The Company has two reporting segments: Giga-tronics Division and Microsource.

For more information regarding the Company’s two reporting segments, see “Part II-Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements-Significant Customers and Industry Segment Information.”

Products and Markets

Giga-tronics

Our Giga-tronics Division produces modular signal sources, up-converters, receivers and down-converters in the AXIe format covering a radio frequency (RF) range of 100 megahertz (MHz) to 18 gigahertz (GHz). The Company also produces a 5-slot and a 9-slot AXIe chassis and a high-performance AXIe frequency reference module for use with its signal sources. Available within each product family are a number of options allowing customers to select specialized capabilities, features and functions. The end-user markets for these products can be divided into three segments: RADAR Target Generation, Threat simulation and Surveillance. These instruments are used in the design, evaluation and calibration of RADAR, Electronic Countermeasures (ECM) and Direction Finding (DF) systems.

The Giga-tronics Division also produces switching systems that operate with a bandwidth from direct current (DC) to optical frequencies. These switch systems may be incorporated within customers’ automated test equipment. The end-user markets for these products are primarily related to defense, aeronautics, communications, satellite and electronic warfare, commercial aviation and semiconductors.

Microsource

Our Microsource segment develops and manufactures a broad line of YIG tuned oscillators, filters, filter components, and microwave synthesizers, which are used by its customers in operational applications and in manufacturing a wide variety of microwave instruments or devices. Microsource’s two largest customers are prime contractors for which it develops and manufactures YIG RADAR filters used in fighter jet aircraft.

Sources and Availability of Raw Materials and Components

Substantially all of the components required by Giga-tronics to make its assemblies are available from more than one source. We occasionally use sole source arrangements to obtain leading-edge technology or favorable pricing or supply terms, but not in any material volume. In our opinion, the loss of any sole source arrangement we have would not be material to our operations. Some suppliers are also competitors of Giga-tronics. In the event a competitor-supplier chooses not sell its products to us, production delays could occur as we seek new suppliers or re-design components to our products.

Although extended delays in receipt of components from our suppliers could result in longer product delivery schedules for us, we believe that our protection against this possibility stems from our practices of dealing with well-established suppliers and maintaining good relationships with such suppliers.

Patents and Licenses

Our competitive position is largely dependent upon our ability to provide performance specifications for our instruments and systems that (a) are easy to use and effectively and reliably meet customers’ needs and (b) selectively surpass competitors’ specifications in competing products. Patents may occasionally provide some short-term protection of proprietary designs. However, because of the rapid progress of technological development in our industry, such protection is most often, although not always, short-lived. Therefore, although we occasionally pursue patent coverage, we place major emphasis on the development of new products with superior performance specifications and the upgrading of existing products toward this same end.

Our products are based on our own designs, which are derived from our own engineering abilities. If our new product engineering efforts fall behind, our competitive position weakens. Conversely, effective product development greatly enhances our competitive status.

We presently hold 31 patents. Capitalized costs relating to these patents were both incurred and fully amortized prior to March 27, 2011. Accordingly, these patents have no recorded value included in our consolidated financial statements for the fiscal years ended March 26, 2016 (“fiscal 2016”) and March 28, 2015 (“fiscal 2015”).

We are not dependent on trademarks, licenses or franchises. We utilize certain software licenses in certain functional aspects for some of our products. Such licenses are readily available, non-exclusive and are obtained at either no cost or for a relatively small fee.

In September 2015, we entered into a software development agreement with a major aerospace and defense company whereby the aerospace company would develop and license its simulation software to us. The simulation software (also called Open Loop Simulator or OLS technology) is currently the aerospace company’s intellectual property. The OLS technology generates threat simulations and enables various hardware to generate signals for performing threat analysis on systems under test. We intend to license the OLS software as a bundled or integrated solution with our ASG system.

Seasonal Nature of Business

Our business is not seasonal.

Working Capital Practices

We generally strive to maintain adequate levels of inventory and we generally sell to customers on 30-day payment terms in the U.S. and generally allow more time for overseas payments. Typically, we receive payment terms of 30 days from our suppliers. We believe that these practices are consistent with typical industry practices.

Importance of Limited Number of Customers

We are a supplier of microwave and RF test instruments to various United States (U.S.) government defense agencies, as well as to their prime contractors. Management anticipates sales to U.S. government agencies and their prime contractors will remain significant in fiscal 2017. U.S. and international defense-related agencies accounted for 73% of net sales in both fiscal 2016 and 2015. Commercial business accounted for the remaining 27% of net sales in both fiscal 2016 and fiscal 2015.

At the Giga-tronics Division, U.S. defense agencies and their prime contractors accounted for 56% and 40% of net sales in fiscal 2016 and fiscal 2015, respectively. Microsource reported 98% of net sales to prime contractors of U.S. defense agencies in both fiscal 2016 and fiscal 2015.

During fiscal 2016, the Boeing Company accounted for 32% of our consolidated revenues and was included in the Microsource reporting segment. A second customer, Defense Finance and Accounting Services (DFAS) accounted for 11% of our consolidated revenues during fiscal 2016 and was included in the Giga-tronics Division reporting segment.

During fiscal 2015, Lockheed Martin accounted for 28% of our consolidated revenues. A second customer, the Boeing Company accounted for 23% of our consolidated revenues. Both were included in the Microsource reporting segment. A third customer, DFAS accounted for 14% of our consolidated revenues during fiscal 2015 and was included in the Giga-tronics Division reporting segment.

In management’s opinion, we could experience a material adverse effect on our financial stability if there was a significant loss of either our defense or commercial customers.

Our Giga-tronics Division products are largely capital investments for our customers, and our belief is that our customers have economic cycles in which capital investment budgets for the kinds of products that we produce expand and contract. We therefore, expect that a major Giga-tronics Division customer in one year will often not be a major customer in the following year. Accordingly, our net sales and earnings will decline if we are unable to find new customers or increase our business with other existing customers to replace declining net sales from the previous year’s major customers. A substantial decline in net sales to the U.S. government defense agencies and their prime contractors would also have a material adverse effect on our net sales and results of operations unless replaced by net sales in the commercial sector.

Backlog of Orders

On March 26, 2016, our backlog of unfilled orders was approximately $14.6 million compared to approximately

$5.7 million at March 28, 2015. As of March 26, 2016, there were approximately $8.6 million of orders scheduled for shipment beyond one year, compared to $521,000 at March 28, 2015. Orders for our products include program orders from prime contractors with extended delivery dates. Accordingly, the backlog of orders may vary substantially from year to year and the backlog entering any single quarter may not be indicative of sales for any period. In April of 2016, Microsource received a $4.5 million YIG RADAR filter order that is not reflected in the backlog numbers above. In June 2016, the Gigatronics Division received a $3.3 million order from the United States Navy for our Real-Time Threat Emulation System (Real-Time TEmS) which is a combination of our new ASG Hardware Platform, along with software developed and licensed to us from a major aerospace and defense company. We expect to ship both orders throughout fiscal 2017.

Backlog includes only those customer orders for which binding agreement exists, a delivery schedule has been agreed upon between us and our customer and, in the case of U.S. government orders, for which funding has been appropriated.

Competition

Giga-tronics serves two very different markets.

The first is the electronic test equipment market with applications ranging from complex RF signal simulation used in the evaluation of military RADAR and Electronic Warfare systems to high performance signal switching used in the automated testing of commercial avionics. These applications represent niche segments within the broader test equipment market and their unique requirements allow Giga-tronics to win against a variety of larger competitors, such as Agilent/Keysight, Rohde & Schwarz and Anritsu, by focusing our limited resources squarely on the specific features needed. We do not attempt to compete ‘across the board’, but selectively based upon our particular strengths, the competitors’ perceived limitations, the customer’s needs and market opportunities. To maintain our position against competitors that have greater resources in research, development and manufacturing with substantially broader product lines and channels, we (a) place strong emphasis on maintaining a high degree of technical competence as it relates to the development of new products, (b) are highly selective in establishing technological objectives and (c) focus sales and marketing activities in the selected niche areas that are weakly served or underserved. Others competitors are of comparable size or have small product divisions with more limited product lines, such as Racal Instrument (a division of Astronics), VTI Instruments (a division of AMETEK), ELCOM (a division of Frequency Electronics Inc.), COMSTRON (a division of Cobham Plc) and EWST (a division of Ultra Electronics Plc).

The second is the aftermarket for operational hardware associated with the US Government’s RADAR Modernization Program (RMP) for prior generation fighter aircraft. The F/A-18E, the F-15D and F-16 jets are receiving new RADARs to extend their useful lives. Giga-tronics’ Microsource business unit supplies YIG filters specifically designed for military aircraft to solve interference problems. The prime contractors responsible for integrating the new RADARs have flight qualified our filters at considerable expense. Only a few companies possess the technical know-how to design and manufacture filters of this nature, such as Teledyne and Micro-Lambda Wireless, but the expense of requalifying a new component is prohibitive to the point where the integrator would only undertake such an effort when insurmountable technical deficiencies arose, which do not exist in this case. Microsource is the sole-source supplier of these filters and presently does not have any competition for this business. Microsource routinely maintains a “gold supplier” rating from its customers and received the Supplier of the Year award from one of the integrators. Microsource must maintain the Aerospace Industry’s AS9100C certification for its Quality Management System which it currently does. In October 2015, we announced a lapse in our AS9100C certification for our Supplier Quality Management System. In May 2016, our Microsource segment regained its AS9100C certification, during the lapse in certification we worked with one of the major customers to allow continued shipping and orders and we were pursuing a similar solution with the second customer, but this is no longer required since we regained certification.

Sales and Marketing

Giga-tronics and Microsource sell their products primarily direct to end customers and prime contractors.

Product Development

Products of the type manufactured by Giga-tronics historically have had relatively long product life cycles. However, the electronics industry is subject to rapid technological changes at the component level. Our future success is dependent on our ability to steadily incorporate advancements in component technologies into our new products. In fiscal 2016 and fiscal 2015, product development expenses totaled approximately $2.8 million and $3.2 million respectively.

Recent activities have focused primarily on the development of the new ASG product and the improvement of existing products. It is our intention to maintain product development at levels required to sustain our competitive position. Our product development activities are funded internally, through product line sales, or through outside equity investment and debt financing. Product development activities are expensed as incurred, except software development costs associated with the ASG.

We expect to continue to make significant investments in research and development. There can be no assurance that future technologies, processes or product developments will not render our current product offerings obsolete or that we will be able to develop and introduce new products or enhancements to existing products that satisfy customer needs in a timely manner or achieve market acceptance. Failure to do so could adversely affect our business.

Manufacturing

The assembly and testing of Giga-tronics Division and Microsource’s products are done at our San Ramon facility.

Environment

To the best of our knowledge, we are in compliance with all Federal, state and local laws and regulations involving the protection of the environment.

Employees

As of March 26, 2016 and March 28, 2015, we employed 63 and 71 individuals on a full-time basis, respectively. We believe that our future success depends on our ability to attract and retain skilled personnel. None of our employees are represented by a labor union, and we consider our employee relations to be good.

Information about Foreign Operations

We sell to our international customers through a network of foreign technical sales representative organizations. All transactions between us and our international customers are in U.S. dollars.

See Item 8, (Note 12, Significant Customers and Industry Segment Information) of the consolidated financial statements for further breakdown of international sales for the last two years.

ITEM 1A. RISK FACTORS

Future liquidity is uncertain

We incurred net losses of $4.1 million in fiscal 2016, and $1.7 million in fiscal 2015. These losses have contributed to an accumulated deficit of $24.0 million as of March 26, 2016.

Beginning in fiscal 2012, we invested substantially in the research and development of our new product line, ASG. We anticipate long-term revenue growth and improved gross margins from the ASG platform, but delays in completing it have contributed to our losses. We also experienced delays in the development of features, orders, and shipments for the new ASG. These delays have significantly contributed to a decrease in working capital from $3.0 million at March 28, 2015, to $1.8 million at March 26, 2016. The new Advanced Signal Generator product has now shipped to several customers, but potential delays in the development of features, longer than anticipated sales cycles, or the ability to continue shipments in volume quantities, could significantly contribute to additional future losses. The losses in fiscal 2016 caused working capital restraints, resulting in delayed payments to suppliers.

These matters raise substantial doubt as to our ability to continue as a going concern.

To address these matters, our management has taken several actions to provide additional liquidity and reduce costs and expenses going forward. These actions are described in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in the “Notes to the Consolidated Financial Statements” (Note 2, Going Concern and Management’s Plan).

Customer orders and production of new product platform

We invested heavily in the development of our new ASG product platform but delays in completing it have contributed to our losses. Longer than anticipated sales cycles in future fiscal years, or delays in production and shipping volume quantities, could significantly contribute to additional losses.  

Ability to stay listed for trading on The NASDAQ Capital Market

Our Common Stock is current listed on the NASDAQ Capital Market. NASDAQ has minimum requirements that a Company must meet in order to remain listed on the NASDAQ Capital Market. These requirements include maintaining a minimum shareholders’ equity of $2.5 million. If our shareholders’ equity falls below $2.5 million, NASDAQ could delist us from the NASDAQ Capital Market. If our Common Stock were to be delisted, the liquidity of our Common Stock would be adversely affected and the market price of our Common Stock could decrease. If our Common Stock ceases to be listed for trading on the NASDAQ Capital Market, we expect that our Common Stock would be traded on the Over-the-Counter Bulletin Board on or about the same day.

Giga-tronics’ sales are substantially dependent on the defense industry

We have a significant number of defense-related orders. If the defense market demand decreases, actual shipments could be less than projected shipments with a resulting decline in sales. Our product backlog has a number of risks and uncertainties such as the cancellation or deferral of orders, dispute over performance and our ability to collect amounts due under these orders. If any of these events occur, actual shipments could be lower than projected shipments and revenues could decline which would have an adverse effect on our operating results and liquidity.

Giga-tronics’ markets involve rapidly changing technology and standards

The market for electronics equipment is characterized by rapidly changing technology and evolving industry standards. We believe that our future success will depend in part upon our ability to develop and commercialize our existing products, and in part on our ability to develop, manufacture and successfully introduce new products and product lines with improved capabilities, and to continue to enhance existing products. There can be no assurance that we will successfully complete the development of current or future products, or that such products will achieve market acceptance. The inability to develop new products in a timely manner could have a material adverse impact on our operating performance and liquidity.

Giga-tronics’ common stock price is volatile

The market price of our common stock could be subject to significant fluctuations in response to variations in quarterly operating results, reduction in revenues or lower earnings or increased losses and reduced levels of liquidity when compared to previous quarterly periods, and other factors such as announcements of technological innovations or new products by us or by our competitors, government regulations or developments in patent or other proprietary rights. In addition, NASDAQ and other stock markets have experienced significant price fluctuations in recent years. Some of these fluctuations often have been unrelated to the reported operating performance of the specific companies whose stocks are traded. Broad market fluctuations, as well as general foreign and domestic economic conditions, may adversely affect the market price of our common stock.

Our stock at any time has historically traded on low volume on the NASDAQ Capital Market. Sales of a significant volume of stock could result in a decline of our share price.

Performance problems in Giga-tronics’ products or problems arising from the use of its products together with other vendors’ products may harm its business and reputation

Products as complex as those we produce may contain unknown and undetected defects or performance problems. For example, it is possible that a product might not comply with stipulated specifications under all circumstances. In addition, our customers generally use our products together with their own products and products from other vendors. As a result, when problems occur in a combined environment, it may be difficult to identify the source of the problem. A defect or performance problem could result in lost revenues, increased warranty costs, diversion of engineering and management time and effort, impaired customer relationships and injury to our reputation generally. To date, performance problems in our products or in other products used together with our products have not had a material adverse effect on our business. However, management cannot be certain that a material adverse impact will not occur in the future.

Giga-tronics’ competition has greater resources

Our instrument, switch, oscillator and synthesizer products compete with Agilent/Keysight, Anritsu, and Rohde & Schwarz. All of these companies have substantially greater research and development, manufacturing, marketing, financial, and technological personnel and managerial resources than us. These resources also make these competitors better able to withstand difficult market conditions than us. There can be no assurance that any products developed by the competitors will not gain greater market acceptance than any developed by us.

ITEM 1B. UNRESOLVED STAFF COMMENTS

Not applicable.

ITEM 2. PROPERTIES

Our principal executive office and the marketing, sales and engineering offices and manufacturing facilities are located in a 47,300 square feet facility in San Ramon, California, which we occupy under a lease agreement expiring December 31, 2016. We believe that our facilities are adequate for our business activities.

We are currently evaluating staying at our existing facility or moving to a smaller facility in the San Ramon area at the expiration of our current lease.

ITEM 3. LEGAL PROCEEDINGS

As of March 26, 2016, we have no material pending legal proceedings. From time to time, we are involved in various disputes and litigation matters that arise in the ordinary course of business.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable

PART II

ITEM 5. MARKET FOR COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND ISSUER REPURCHASES OF EQUITY SECURITIES

Common Stock Market Prices

Our common stock is traded on the Nasdaq Capital Market using the symbol ‘GIGA’. The number of record holders of our common stock as of March 26, 2016 was approximately 124. A significantly larger number of stockholders may be "street name" or beneficial holders, whose shares of record are held by banks, brokers and other financial institutions. The table below shows the high and low closing bid quotations for the common stock during the indicated fiscal periods. These quotations reflect inter-dealer prices without mark-ups, mark-downs, or commission and may not reflect actual transactions.

We have not paid cash dividends in the past and have no current plans to do so in the future, believing the best use of our available capital is in the enhancement of our product position. In addition, in the absence of positive retained earnings, California law permits payment of cash dividends only to the extent total assets exceed the sum of total liabilities and the liquidation preference amounts of preferred securities. At March 26, 2016, the Company’s assets were less than this sum by $560,000.

On January 29, 2016, we consummated the sale of 2,787,872 Units, each consisting of one share of common stock and a warrant to purchase 0.75 shares of common stock, to approximately 20 private investors pursuant to a Securities Purchase Agreement dated as of January 19, 2016. The purchase price for each Unit was $1.24375. Gross proceeds were approximately $3.5 million. Net proceeds to the Company after fees were approximately $3.1 million. The portion of the purchase price attributable to the common shares included in each Unit was $1.15, the consolidated closing bid price for our common stock on January 15, 2016. The warrant price was $.09375 per Unit (equivalent to $0.125 per whole warrant share), with an exercise price of $1.15 per share. The term of the warrants is five years from the date of completion of the transaction. Emerging Growth Equities, Ltd also received warrants to purchase 292,727 shares of common stock as part of its consideration for serving as placement agent in connection with the private placement. All such transactions were previously reported in current reports on Form 8-K.

Equity Compensation Plan Information

The following table provides information on options and other equity rights outstanding and available at March 26, 2016.

Issuer Repurchases

We did not repurchase any of our equity securities during the fiscal year ended March 26, 2016.

ITEM 6. SELECTED FINANCIAL DATA

Pursuant to Item 301(c) of Regulation S-K., the Company, as a smaller reporting company, is not required to provide the information required by this item.

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS

Overview and Refocusing Giga-tronics

We produce sophisticated test and measurement equipment primarily used in the aerospace and defense markets. We also produce YIG (Yttrium, Iron, Garnet) RADAR filters used in fighter jet aircraft. We have two reporting segments: Giga-tronics Division and Microsource.

In an effort to improve long term sales growth and profitability, Giga-tronics has embarked on a strategy of concentrating our efforts on the Giga-tronics Division’s newly developed Advanced Signal Generator (ASG) and Microsource YIG RADAR filters. The ASG addresses a technology gap within the RADAR and electronic warfare market segment, and has prospects for greater growth in sales and margins than our legacy Giga-tronics division product lines. In fiscal 2016 Giga-tronics moved the ASG from development to manufacturing, and received $2.5 million in customer orders. The Microsource YIG RADAR filters provide us with long term production and development contracts with strong gross margins. In recent years we have produced these RADAR filters for two fighter jet platforms, and will start production for a third platform in fiscal year 2017.

Giga-tronics has started to move away from the Giga-tronics legacy products. These products were developed ten to twenty- five years ago, and have been steadily decreasing in both sales and gross margins. We sold our SCPM line to Teradyne in 2013, and in December 15, 2015 we entered into an agreement for the sale of much of our power meter, amplifier and legacy signal generator business to Spanawave Corporation (see Note 10, Sale of Product Lines). We expect these transactions will allow us to focus on the ASG and Microsource YIG RADAR filters, while providing additional cash for operations and reducing related personnel expenses. We will continue to aggressively look for other opportunities to sell product lines for additional cash.

The ASG has the potential to significantly grow sales and achieve strong gross margins. However, Giga-tronics has experienced significant delays developing, manufacturing and receiving ASG customer orders. The ASG is the most technically complex and advanced product Giga-tronics has developed and manufactured, and we have experienced delays in bringing the product to market. It is also priced significantly higher than any other Giga-tronics product, and we have experienced longer than anticipated procurement cycles in the electronic warfare market it services. The delays in the development and manufacturing of the ASG, along with the longer than anticipated procurement cycles, have contributed to the increased losses in fiscal 2016. Giga-tronics could experience similar losses in fiscal 2017 if there are further delays in ASG features currently being developed, manufacturing efficiencies are not achieved, and customer orders are delayed. To bring the ASG to its full potential, Giga-tronics may be required to seek additional working capital from product line sales, however, there are no assurances that such sales will be available, or on terms acceptable to the Company.

Significant Orders

Both the Giga-tronics Division and Microsource receive large customer orders each year. The timing of orders, and any associated milestones achievement, causes significant differences in orders received, backlog, sales, deferred revenue, inventory and cash flow when comparing one fiscal period to another. Below is a review of recently received significant orders:

Our Giga-tronics Division received orders of $1.5 million and $2.4 million in fiscal 2016 and 2015, respectively, from the United States Navy for our Model 8003 Precision Scalar Analyzers and associated accessories (“8003”). We shipped all of the $1.5 million order in fiscal 2016 and the $2.4 million order in fiscal 2015. The 8003 was designed about 25 years ago, and Giga-tronics is no longer able to purchase key components and materials used to manufacture the 8003. The Navy orders mark the end of life of the 8003.

Through fiscal 2016 we received $3.3 million of orders for the ASG, of which, $2.3 million shipped to several customers. Orders and shipments for the ASG may not be consistent when comparing one fiscal period to another due to delays in the development of features, longer than anticipated sales cycles, or the ability to ship volume quantities.

In June 2016, the Gigatronics Division received a $3.3 million order from the United States Navy for our Real-Time TemS which is a combination of the ASG hardware platform, along with software developed and licensed to the Company from a major aerospace and defense company. The complete order includes engineering services to integrate the Real-Time TEmS product with additional third party hardware and software for the customer. The Company expects to fulfill the order in the second half of the current fiscal year.

In May of 2015, Microsource received a $3.0 million order YIG RADAR filter order (Ongoing Production Order) associated with a fighter jet platform we have been manufacturing since fiscal 2014. We shipped all of the $3.0 million order in fiscal 2016. In April of 2016, Microsource received a $4.5 million YIG RADAR filter for the same fighter jet platform. We expect to ship this order throughout fiscal 2017.

In fiscal 2015 Microsource received a $6.5 million order (“NRE Order”) for non-recurring engineering and for delivery of a limited number of flight-qualified prototype hardware from a second prime defense contractor to develop a variant of our high performance fast tuning YIG RADAR filters for an aircraft platform. In fiscal 2016 our Microsource business unit also finalized an associated multiyear $10.0 million YIG production order (“YIG Production Order”). We expect to start shipping the YIG Production Order in the summer of 2016, and to continue shipping it through fiscal 2020.

The Microsource NRE Order received in fiscal 2015 resulted in significant improvements to sales and results from operations in fiscal 2015, compared to fiscal 2016. With a majority of the associated services from the NRE Order being completed in fiscal 2015, and the YIG Production Order not scheduled to ship until fiscal 2017, the Company experienced a decrease in sales and results from operations in fiscal 2016.

Results of Operations

New orders by reporting segment are as follows for the fiscal years ended: 

New orders received in fiscal 2016 increased 34% to $23.4 million from the $17.5 million received in fiscal 2015. The increase in orders was primarily due to Microsource’s receipt of the $10.0 million YIG Production Order and the $3.0 million Ongoing Production Order in fiscal 2016, compared to the $6.5 million NRE order in fiscal 2015. The increase in the Giga-tronics Division was primarily due to the $2.3 million increase of orders for the ASG, partially offset by the decrease in the Navy 8003 order, and by decreasing orders for legacy products being sold to Spanawave Corporation (See Note 10, Sale of Product Lines).

New orders received in fiscal 2015 increased 28% to $17.5 million from the $13.6 million received in fiscal 2014. The increase was primarily due to Microsource’s receipt in fiscal 2015 of the $6.5 million NRE order.

The following table shows order backlog and related information at fiscal year-end:

Backlog at the end of fiscal 2016 increased 154% compared to the end of fiscal 2015. The increase in backlog is primarily due to the $10.0 million YIG Production Order our Microsource business unit received in fiscal 2016. In April of 2016, Microsource received a $4.5 million YIG radar filter; in June 2016 Gigatronics received a $3.3 million order for Real-Time TEmS, both new orders are not reflected in the backlog numbers above. We expect to ship both orders throughout fiscal 2017.

The allocation of net sales by reporting segment was as follows for the fiscal years shown:

Net sales in fiscal 2016 were $14.6 million, a 21% decrease from $18.5 million in fiscal 2015. Sales for the Giga-tronics Division decreased 5%, or $444,000, primarily due to the $1.2 million decrease in the legacy products sold to Spanawave Corporation (See Note 10, Sale of Product Lines), the $905,000 decrease in the size of the Navy 8003 order in fiscal 2016, partially offset by a $1.3 million increase in ASG shipments and a $383,000 increase in 4600 Switch product shipments. Net sales for Microsource decreased 37% primarily due to the winding down of the NRE Order.

Net sales in fiscal 2015 were $18.5 million, a 39% increase from $13.3 million in fiscal 2014. Sales for the Giga-tronics Division increased 25%, or $1.8 million, primarily due to the fulfillment of the $2.4 million Navy 8003 order. Sales for the Microsource business unit increased 55%, or $3.3 million, largely due to recognizing $4.7 million of sales associated with the $6.5 million NRE Order received during the year. This was partially offset by a $1.4 million decrease in the delivery of YIG filter production units associated with the contractual timing of shipments to a prime defense contractor.

The allocation of gross margins by reporting segment was as follows for the fiscal years shown:

Gross margin decreased in fiscal 2016 to $4.6 million from $8.0 million for fiscal 2015. The decrease in Giga-tronics gross margin was due to rework associated with the initial pilot manufacturing run of the ASG, and overhead being absorbed by fewer shipments. The decrease in Microsource was primarily due to the decrease in net sales associated the NRE Order, which had a lower cost of sales compared to product sales and overhead being absorbed by fewer shipments.

Gross margin increased in fiscal 2015 to $8.0 million from $4.5 million for fiscal 2014. The increase in fiscal 2015 was primarily due to the fulfillment of the Microsource NRE Order, which had a lower cost of sales compared to product sales.

Operating expenses were as follows for the fiscal years shown:

Operating expenses increased 4%, or $335,000 in fiscal 2016 compared to fiscal 2015. Engineering expenses decreased $404,000 during fiscal 2016 when compared to fiscal 2015 primarily due to development costs incurred in fiscal 2015 associated with our Switch product which we are now shipping. Selling, general and administrative expenses increased 15% or $739,000 primarily due to a $200,000 increase in outside services related to financial services and management consulting,    a $167,000 increase in sales and marketing efforts associated with our new ASG, a $155,000 increase in officer salaries, and a $113,000 increase in non-cash stock based compensation.

Operating expenses decreased 12%, or $1.0 million, in fiscal 2015 compared to fiscal 2014. Engineering expenses decreased

$687,000 during fiscal 2015 when compared to fiscal 2014, which was primarily due to certain engineers being assigned to a Microsource nonrecurring engineering project that is recorded as cost of sales. Selling, general and administrative expenses were approximately $4.8 million for both fiscal 2015 and fiscal 2014. Restructuring expenses decreased $331,000 in fiscal 2015 when compared to fiscal 2014, primarily due to Giga-tronics completion of its closure of the Santa Rosa facility in fiscal 2014.

Operating Income (Loss)

Operating loss was $3.7 million in fiscal 2016 compared to an operating income of $14,000 in fiscal 2015. The decline in operating results in fiscal 2016 compared to fiscal 2015 was primarily due to decreased revenues associated with the Microsource NRE Order and the Navy 8003 order. Operating loss was also impacted by the delays in the development and manufacturing of the ASG, along with its longer than anticipated sales cycle.

Derivative Liability

In fiscal 2016, we recorded a loss of $12,000 related to revaluation of the derivative liability, associated with warrants issued with the PFG Loan. There was no gain or loss recorded in fiscal 2015 related to the revaluation of the PFG warrant liability (see Note 8, Term Loan, Revolving Line of Credit and Warrants).

Warrant Charge Expense

In fiscal 2015 we recorded a $1.2 million non-cash charge related to the issuance of new warrants in connection with a Stock Purchase Agreement and Warrant Agreement with Alara Capital dated February 16, 2015. Pursuant to the agreements, we received during February 2015 total cash proceeds of approximately $1.5 million through Alara’s exercise of its existing Series C and Series D warrants to purchase common shares, all of which had an exercise price of $1.43 per share for total cash proceeds of $1,434,000, which was recorded net of $42,000 of stock issuance costs. As part of the consideration for this exercise, we sold to Alara two new warrants to purchase an additional 898,634 and 194,437 common shares at an exercise price of $1.78 and $1.76 per share, respectively, for a total purchase price of $137,500 or $0.125 per share. The new warrants were accounted for and resulted in the charges described above (see Note 20, Exercise of Series C and Series D Warrants). There was no warrant charge expense recorded in fiscal 2016.

Net Interest Expense

Net interest expense in fiscal 2016 was $383,000 a decrease of $23,000 over fiscal 2015. Interest expense decreased in fiscal 2016 over fiscal 2015 primarily due to the lower principal balances in both loans with PFG. For fiscal 2016, interest expense includes $165,000 of accretion of discounts on the PFG Loan and Warrant Debt compared to $152,000 recorded in fiscal 2015 (see Note 8, Term Loan, Revolving Line of Credit and Warrants).

Net Loss

Net loss was $4.1 million in fiscal 2016, compared to a net loss of $1.7 million in fiscal 2015. The higher net loss recorded in fiscal 2016 was primarily due to decreased revenues associated with the Microsource NRE Order and the Navy 8003 orders. Net loss was also impacted by the delays in the development and manufacturing of the ASG, along with it’s longer than anticipated sales cycle. The net loss for fiscal 2015 was impacted by the $1.2 million Alara Capital non-cash warrant charge described above. 

Net Inventories

Inventories consisted of the following:

Net inventories increased by $2.3 million from March 28, 2015 to March 26, 2016. Inventories associated with the ASG increased by $1.3 million, as it moved from development to production. Microsource inventory also increased by $1.0 million primarily due to the raw material buy associated with the $10.0 million YIG Production Order. Giga-tronics has an advance payment arrangement with the customer associated with the YIG Production Order raw materials, allowing Giga-tronics to purchase all of the related raw materials prior to the start of manufacturing.

Financial Condition and Liquidity

As of March 26, 2016, Giga-tronics had $1.3 million in cash and cash-equivalents, compared to $1.2 million as of March 28, 2016. Working capital at the end of fiscal year 2016 was $1.7 million as compared to $3.0 million at the end of fiscal year 2015. The current ratio (current assets divided by current liabilities) at March 26, 2016 was 1.23 as compared to 1.69 at March 28, 2015. The fiscal 2016 decrease in working capital was primarily attributable to a $1.7 million increase in deferred revenue related to advance payment arrangements for raw materials for our customer, a $951,000 increase in accounts payable associated with inventory purchases and amounts due under a software development agreement with a major aerospace and defense company and $800,000 owed on the line of credit. This was partially offset by a $2.3 million increase in inventories described above.

Cash used in operating activities was $3.0 million in fiscal 2016. Cash used in operating activities is primarily due to the net loss of $4.1 million, partially offset by non-cash charges of $925,000 for stock based compensation, $321,000 for depreciation and amortization, and $165,000 for accretion of discounts on loan and warrant debt. Cash used in operating activities amounted to $542,000 in fiscal 2015, primarily due to the net loss of $1.7 million, a $508,000 increase in accounts receivable due to increased sales, and a $457,000 decrease in accounts payable associated with the timing of vendor payments. These were partially offset by non-cash charges of $1.2 million for the Alara Capital warrants and $827,000 for share based compensation.

Cash provided by investing activities was $183,000 and included $375,000 received from Spanawave for the initiation of data transfer pertaining to the sale of our legacy product lines as well as additions to property and equipment of $192,000 in fiscal 2016 compared to $16,000 in fiscal 2015. The additions in both fiscal 2016 and fiscal 2015 were associated with equipment required to manufacture the ASG.

Cash provided by financing activities in fiscal year 2016 was $3.0 million, primarily due to $3.1 million in net proceeds from a Private Placement completed in the fourth quarter of fiscal 2016. Cash provided by financing activities in fiscal year 2015 was $669,000, primarily due to $1.5 million in net proceeds from the exercise of existing Alara Capital warrants and $500,000 in proceeds from a line of credit with PFG. These proceeds were partially offset by a $1.2 million repayment of the Company’s line of credit with SVB and a $200,000 repayment on the term loan with PFG.

On January 29, 2016, we consummated the sale of 2,787,872 Units, each consisting of one share of common stock and a warrant to purchase 0.75 shares of common stock, to approximately 20 private investors pursuant to a Securities Purchase Agreement dated as of January 19, 2016. The purchase price for each Unit was $1.24375. Gross proceeds were approximately $3.5 million. Net proceeds to the Company after fees were approximately $3.1 million. The portion of the purchase price attributable to the common shares included in each Unit was $1.15, the consolidated closing bid price for the Company’s common stock on January 15, 2016. The warrant price was $.09375 per Unit (equivalent to $0.125 per whole warrant share), with an exercise price of $1.15 per share. The term of the warrants is five years from the date of completion of the transaction. Emerging Growth Equities, Ltd also received warrants to purchase 292,727 shares of common stock as part of its consideration for serving as placement agent in connection with the private placement.

On February 16, 2015, we entered into a Securities Purchase Agreement and Warrant Agreement with Alara Capital AVI II, LLC (“Alara Capital”), an investment vehicle sponsored by AVI Partners, LLC (“AVI”) (with both entities collectively referred to herein as “Alara”), in which we received total gross cash proceeds of approximately $1.5 million. Funds were received from Alara in separate closings dated February 16, 2015 and February 23, 2015 in which Alara exercised a total of 1,002,818 of its existing Series C and Series D warrants to purchase common shares, all of which had an exercise price of $1.43 per share for total cash proceeds of $1,434,000, which was recorded net of $42,000 of stock issuance costs. As part of the consideration for this exercise, we sold to Alara two new warrants to purchase an additional 898,634 and 194,437 common shares at an exercise price of $1.78 and $1.76 per share, respectively, for a total purchase price of $137,000 or $0.125 per share. The new warrants have a term of five years and may be paid in cash or through a cashless net share settlement. The Company and Alara amended the remaining 14,587 warrants as part of the February closings. On May 14, 2015, Alara exercised the remaining 14,587 warrants by acquiring 7,216 of shares of the Company’s common stock through a cashless net share settlement.

We incurred net losses of $4.1 million for fiscal 2016, which have contributed to an accumulated deficit of $24.0 million as of March 26, 2016.

We experienced delays in the development of features, orders, and shipments for the new ASG. These delays have significantly contributed to a decrease in working capital from $3.0 million at March 28, 2015, to $1.8 million at March 26, 2016. The new ASG product has now shipped to several customers, but potential delays in the development of features, longer than anticipated sales cycles, or the ability to efficiently manufacture the ASG, could significantly contribute to additional future losses and decreases in working capital.

To help fund operations, we rely on advances under the line of credit with Bridge Bank. The line of credit expires on May 7, 2017. The agreement includes a subjective acceleration clause, which allows for amounts due under the facility to become immediately due in the event of a material adverse change in our business condition (financial or otherwise), operations, properties or prospects, or ability to repay the credit based on the lender’s judgement. As of March 26, 2016, outstanding borrowings and additional borrowing capacity under the line of credit were $800,000 and $906,000, respectively.

These matters raise substantial doubt as to our ability to continue as a going concern.

To address these matters, our management has taken several actions to provide additional liquidity and reduce costs and expenses going forward. These actions are described in the following paragraphs. 

Management will continue to review all aspects of the business in an effort to improve cash flow and reduce costs and expenses, while continuing to invest, to the extent possible, in new product development for future revenue streams.

Management will also continue to seek additional working capital through product line sales, debt, or possible equity financing. However, there are no assurances that such financings or sales will be available at all, or on terms acceptable to the Company.

The current year loss has had a significant negative impact on the financial condition of the Company and raises substantial doubt about our ability to continue as a going concern. Management believes that through the actions to date and possible future actions described above, we should have the necessary liquidity to continue its operations at least for the next twelve months, though no assurances can be made in this regard based on uncertainties with respect the ASG associated with potential delays in the development of features, longer than anticipated sales cycles, or the ability to efficiently manufacture it. No assurances can be given that we can renew the Bridge Bank line of credit. The Consolidated Financial Statements have been prepared assuming we will continue as a going concern and do not include any adjustments that might result if we were unable to do so.    

Contractual Obligations

We lease our facility under an operating lease that expires in December 2016 and lease certain equipment under operating leases. Total future minimum lease payments under these leases amount to approximately $553,000, of which $529,000 is scheduled to be paid in fiscal 2017.

We lease equipment under capital leases that expire through September 2020. The future minimum lease payments under these leases are approximately $271,000.

We are committed to repay the PFG loan with a maturity date of January 2017. Future payments under this loan consist of $400,000 in principal and $17,000 in interest.

We are committed to purchase certain inventory under non-cancelable purchase orders. As of March 26, 2016, total non–cancelable purchase orders were approximately $2.3 million and are scheduled to be delivered to the Company at various dates through March 2017.

Critical Accounting Policies

Our discussion and analysis of our financial condition and the results of operations are based upon the consolidated financial statements included in this report and the data used to prepare them. The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and management is required to make judgments, estimates and assumptions in the course of such preparation. The Summary of Significant Accounting Policies included with the consolidated financial statements describes the significant accounting policies and methods used in the preparation of the consolidated financial statements. On an ongoing basis, we re-evaluate our judgments, estimates and assumptions. We base our judgment and estimates on historical experience, knowledge of current conditions, and our beliefs of what could occur in the future considering available information. Actual results may differ from these estimates under different assumptions or conditions. We have identified the following as our critical accounting policies:

Revenue Recognition

Revenues are recognized when there is evidence of an arrangement, delivery has occurred, the price is fixed or determinable, and collectability is reasonably assured. This generally occurs when products are shipped and the risk of loss has passed. Revenue related to products shipped subject to customers’ evaluation is recognized upon final acceptance. Revenue recognized under the milestone method is recognized once milestones are met. Determining whether a milestone is substantive is a matter of judgment and that assessment is performed only at the inception of the arrangement. The consideration earned from the achievement of a milestone must meet all of the following for the milestone to be considered substantive:

Milestones for revenue recognition are agreed upon with the customer prior to the start of the contract and some milestones will be tied to product shipping while others will be tied to design review.

On certain contracts with one of our significant customers we receive payments in advance of manufacturing. Advanced payments are recorded as deferred revenue until the revenue recognition criteria described above have been met.

Product Warranties

Our warranty policy generally provides one to three years of coverage depending on the product. We record a liability for estimated warranty obligations at the date products are sold. The estimated cost of warranty coverage is based on our actual historical experience with our current products or similar products. For new products, the required reserve is based on historical experience of similar products until sufficient historical data has been collected on the new product. Adjustments are made as new information becomes available.

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable are stated at their net realizable values. We have estimated an allowance for uncollectible accounts based on our analysis of specifically identified problem accounts, outstanding receivables, consideration of the age of those receivables, our historical collection experience, and adjustments for other factors management believes are necessary based on perceived credit risk.

Inventory

Inventories are stated at the lower of cost or market. Cost is determined on a first-in, first-out basis. We periodically review inventory on hand to identify and write down excess and obsolete inventory based on estimated product demand.

Income Taxes

Income taxes are accounted for using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Future tax benefits are subject to a valuation allowance when management is unable to conclude that its deferred tax assets will more likely than not be realized. The ultimate realization of deferred tax assets is dependent upon generation of future taxable income during the periods in which those temporary differences become deductible. Management considers both positive and negative evidence and tax planning strategies in making this assessment.

We consider all tax positions recognized in the consolidated financial statements for the likelihood of realization. When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the positions taken or the amounts of the positions that would be ultimately sustained. The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above, if any, would be reflected as unrecognized tax benefits, as applicable, in the accompanying consolidated balance sheets along with any associated interest and penalties that would be payable to the taxing authorities upon examination. We also recognize accrued interest and penalties, if any, related to unrecognized tax benefits as a component of the provision for income taxes in the consolidated statements of operations.

Share Based Compensation

We have a stock incentive plan that provides for the issuance of stock options and restricted stock to employees and directors. We calculate share based compensation expense for stock options using a Black-Scholes-Merton option pricing model and record the fair value of stock option and restricted stock awards expected to vest over the requisite service period. In so doing, we make certain key assumptions in making estimates used in the model. We believe the estimates used, which are presented in the Notes to Consolidated Financial Statements, are appropriate and reasonable.

Going Concern

We evaluate our relevant conditions and events that is known and reasonably knowable at the date that our financial statements are issued. This includes Management’s preparation and review of a robust forecasting process that evaluates a twelve month horizon period. Management responds to the known and reasonably knowable circumstances that give rise to our initial doubt as a going concern by implementing plans that are reasonably sufficient to overcome the conditions that give rise to our ability to continue as a going concern. Our Consolidated Financial Statements have been prepared assuming we will continue as a going concern and do not include any adjustments that might result if we were unable to do so.    

Software Development Costs

We expense development costs included in the research and development of new products and enhancements to existing products as incurred, until technological feasibility in the form of a working model has been established. Development costs of computer software to be sold, leased, or otherwise marketed are subject to capitalization beginning our product’s technological feasibility has been established and ending when the product is available for general release to our customers.

Off-Balance-Sheet Arrangements

We have no other off-balance-sheet arrangements (including standby letters of credit, guaranties, contingent interests in transferred assets, contingent obligations indexed to its own stock or any obligation arising out of a variable interest in an unconsolidated entity that provides credit or other support to the Company), that have or are likely to have a material effect on its financial conditions, changes in financial conditions, revenue, expense, results of operations, liquidity, capital expenditures or capital resources.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Pursuant to Item 305 of Regulation S-K, the Company, as a smaller reporting company, is not required to provide the information required by this item.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO FINANCIAL STATEMENTS AND SCHEDULES

GIGA-TRONICS INCORPORATED

CONSOLIDATED BALANCE SHEETS

See Accompanying Notes to Consolidated Financial Statements

GIGA-TRONICS INCORPORATED

CONSOLIDATED STATEMENTS OF OPERATIONS

See Accompanying Notes to Consolidated Financial Statements

GIGA-TRONICS INCORPORATED

CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

See Accompanying Notes to Consolidated Financial Statements

GIGA-TRONICS INCORPORATED

CONSOLIDATED STATEMENTS OF CASH FLOWS

See Accompanying Notes to Consolidated Financial Statements

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS