R F INDUSTRIES LTD - Quarter Report: 2022 January (Form 10-Q)

Part I. FINANCIAL INFORMATION

Item 1: Financial Statements

RF INDUSTRIES, LTD. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share amounts)

Item 1: Financial Statements (continued)

RF INDUSTRIES, LTD. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share amounts)

See Notes to Unaudited Condensed Consolidated Financial Statements.

Item 1: Financial Statements (continued)

RF INDUSTRIES, LTD. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

(In thousands, except share and per share amounts)

See Notes to Unaudited Condensed Consolidated Financial Statements.

Item 1: Financial Statements (continued)

RF INDUSTRIES, LTD. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(UNAUDITED)

(In thousands, except share amounts)

See Notes to Unaudited Condensed Consolidated Financial Statements.

Item 1: Financial Statements (continued)

RF INDUSTRIES, LTD. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(In thousands)

See Notes to Unaudited Condensed Consolidated Financial Statements.

RF INDUSTRIES, LTD. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Unaudited interim condensed consolidated financial statements

Our accompanying unaudited condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments, which are normal and recurring, have been included in order to make the information not misleading. Information included in the consolidated balance sheet as of October 31, 2021 has been derived from, and certain terms used herein are defined in, the audited consolidated financial statements of RF Industries, Ltd. as of October 31, 2021 included in our Annual Report on Form 10-K (“Form 10-K”) for the year ended October 31, 2021 that was previously filed with the Securities and Exchange Commission (“SEC”). Operating results for the three months ended January 31, 2022 are not necessarily indicative of the results that may be expected for the year ending October 31, 2022. The unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and footnotes thereto included in our Form 10-K.

Principles of consolidation

The accompanying unaudited condensed consolidated financial statements include the accounts of RF Industries, Ltd. and our four wholly-owned subsidiaries: Cables Unlimited, Inc. (“Cables Unlimited”), Rel-Tech Electronics, Inc. (“Rel-Tech”), C Enterprises, Inc. (“C Enterprises”), and Schroff Technologies International, Inc. (“Schrofftech”). All references to the “Company” collectively refer to RF Industries, Ltd., Cables Unlimited, Rel-Tech, C Enterprises, and Schrofftech. All intercompany balances and transactions have been eliminated in consolidation.

Risks and uncertainties

In March 2020, the World Health Organization (the “WHO”) declared coronavirus (“COVID-19”) a pandemic emergency. The COVID-19 pandemic has negatively impacted regional and global economies, disrupted global supply chains, and created significant volatility and disruption of financial markets. The extent of the impact of the COVID-19 pandemic on our operational and financial performance will depend on future developments, including the duration and spread of the pandemic and related actions taken by domestic and international jurisdictions to prevent disease spread, all of which are uncertain and cannot be predicted.

The outbreak impacted our performance for the three months ended January 31, 2022. During the periods covered by this report, the operations at all locations were affected intermittently as some of our employee schedules were impacted, and as certain customers scaled back operations or otherwise delayed or deferred orders for our products. Because of the impact that COVID-19 had on our operations, in May 2020 we applied for and received loans under the Paycheck Protection Program (“PPP”) of the Coronavirus Aid, Relief, and Economic Security Act, H.R. 748 ("CARES Act") totaling approximately $2.8 million (“PPP Loans”). See Note 12 on discussions of the PPP Loans.

In March 2021, the Internal Revenue Service (“IRS”) released Notice 2021-20, which retroactively eliminated the restriction that prevented employers who received a PPP loan from qualifying for the Employee Retention Credit (“ERC”), which is a refundable tax credit against certain employment taxes. Upon determination that the employer has complied with all of the conditions required to receive the credit, a receivable is recognized and the credit reduces salaries and wages. For the fiscal year ended October 31, 2021, we qualified and filed to claim the ERC and have recorded this as an other receivable classified in other current assets. As of January 31, 2022, the ERC in other receivable classified in other current assets were $1.8 million.

We considered the impact of the COVID-19 related economic slowdown on our evaluation of goodwill and non-amortizable intangibles impairment indicators as of January 31, 2022. Although no impairment indicators were identified, it is possible that impairments could emerge as the impact of the pandemic becomes clearer, and those impairment losses could be material.

Fair value measurement

We measure at fair value certain financial assets and liabilities. Fair value is defined as the price that would be received to sell an asset or transfer a liability in an orderly transaction between market participants at the measurement date. The accounting principles generally accepted in the United States of America ("GAAP") specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our market assumptions. These two types of inputs have created the following fair-value hierarchy:

Level 1 – Quoted prices for identical instruments in active markets;

Level 2 – Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets; and

Level 3 – Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.

As of January 31, 2022 and October 31, 2021, the carrying amounts reflected in the accompanying condensed consolidated balance sheets for cash and cash equivalents, accounts receivable, and accounts payable approximated their carrying value due to their short-term nature. See Note 4 for discussion on the fair value of other current liabilities.

Recent accounting standards

Recently issued accounting pronouncements not yet adopted:

In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-13, Financial Instruments—Credit Losses, which requires a financial asset (or a group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset(s) to present the net carrying value at the amount expected to be collected on the financial asset. The guidance is effective for fiscal years beginning after December 15, 2019. In November 2019, the FASB issued ASU 2019-10, Financial Instruments—Credit Losses (Topic 326), which pushes back the effective date for public business entities that are smaller reporting companies, as defined by the SEC, to fiscal years beginning after December 15, 2022. Early adoption is permitted. We are currently evaluating the impact the adoption of this new standard will have on our consolidated financial statements.

Recently issued accounting pronouncements adopted:

In January 2017, the FASB issued ASU No. 2017-04, Intangibles—Goodwill and Other, which simplifies the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. Under the amendments of this update, the goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount. If the carrying amount of a reporting unit exceeds its fair value, an impairment loss should be recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit. The guidance also still gives entities the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. We adopted the standard as of November 1, 2020, the beginning of our fiscal 2021, applying this prospectively. The adoption of the standard did not result in an impairment charge as of January 31, 2022 or October 31, 2021.

In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes, which simplifies the accounting for income taxes by removing certain exceptions related to the approach for intra-period tax allocation, the methodology for calculating income taxes in an interim period and the recognition of deferred tax liabilities for outside basis differences. The new ASU also simplifies aspects of the accounting for franchise taxes and enacted changes in tax laws or rates. These changes aim to improve the overall usefulness of disclosures to financial statement users and reduce unnecessary costs to companies when preparing the disclosures. The guidance was effective for the Company beginning on November 1, 2021 and prescribes different transition methods for the various provisions. The adoption of this standard had no material impact on the Company’s financial statements or related disclosures.

Note 2 – Inventories and major vendors

Inventories, consisting of materials, labor and manufacturing overhead, are stated at the lower of cost or net realizable value. Cost has been determined using the weighted average cost method. Inventories consist of the following (in thousands): 

For the three months ended January 31, 2022, two vendors accounted for 30% and 10% of inventory purchases. No vendors accounted for more than 10% of inventory purchases for the three months ended January 31, 2021. We have arrangements with these vendors to purchase products based on purchase orders that we periodically issue.

Note 3 – Other current assets

Other current assets consist of the following (in thousands): 

Pursuant to the CARES Act, eligible employers are able to claim an ERC, which is a refundable tax credit against certain employment taxes. If the employer’s employment tax deposits are not sufficient to cover the credit, the employer may get an advance payment from the IRS. The period assessed for eligibility of the ERC is on a calendar year basis. As of January 31, 2022, the remaining portion of the ERC that we have not yet received is included as other receivables in other current assets.

Note 4 – Accrued expenses and other current liabilities

Accrued expenses consist of the following (in thousands):

Accrued receipts represent purchased inventory for which invoices have not been received.

The purchase agreement for the Schrofftech acquisition provided for earn-out payments of up to $2,400,000, which were to be earned through October 31, 2021. The initial earn-out liability was valued at its fair value using an option pricing based approach with a risk-neutral framework using Black Scholes due to the option-like nature of the earn-out payout structure. The earn-out was revalued quarterly using a present value approach and any resulting increase or decrease was recorded into selling and general expenses. Significant variances between actual and forecasted results or changes in the assumptions affected the amount of contingent consideration expense that we recorded from time to time. In determining the fair value of the earn-out liability as of October 31, 2021, we used results through October 31, 2021.

We estimated the fair value of the earn-out liability using an option pricing based approach with a risk-neutral framework using Black Scholes related to Schrofftech calculated at net present value (Level 3 of the fair value hierarchy). At October 31, 2021, the fair value of the Schrofftech earn-out liability was zero, and since the earn-out obligation expired on October 31, 2021, no earn-out liability was recorded for the period ended January 31, 2022.

The following table summarizes the changes to the Level 3 liabilities measured at fair value for the three months ended January 31, 2022 and 2021 (in thousands):

The earn-out was revalued quarterly using a present value approach and the resulting decrease was recorded into selling and general expenses.

Note 5 – Loss per share

Basic loss per share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted average number of common shares outstanding increased by the effects of assuming that other potentially dilutive securities (such as stock options) outstanding during the period had been exercised and the treasury stock method had been applied. During the three months ended January 31, 2022 and 2021, we reported a net loss and diluted loss per share is computed the same as basic loss per share as the effect of utilizing the fully diluted share count would have reduced the net loss per share which has an anti-dilutive effect. Therefore, all outstanding stock options are excluded from the computation of diluted loss per share. Potentially issuable securities that are out-of-the-money totaled 459,889 and 331,338 shares for the three months ended January 31, 2022 and 2021, respectively, and were excluded from the calculation of diluted per share amounts because of their anti-dilutive effect.

The following table summarizes the computation of basic and diluted weighted average shares outstanding:

Note 6 – Stock-based compensation and equity transactions

On January 12, 2021, we granted a total of 33,500 shares of restricted stock and 67,000 incentive stock options to one manager and three officers. The shares of restricted stock and incentive stock options vest over four years as follows: (i) one-quarter of the restricted shares and options shall vest on January 12, 2022; and (ii) the remaining restricted shares and options shall vest in twelve equal quarterly installments over the next three years. All incentive stock options expire ten years from the date of grant.

On January 10, 2022, we granted a total of 39,666 shares of restricted stock and 106,001 incentive stock options to one manager and three officers. The shares of restricted stock and incentive stock options vest over four years as follows: (i) one-quarter of the restricted shares and options shall vest on January 10, 2023; and (ii) the remaining restricted shares and options shall vest in twelve equal quarterly installments over the next three years. All incentive stock options expire ten years from the date of grant.

No other shares or options were granted to company employees during the three months ended January 31, 2022 and 2021.

The weighted average fair value of employee stock options that were granted during the three months ended January 31, 2022 and 2021 was estimated to be $3.84 and $2.46, respectively, per share, using the Black-Scholes option pricing model with the following assumptions:

Expected volatilities are based on historical volatility of our stock price and other factors. We used the historical method to calculate the expected life of the 2022 and 2021 option grants. The expected life represents the period of time that options granted are expected to be outstanding. The risk-free rate is based on the U.S. Treasury rate with a maturity date corresponding to the options’ expected life. The dividend yield is based upon the historical dividend yield.

Company stock option plans

Descriptions of our stock option plans are included in Note 9 of our Annual Report on Form 10-K for the year ended October 31, 2021. A summary of the status of the options granted under our stock option plans as of January 31, 2022 and the changes in options outstanding during the three months then ended is presented in the table that follows:

Weighted average remaining contractual life of options outstanding as of January 31, 2022: 6.67 years

Weighted average remaining contractual life of options exercisable as of January 31, 2022: 5.67 years

Weighted average remaining contractual life of options vested and expected to vest as of January 31, 2022: 6.67 years

Aggregate intrinsic value of options outstanding at January 31, 2022: $1,372,439

Aggregate intrinsic value of options exercisable at January 31, 2022: $639,653

Aggregate intrinsic value of options vested and expected to vest at January 31, 2022: $1,363,724

As of January 31, 2022, $865,000 and $605,000 of expenses with respect to nonvested stock options and restricted shares, respectively, has yet to be recognized but is expected to be recognized over a weighted average period of 2.72 and 1.42 years, respectively.

Under the compensation policies adopted by the Compensation Committee, directors who also are officers and/or employees of the Company do not receive any compensation for serving on the Board. For their service as directors beginning in 2020 until the annual meeting of stockholders held in 2021, non-employee directors (i.e., directors who are not employed by the Company as officers or employees) were awarded $50,000 as Board fees, which amount was payable (a) one-half in cash ($25,000), with payments made on a quarterly basis, and (b) one-half through the grant of restricted shares that vest on a quarterly basis. In addition, the Chairman of the Board of Directors and the Chair of each committee of the Board of Directors received an annual retainer of $15,000, also payable in restricted shares, that vests in four equal quarterly installments commencing on September 15, 2020 and ending on the earlier of September 15, 2021 or the next annual meeting of stockholders. In each case, the equity portion of the award was calculated based on the 20-day average trailing closing price of the Company's common stock from the date of grant ($4.34); and cash and stock payments were pro-rated for board members who served less than the entire service period during fiscal 2021.

On September 8, 2021, the Board of Directors determined that the compensation payable to directors as Board fees for the next year ending with the 2022 annual meeting of stockholders was the same as they received in 2021 (i.e., $50,000). In addition, effective September 8, 2021, the Board determined that both Board fees and additional chair fees would be paid half in cash and half in restricted stock, and, in light of the additional work required by the chairs, revised the chair fees as follows, $25,000 for the Chairman of the Board, $25,000 for the Audit Committee Chair, $20,000 for the Compensation Committee Chair, $20,000 for the Strategic Planning and Capital Allocation Chair, and $10,000 for the Nominating & Governance Chair. The cash and restricted stock fees vest in four equal quarterly installments commencing on December 8, 2021, with the restricted stock portion determined by dividing the amount of the fee by the 20-day average trailing closing price of the Company’s common stock from the date of grant ($8.21). Accordingly, on September 8, 2021, Mr. Holdsworth was granted 5,785 shares of restricted stock; Ms. Cefali, 4,871 shares; Mr. Garland, 4,567 shares; and Mr. Fink, 3,044 shares.

Stock option expense

During the three months ended January 31, 2022 and 2021, stock-based compensation expense totaled $139,000 and $123,000, respectively, and was classified in selling and general expense.

Note 7 – Concentrations of credit risk

Financial instruments that potentially subject us to concentrations of credit risk consist primarily of cash and cash equivalents and accounts receivable. We maintain our cash and cash equivalents with high-credit quality financial institutions. At January 31, 2022, we had cash and cash equivalent balances in excess of federally insured limits in the amount of approximately $12.3 million.

Sales from each customer that were 10% or greater of net sales were as follows:

For the three months ended  January 31, 2022, one wireless carrier customer accounted for 32% of net sales and 37% of total net accounts receivable balance. Two customers, both distributors, accounted for approximately 16% and 12% of net sales and had accounts receivable balances that accounted for 15% and 19%, respectively, of the total net accounts receivable balance for the three months ended January 31, 2021. Although these customers have been on-going major customers of the Company, the written agreements with these customers do not have any minimum purchase obligations and they could stop buying our products at any time and for any reason. A reduction, delay or cancellation of orders from these customers or the loss of these customers could significantly reduce our future revenues and profits.

Note 8 – Segment information

We aggregate operating divisions into two reporting segments that have similar economic characteristics primarily in the following areas: (1) the nature of the product and services; (2) the nature of the production process; (3) the type or class of customer for their products and services; (4) the methods used to distribute their products or services; and (5) if applicable, the nature of the regulatory environment. Based upon this evaluation, as of January 31, 2022, we had two segments – RF Connector and Cable Assembly (“RF Connector segment”) and Custom Cabling Manufacturing and Assembly (“Custom Cabling segment”).

The RF Connector segment consisted of one division and the Custom Cabling segment was composed of four divisions. The five divisions that met the quantitative thresholds for segment reporting are the RF Connector and Cable Assembly division (“RF Connector division”), Cables Unlimited, Rel-Tech, C Enterprises, and Schrofftech. While each segment has similar products and services, there was little overlapping of these services to their customer base. The biggest difference in segments is in the channels of sales: sales or product and services for the RF Connector segment were primarily through the distribution channel, while the Custom Cabling segment sales were through a combination of distribution and direct to the end customer.

Management identifies segments based on strategic business units that are, in turn, based along market lines. These strategic business units offer products and services to different markets in accordance with their customer base and product usage. For segment reporting purposes, the RF Connector division constitutes the RF Connector segment, and the Cables Unlimited, Rel-Tech, C Enterprises, and Schrofftech divisions constitute the Custom Cabling segment.

As reviewed by our chief operating decision maker, we evaluate the performance of each segment based on income or loss before income taxes. We charge depreciation and amortization directly to each division within the segment. Accounts receivable, inventory, property and equipment, right of use assets, goodwill and intangible assets are the only assets identified by segment. Except as discussed above, the accounting policies for segment reporting are the same for the Company as a whole.

All of our operations are conducted in the United States; however, we derive a portion of our revenue from export sales. We attribute sales to geographic areas based on the location of the customers. The following table presents the sales by geographic area for the three months ended January 31, 2022 and 2021 (in thousands):

Net sales, income (loss) before benefit for income taxes and other related segment information for the three months ended January 31, 2022 and 2021 are as follows (in thousands): 

Note 9 – Income taxes

We use an estimated annual effective tax rate, which is based on expected annual income, statutory tax rates and tax planning opportunities available in the various jurisdictions in which we operate, to determine its quarterly benefit for income taxes. Certain significant or unusual items are separately recognized in the quarter in which they occur and can be a source of variability in the effective tax rates from quarter to quarter.

We recorded income tax benefits of $80,000 and $194,000 for the three months ended January 31, 2022 and 2021, respectively. The effective tax rate was 22.3% for the three months ended January 31, 2022, compared to 32.4% for the three months ended January 31, 2021. The change in effective tax rate for the three months ended January 31, 2022 compared to the three months ended January 31, 2021 was primarily driven by stock compensation windfall benefits.          

We had $174,000 and $141,000 of unrecognized tax benefits, inclusive of interest and penalties, as of January 31, 2022 and October 31, 2021, respectively. The unrecognized tax benefits, if recognized, would result in a net tax benefit of $168,000 as of January 31, 2022.         

Note 10 – Intangible assets

Intangible assets consist of the following (in thousands): 

Amortization expense for the three months ended January 31, 2022 and the year ended October 31, 2021 was $95,000 and $442,000, respectively. As of January 31, 2022, the weighted-average amortization period for the amortizable intangible assets is 7.62 years.

Note 11 – Commitments

We have operating leases for corporate offices, manufacturing facilities, and certain storage units. Our leases have remaining lease terms of 1 year to 3 years, some of which include options to extend the leases for up to 5 years. A portion of our operating leases are leased from K&K Unlimited, a company controlled by Darren Clark, the former owner and current President of Cables Unlimited, to whom we make rent payments totaling $16,000 per month.

We also have other operating leases for certain equipment. The components of our facilities and equipment operating lease expenses for the period ending January 31, 2022 were as follows (in thousands):

Other information related to leases was as follows (in thousands):

Future minimum lease payments under non-cancellable leases as of January 31, 2022 were as follows:

As of January 31, 2022, operating lease ROU asset was $1.2 million and operating lease liability totaled $1.2 million, of which $698,000 is classified as current. There were no finance leases as of January 31, 2022.

The Schrofftech facilities, consisting of two buildings for a total of 10,700 square feet, are leased by RF Industries, Ltd. under two leases that were renewed effective February 1, 2022 for two years expiring January 31, 2024. The aggregate monthly rental payment under the new leases currently is $6,720 per month.

Note 12 – PPP loans

In May 2020, we applied for and received loans under the Paycheck Protection Program (“PPP”) of the CARES Act totaling approximately $2.8 million (“PPP Loans”). The funds from the PPP Loans were used to retain employees, maintain payroll and benefits, and make lease and utility payments. Without the PPP Loans, we would have made material reductions in our workforce (particularly at our New York facility). As of April 30, 2021, the full amount of the PPP Loans has been forgiven and considered paid in full (including applicable interest).

Note 13 – Cash dividend and declared dividends

We did not pay any dividends during the three months ended January 31, 2022, nor did we pay any dividends during the three months ended January 31, 2021.

Note 14 – Subsequent events

Lease Agreement

On February 1, 2022, the Company entered into an agreement with Sorrento West Properties, Inc., a Delaware corporation, to lease industrial and commercial space located at 16868 Via Del Campo Court, San Diego, California. The lease provides for an initial term of ten years, commencing on or about December 1, 2022, at an initial monthly base rent of $139,123.20, plus certain operating expenses.

Credit Facility

On February 25, 2022, the Company entered into a Loan Agreement providing for a $3 million revolving credit facility (the “Revolving Credit Facility”) and a $17 million term loan (the “Term Loan”, collectively with the “Revolving Credit Facility”, the “Credit Facility”) with Bank of America, N.A. (the “Credit Facility Lender”).

The primary interest rate for the Revolving Credit Facility is based on the Bloomberg Short-Term Bank Yield Index Rate plus a margin of 2.00%. The maturity date of the Revolving Credit Facility is March 1, 2024. The primary interest rate for Term Loan is 3.76% per annum. The maturity date of the Term Loan is March 1, 2027.

Acquisition of Microlab/FXR LLC

On March 1, 2022, the Company completed its purchase (the “Purchase Transaction”) of 100% of the issued and outstanding membership interests of Microlab/FXR LLC, a New Jersey limited liability company, from Wireless Telecom Group, Inc, a New Jersey corporation (the “Seller”) pursuant to the Membership Interest Purchase Agreement (the “Purchase Agreement”) dated December 16, 2021, with the Seller. The consideration for the Purchase Transaction was $24,250,000, subject to certain post-closing adjustments as set forth in the Purchase Agreement. The purchase price was paid in cash at the closing. The Company funded $17 million of the cash purchase price from the funds obtained under the Term Loan and paid the remaining amount of the cash purchase price with cash on hand.

Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations 

This report contains forward-looking statements. These statements relate to future events or the Company’s future financial performance. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “except,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential” or “continue,” the negative of such terms or other comparable terminology. These statements are only predictions. Actual events or results may differ materially.

Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, the Company cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither the Company, nor any other person, assumes responsibility for the accuracy and completeness of the forward-looking statements. The Company is under no obligation to update any of the forward-looking statements after the filing of this Quarterly Report on Form 10-Q to conform such statements to actual results or to changes in its expectations.

The following discussion should be read in conjunction with the Company’s unaudited condensed consolidated financial statements and the related notes and other financial information appearing elsewhere in this Form 10-Q. Readers are also urged to carefully review and consider the various disclosures made by the Company which attempt to advise interested parties of the factors which affect the Company’s business, including without limitation the disclosures made under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” under the caption “Risk Factors,” and the audited consolidated financial statements and related notes included in the Company’s Annual Report filed on Form 10-K for the year ended October 31, 2021 and other reports and filings made with the Securities and Exchange Commission.

Critical Accounting Policies

Our unaudited condensed consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of these consolidated financial statements requires us to make significant estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosure of contingent assets and liabilities. We evaluate our estimates, including those related to bad debts, inventory reserves, earn-out liabilities, and contingencies on an ongoing basis. We base our estimates on historical experience and on various other assumptions that are believed to be appropriate under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Inventories

Inventories are stated at the lower of cost or net realizable value, with cost determined using the weighted average cost method of accounting. Certain items in inventory may be considered obsolete or excess and, as such, we periodically review our inventories for excess and slow moving items and make provisions as necessary to properly reflect inventory value. Because inventories have, during the past few years, represented up to one-fourth of our total assets, any reduction in the value of our inventories would require us to take write-offs that would affect our net worth and future earnings.

Allowance for Doubtful Accounts

We record an allowance for doubtful accounts based upon our assessment of various factors. We consider historical experience, the age of the accounts receivable balance, credit quality of our customers, current economic conditions and other factors that may affect a customer’s ability to pay.

Long-Lived Assets Including Goodwill

We assess property, plant and equipment and intangible assets, which are considered definite-lived assets, for impairment. Definite-lived assets are reviewed when there is evidence that events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We measure recoverability of these assets by comparing the carrying amounts to the future undiscounted cash flows the assets are expected to generate. If property and equipment and intangible assets are considered to be impaired, the impairment to be recognized equals the amount by which the carrying value of the asset exceeds its fair market value.

We amortize our intangible assets with definite useful lives over their estimated useful lives and review these assets for impairment.

We test our goodwill and trademarks and indefinite-lived assets for impairment at least annually or more frequently if events or changes in circumstances indicate these assets may be impaired. These events or circumstances require significant judgment and could include a significant change in the business climate, legal factors, operating performance indicators, competition and sale or disposition of all or a portion of a division. This analysis requires significant judgments, including estimation of future cash flows, which is dependent on internal forecasts, estimation of the long-term rate of growth for our business, estimation of the useful life over which cash flows will occur, and determination of our weighted average cost of capital.

Earn-out Liability

The purchase agreement for the acquisition of Schrofftech provided for an earn-out payment of up to $2.4 million, which amount was earned through October 31, 2021. Since the earn-out period has expired, no earn-out liability was required to be recorded for the fiscal quarter ended January 31, 2022. The initial earn-out liability was valued at its fair value using an option pricing based approach with a risk-neutral framework using Black Scholes due to the option-like nature of the earn-out payout structure. The earn-out was revalued quarterly using a present value approach, and any resulting increase or decrease were recorded into selling and general expenses. Changes in the amount of the actual results and forecasted scenarios resulted in an adjustment to the fair value. Significant judgment was employed in determining the appropriateness of the assumptions used in calculating the fair value of the earn-out as of the acquisition date.

Income Taxes

We record a tax provision for the anticipated tax consequences of the reported results of operations. Income taxes are accounted for under the asset and liability method, under which deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities, and for operating losses and tax credit carryforwards. Deferred tax assets and liabilities are measured using the currently enacted tax rates as of the date of the financial statements that apply to taxable income in effect for the years in which those tax assets are expected to be realized or settled. We record a valuation allowance to reduce deferred tax assets to the amount that is believed more likely than not to be realized.

The calculation of the tax provision involves significant judgment in estimating the impact of uncertainties in the application of GAAP and complex tax laws. Resolution of these uncertainties in a manner inconsistent with management’s expectations could have a material impact on our financial condition and operating results. 

Stock-based Compensation

We use the Black-Scholes model to value the stock option grants. This valuation is affected by our stock price as well as assumptions regarding a number of inputs which involve significant judgments and estimates. These inputs include the expected term of employee stock options, the expected volatility of the stock price, the risk-free interest rate and expected dividends.

Overview

RF Industries, Ltd. (together with subsidiaries, the “Company,” we,” “us,” or “our”) is a national manufacturer and marketer of interconnect products and systems, including coaxial and specialty cables and connectors, fiber optic cables and connectors, and electrical and electronic specialty cables and components. Through our manufacturing and production facilities, we provide a wide selection of interconnect products and solutions primarily to telecommunications carriers and equipment manufacturers, wireless and network infrastructure carriers and manufacturers and to various original equipment manufacturers (OEMs) in several market segments. Since the acquisition of Schrofftech in November 2019, we also manufacture and sell energy-efficient cooling systems and integrated small cell solutions and related components.

We operate through two reporting segments: (i) the RF Connector and Cable Assembly (“RF Connector”) segment, and (ii) the Custom Cabling Manufacturing and Assembly (“Custom Cabling”) segment. The RF Connector segment primarily designs, manufactures, markets and distributes a broad range of connector and cable products, including coaxial connectors and cable assemblies that are integrated with coaxial connectors, used in telecommunications and information technology OEM markets and other end markets. The Custom Cabling segment designs, manufactures, markets and distributes custom copper and fiber cable assemblies, complex hybrid fiber optic and power solution cables, electromechanical wiring harnesses, wiring harnesses for a broad range of applications in a diverse set of end markets, energy-efficient cooling systems for wireless base stations and remote equipment shelters and custom designed, pole-ready 5G small cell integrated enclosures.

For the three months ended January 31, 2022, most of our revenues were generated from the Custom Cabling segment from the sale of fiber optics cable, copper cabling, custom patch cord assemblies, and wiring harnesses, which collectively accounted for 77% of the Company’s total sales. Revenues from the RF Connector segment were generated from the sales of RF connector products and cable assemblies and accounted for 23% of total sales for the three months ended January 31, 2022. The RF Connector segment mostly sells standardized products regularly used by customers and, therefore, has a more stable revenue stream. On the other hand, the Custom Cabling segment mostly designs, manufactures, and sells customized cabling and wireless-related equipment under larger purchase orders. Accordingly, the Custom Cabling segment is more dependent upon larger orders, and its revenues are therefore, more volatile than the revenues of the RF Connector segment.

On March 1, 2022, the Company purchased Microlab/FXR LLC, a New Jersey limited liability company (“Microlab”), from Wireless Telecom Group, Inc. for $24,250,000, subject to certain post-closing adjustments. The purchase price was paid in cash at the closing. The Company funded $17 million of the cash purchase price from the funds obtained under the term loan it obtained from Bank of America, N.A. (the “Credit Facility Lender”) and paid the remaining amount of the cash purchase price with cash on hand. The purpose of the acquisition is to acquire a synergistic business that is expected to both (i) be accretive to the financial performance of the Company and (ii) enhance our market position by providing a broader and deeper product portfolio, accelerating our product and innovation roadmap, expanding our production capabilities, and enhancing our customer relationships.

In order to fund the purchase of Microlab, on February 25, 2022, the Company entered into a Loan Agreement with the Credit Facility Lender, which facility provides the Company with a $3 million revolving credit facility (the “Revolving Credit Facility”) and a $17 million term loan (the “Term Loan”, collectively with the “Revolving Credit Facility”, the “Credit Facility”). The primary interest rate for Term Loan is 3.76% per annum. The maturity date of the Term Loan is March 1, 2027. Borrowings under the Credit Facility are guaranteed by the Company and certain of its subsidiaries and secured by all personal property of the Company and certain of its subsidiaries. The Credit Facility requires the maintenance of certain financial covenants, including: (i) consolidated debt to EBITDA ratio not to exceed 3.00 to 1.00; (ii) consolidated fixed charge coverage ratio of at least 1.25 to 1.00; and (iii) consolidated minimum EBITDA of at least $600,000 for the discrete quarter ending January 31, 2022. In addition, the Credit Facility contains customary affirmative and negative covenants.

The COVID-19 coronavirus pandemic, in its various strains, negatively affected both our operations and those of our customers. The extent of the impact of the COVID-19 pandemic on our future operational and financial performance will depend on future developments, including the duration and spread of the pandemic and related actions taken by domestic and international jurisdictions to prevent disease spread, all of which are uncertain and cannot be predicted. The outbreak impacted our performance in fiscal year 2021 and for the three months ended January 31, 2022. During the periods covered by this report, the operations at all locations were affected intermittently as some of our employee schedules were impacted, and as certain customers scaled back operations or otherwise delayed or deferred orders for our products. Because of the impact that COVID-19 had on our operations, in May 2020 we applied for and received loans under the Paycheck Protection Program (“PPP”) of the Coronavirus Aid, Relief, and Economic Security Act, H.R. 748 (“CARES Act”)  totaling approximately $2.8 million (“PPP Loans”). In February 2021, all of the $2.8 million of PPP Loans were forgiven and considered paid in full (including applicable interest) by the Small Business Administration (“SBA”).

In March 2021, the Internal Revenue Service (“IRS”) released Notice 2021-20, which retroactively eliminated the restriction that prevented employers who received a PPP loan from qualifying for the Employee Retention Credit (“ERC”), which is a refundable tax credit against certain employment taxes. Upon determination that the employer has complied with all of the conditions required to receive the credit, a receivable is recognized and the credit reduces salaries and wages. For the fiscal year ended October 31, 2021, we qualified and filed to claim the ERC and have recorded the credit as a receivable in Other Current Assets. As of January 31, 2022, we carried a $1.8 million the ERC receivable in Other Current Assets.

Liquidity and Capital Resources

Historically, we have been able to fund our liquidity and other capital requirements from funds we generated from operations. On March 1, 2022, we acquired Microlab. In connection with the purchase of Microlab, we entered into the Credit Facility and borrowed the full $17 million amount available under the Term Loan. As of the date of this report, we have not borrowed any amounts under the Revolving Credit Facility. We believe that our existing assets and the cash we expect to generate from operations (including those of Microlab) and from our current backlog of unfulfilled orders, will be sufficient to fund our liquidity needs during the next twelve months from the date of this filing based on the following:

As of January 31, 2022, we had a total of $13.5 million of cash and cash equivalents compared to a total of $13.1 million of cash and cash equivalents as of October 31, 2021. As of January 31, 2022, we had working capital of $31.3 million and a current ratio of approximately 4.2:1 with current assets of $41 million and current liabilities of $9.7 million. On March 1, 2022 we used $7.3 million of our cash to fund a portion of the purchase price paid to acquire Microlab. Nevertheless, we believe that the amount of cash remaining, plus the amount available to us under the Revolving Credit Facility, will be sufficient to fund our anticipated liquidity needs.

As of January 31, 2022, we had $27.9 million of backlog, compared to $33.3 million as of October 31, 2021. Since purchase orders are submitted from customers based on the timing of their requirements, our ability to predict orders in future periods or trends in future periods is limited. Furthermore, purchase orders may be subject to cancellation from customers, although we have not historically experienced material cancellations of purchase orders.

In the three months ended January 31, 2022, we generated $0.6 million of cash in our operating activities. This net inflow of cash is primarily related to the collections of accounts receivable of $3.0 million, $0.2 million from depreciation and amortization and $0.1 million from stock-based compensation expense. The cash usage was primarily due to an increase to our inventory purchases ($2.3 million) and our net loss ($0.3 million). The cash used for other current assets represents of ($0.7 million) which consists of ($0.2 million) in application of prepaid taxes, ($0.3 million, of which $0.2 million related to Microlab) in prepaid expenses and ($0.2 million) in deposits for inventory purchases.

The acquisition of Microlab will affect both our liquidity and our capital resources in the near future. In order to acquire Microlab, we used $7.3 million of our cash on hand to pay a portion of the purchase price, thereby reducing the amount available for future acquisitions, for investments in the expansion of our existing businesses and assets, or as a reserve for unanticipated financial requirements. For example, during the three months ended January 31, 2022, we spent $103,000 on capital expenditures, of which $13,000 related to purchases in preparation of the Microlab. We may be required to make additional future capital expenditures to integrate Microlab with our other operations or to relocate or consolidate the facilities of Microlab and one or more of other subsidiaries. Also, in order to purchase Microlab, we borrowed $17 million under the Term Loan. The future monthly payments of principal and interest will negatively impact our future cash available from operations and our liquidity. Although the acquisition of Microlab is anticipated to be accretive and to generate positive cash flow, the actual impact of the acquisition of Microlab on our consolidated financial results, and the operating synergies that will actually be generated from the integration of Microlab with our other operations, are currently unknown. In the event that the future operating and financial results of Microlab are less than anticipated, or if some of the anticipated synergies are not realized, our liquidity and capital resources may be further negatively impacted by the acquisition of that company.

Our goal to expand and grow our business both organically and through acquisitions may require material additional capital equipment. In the past, we have purchased all additional equipment, or financed some of our equipment and furnishings requirements through capital leases. Currently, no additional capital equipment purchases have been identified that would require significant additional leasing or capital expenditures during the next twelve months. We also believe that based on our current financial condition, our current backlog of unfulfilled orders and our anticipated future operations, we would be able to finance our expansion, if necessary.

From time to time, we may undertake acquisitions of other companies or product lines in order to diversify our product and solutions offerings and customer base. Conversely, we may undertake the disposition of a division or product line due to changes in our business strategy or market conditions. Acquisitions may require the outlay of cash, which may reduce our liquidity and capital resources while dispositions may increase our cash position, liquidity and capital resources. Since our goal is to continue to expand our operations and accelerate our growth through future acquisitions, we may use some of our current capital resources to fund any acquisitions we may undertake in the future.

Results of Operations

Three Months Ended January 31, 2022 vs. Three Months Ended January 31, 2021

Net sales for the three months ended January 31, 2022 (the “fiscal 2022 quarter”) increased by 69%, or $6.9 million, to $16.9 million as compared to the three months ended January 31, 2021 (the “fiscal 2021 quarter”). Net sales for the fiscal 2022 quarter at the Custom Cabling segment increased by $6.6 million, or 102%, to $13.0 million, compared to $6.4 million in the fiscal 2021 quarter. The increase was primarily the result of project-based wireless carrier macro and tower site business related to the sale of fiber optic cables used in the build out of 4G and 5G networks.  Net sales for the fiscal 2022 quarter at the RF Connector segment increased by $0.3 million, or 10%, to $3.9 million as compared to $3.6 million in the fiscal 2021 quarter.

Gross profit for the fiscal 2022 quarter increased by $1.5 million to $4.1 million due to the increase in net sales, although gross margins decreased to 24.1% of sales compared to 26.1% of sales in the fiscal 2021 quarter.

Engineering expenses increased by $23,000 to $454,000 in the fiscal 2022 quarter compared to $431,000 in the fiscal 2021 quarter primarily due to the engineering efforts associated with the increase in sales, which costs are included in the engineering costs. Engineering expenses represent costs incurred relating to the ongoing research and development of new products.

Selling and general expenses increased by $1.3 million to $4.0 million (24% of sales) compared to $2.8 million (28% of sales) in the first quarter last year primarily due to $0.7 million of acquisition related expenses and other one-time charges (including attorney fees and due diligence fees) related to the recent acquisition of Microlab. Selling and general expenses also increased as a result of the increase in net sales during the current fiscal year period.

For the fiscal 2022 quarter, the Custom Cabling segment had a pretax income of $314,000 while the RF Connector segment had pretax income of $56,000, as compared to $1.0 million loss and $0.5 million of income, respectively, for the comparable first quarter last year. The decrease in the pretax net income at the RF Connector segment was primarily due to decline in gross margin as well as an increase in selling and administrative expenses to support a higher sales number. The increase in pretax income at the Custom Cabling segment was due primarily to the increase in sales of hybrid fiber to a tier-1 wireless customer.

The benefit for income taxes was 22% and 32% of loss before income taxes for the fiscal 2022 quarter and the fiscal 2021 quarter, respectively. The change in the effective tax rate from the fiscal 2021 quarter to fiscal 2022 quarter was primarily driven by the disproportionate impact of various permanent book-tax differences with respect to our forecasted book income or loss in each period.

For the fiscal 2022 quarter, net loss was $277,000 and fully diluted loss per share was $0.03 per share, compared to a net loss of $403,000 and fully diluted earnings per share of $0.04 per share for the fiscal 2021 quarter. For the fiscal 2022 quarter, the diluted weighted average shares outstanding was 10,067,186 as compared to 9,864,689 for the fiscal 2021 quarter.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

Not applicable.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)) that are designed to assure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.

In designing and evaluating the disclosure controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide reasonable assurance only of achieving the desired control objectives, and we necessarily are required to apply our judgment in weighing the costs and benefits of possible new or different controls and procedures. Limitations are inherent in all control systems, so no evaluation of controls can provide absolute assurance that all control issues and any fraud have been detected. Because of the inherent limitations, we regularly review our system of internal control over financial reporting and make changes to our processes and systems to improve controls and increase efficiency, and to maintain an effective internal control environment. Changes may include such activities as implementing new, more efficient systems, consolidating activities, and migrating processes.

As required by Exchange Act Rule 13a-15(b), as of the end of the period covered by this report, we, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures. Based on this evaluation, we concluded that our disclosure controls and procedures were effective as of that date.

Changes in Internal Control Over Financial Reporting

During the first quarter of fiscal 2022, there were no changes in the internal control over financial reporting as such term is defined in Rule 13a-15(f) of the exchange Act, that materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Part II. OTHER INFORMATION

Item 1. Legal Proceedings

From time to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business. Litigation is subject to inherent uncertainties, and an adverse result in these or other matters may arise from time to time that may harm our business. As of the date of this report, we are not subject to any proceeding that is not in the ordinary course of business or that is material to the financial condition of our business.

Item 1A. Risk Factors

The discussion of our business and operations should be read together with the risk factors contained in Item 1A of our Annual Report on Form 10-K for the fiscal year ended October 31, 2021 filed with the SEC, which describe various risks and uncertainties to which we are or may become subject. Further, the current coronavirus (“COVID-19”) pandemic and actions taken to address the pandemic may exacerbate the risks described in our reports filed with the Securities and Exchange Commission (the “SEC”). These risks and uncertainties have the potential to affect our business, financial condition, results of operations, cash flows, strategies or prospects in a material and adverse manner.

The acquisition of Microlab will affect both the Company’s liquidity and its capital resources in the near future.

As of January 31, 2022, we had a total of $13.5 million of cash and cash equivalents. On March 1, 2022, we purchased Microlab from Wireless Telecom Group, Inc. for $24,250,000, subject to certain post-closing adjustments. The Company funded $17 million of the cash purchase price from the funds obtained under the term loan it obtained from Bank of America, N.A. (the “Credit Facility Lender”) and paid the remaining amount of the cash purchase price with cash on hand. In order to acquire Microlab, we used $7.3 million of our cash on hand to pay a portion of the purchase price, thereby reducing the amount of cash available for future acquisitions, for investments in the expansion of our existing businesses and assets, or as a reserve for unanticipated financial requirements.

The Company entered into a Loan Agreement to fund its acquisition of Microlab, which may expose the Company and its subsidiaries to additional risks, including risks associated with the inability to repay the loan on a timely basis.

On February 25, 2022, the Company entered into a Loan Agreement with the Credit Facility Lender, which facility provides the Company with a $3 million revolving credit facility (the “Revolving Credit Facility”) and a $17 million term loan (the “Term Loan”, collectively with the “Revolving Credit Facility”, the “Credit Facility”). The Company borrowed the full $17 million amount available under the Term Loan in order to fund the purchase of Microlab. The maturity date of the Term Loan is March 1, 2027. Borrowings under the Credit Facility are guaranteed by the Company and certain of its subsidiaries and secured by all personal property of the Company and certain of its subsidiaries. The Credit Facility requires the maintenance of certain financial covenants, including: (i) consolidated debt to EBITDA ratio not to exceed 3.00 to 1.00; (ii) consolidated fixed charge coverage ratio of at least 1.25 to 1.00; and (iii) consolidated minimum EBITDA of at least $600,000 for the discrete quarter ending January 31, 2022. In addition, the Credit Facility contains customary affirmative and negative covenants. In the event that the Company is unable to pay its obligations on the Credit Facility on a timely basis, maintain the financial covenants under the Loan Agreement or otherwise defaults on its obligations under the Loan Agreement, the Credit Facility Lender will have a right to foreclose on personal property of the Company and certain of its subsidiaries.

Global economic conditions and any related impact on our supply chain and the markets where we do business could adversely affect our results of operations.

The uncertain state of the global economy (including the current conflict between Russia and Ukraine and related economic and other retaliatory measures taken by the United States, European Union and others) continues to impact businesses around the world. Deteriorating economic conditions or financial uncertainty in any of the markets in which we sell our products could reduce business confidence and adversely impact spending patterns, and thereby could adversely affect our sales and results of operations. In challenging and uncertain economic environments such as the current one, we cannot predict whether or when such circumstances may improve or worsen, or what impact, if any, such circumstances could have on our business, financial condition and results of operations, or on the price of our common stock.

Recent inflationary pressures have increased the cost of energy and raw materials and may adversely affect our results of operations. If inflation continues to rise and further impact the cost of energy and raw materials, we may not be able to offset cost increases to our products through price adjustments without negatively impacting consumer demand, which could adversely affect our sales and results of operations.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

The following table sets forth information regarding the shares of common stock cancelled, and deemed to have been repurchased, during the three months ended January 31, 2022 in connection with employee tax withholding for shares of restricted stock that vested under our 2020 Equity Incentive Plan.

Item 3. Defaults upon Senior Securities

Nothing to report.

Item 4. Mine Safety Disclosures

Nothing to report.

Item 5. Other Information

Nothing to report.

Item 6. Exhibits

SIGNATURES

In accordance with the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.