BUKS Butler National Corp (QX)

ITEM 2.          MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

THROUGHOUT THIS ITEM 2 ALL NON TABULAR FINANCIAL RESULTS ARE PRESENTED IN THOUSANDS OF U.S. DOLLARS EXCEPT WHERE MILLIONS OF DOLLARS IS INDICATED.

Forward-Looking Statements

Statements made in this report, other reports and proxy statements filed with the Securities and Exchange Commission, communications to stockholders, press releases, and oral statements made by representatives of the Company that are not historical in nature, or that state the Company or management intentions, hopes, beliefs, expectations or predictions of the future, may constitute "forward-looking statements" within the meaning of Section 21E of the Securities and Exchange Act of 1934, as amended (the "Exchange Act"). Forward-looking statements can often be identified by the use of forward-looking terminology, such as "could," "should," "will," "intended," "continue," "believe," "may," "expect," "hope," "anticipate," "goal," "forecast," "plan," "guidance" or "estimate" or the negative of these words, variations thereof or similar expressions. Forward-looking statements are not guarantees of future performance or results. They involve risks, uncertainties, and assumptions. It is important to note that any such performance and actual results, financial condition or business, could differ materially from those expressed in such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in Item 1A (Risk Facotrs) of the Annual Report on Form 10-K for the fiscal year ended April 30, 2019, and elsewhere herein or in other reports filed with the SEC. Other unforeseen factors not identified herein could also have such an effect. We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes in future operating results, financial condition or business over time.

The forward-looking statements in this report are only predictions and actual events or results may differ materially. In evaluating such statements, a number of risks, uncertainties and other factors could cause actual results, performance, financial condition, cash flows, prospects and opportunities to differ materially from those expressed in, or implied by, the forward-looking statements. These risks, uncertainties and other factors include those set forth in Item 1A (Risk Factors) of the Annual Report on Form 10-K for the fiscal year ended April 30, 2019, including the following factors:

Except as expressly required by the federal securities laws, the Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise after the date of this report. Results of operations in any past period should not be considered indicative of the results to be expected for future periods. Fluctuations in operating results may also result in fluctuations in the price of the Company's common stock.

Investors should also be aware that while the Company, from time to time, communicates with securities analysts; it is against its policy to disclose any material non-public information or other confidential commercial information. Accordingly, shareholders should not assume that the Company agrees with any statement or report issued by any analyst irrespective of the content of the statement or report. Furthermore, the Company has a policy against issuing or confirming financial forecasts or projections issued by others. Thus, to the extent that reports issued by securities analysts contain any projections, forecasts or opinions, such reports are not the responsibility of Butler National Corporation.

Management Overview

Management is focused on increasing long-term shareholder value from increased cash generation, earnings growth, and prudently managing capital expenditures. We plan to do this by continuing to drive increased revenue from product and service innovations, strategic acquisitions, and targeted marketing programs.

We have two separate reporting segments: Aerospace Products and Professional Services. Aerospace Products and Professional Services do not share the same customers and suppliers and have substantially distinct businesses. The Aerospace Products operating segment provides products and services in the aerospace industry. Companies in Aerospace Products derive their revenue from system design, engineering, manufacturing, integration, installation, repairing, overhauling, servicing and distribution of aerostructures, avionics, aircraft components, accessories, subassemblies and systems. The Professional Services operating segment provides services in the gaming industry. Professional Services companies manage a gaming and entertainment facility and provide architectural and engineering services. These reporting segments operate through various subsidiaries and affiliates listed in the Company’s fiscal year 2019 Annual Report on Form 10-K.

Aerospace Products. The Aerospace Products segment includes the manufacture, sale and service of electronic equipment and systems and technologies to enhance and support products related to aircraft. Additionally, we also operate several Federal Aviation Administration (the "FAA") Repair Stations. Companies in Aerospace Products concentrate on Learjets, Beechcraft King Air, Cessna turbine engine, Cessna multi-engine piston and Dassault Falcon 20 aircraft. Specifically, the design, distribution and support for products for older aircraft, or “Classic” aircraft are areas of focus for companies in Aerospace Products.

Products. The products that the companies within this group design, engineer, manufacture, integrate, install, repair and service include:

Modifications. The companies in Aerospace Products have authority pursuant to Federal Aviation Administration Supplemental Type Certificates (“STCs”) and Parts Manufacturer Approval (“PMA”), to build required parts and subassemblies and to make applicable installations. Companies in Aerospace Products perform modifications in the aviation industry including:

Special Mission Electronics. We supply defense-related, commercial off-the-shelf products to various commercial entities and government agencies and subcontractors in order to update or extend the useful life of aircraft with older components and technology. These products include:

Professional Services. The Professional Services segment includes the management of a gaming facility and related dining and entertainment facilities in Dodge City, Kansas. Boot Hill Casino and Resort features approximately 640 slot machines and 20 table games. Companies in Professional Services also provide licensed architectural services, including commercial and industrial building design, and engineering services.

Boot Hill. Butler National Service Corporation (“BNSC”), via BHCMC, LLC (“BHCMC”), a company in Professional Services, has managed The Boot Hill Casino and Resort in Dodge City, Kansas (“Boot Hill”) since 2009 pursuant to the Lottery Gaming Facility Management Contract, by and among BNSC, BHCMC and the Kansas Lottery, originally dated December 8, 2009, as subsequently amended (“Boot Hill Agreement”). As required by Kansas law, all games, gaming equipment and gaming operations at Boot Hill are owned and operated by the Kansas Lottery.

The Stables. From 1998 until 2018, Butler National Service Corporation, a company in Professional Services and our wholly-owned subsidiary, managed a Modoc Tribe of Oklahoma owned casino known as The Stables Casino in Miami, Oklahoma (“The Stables”) pursuant to the Stables Management Agreement originally dated December 12, 1996 and approved by the NIGC on January 14, 1997 as subsequently amended (the “Stables Agreement”). Under the terms of the Stables Agreement, BNSC received twenty percent (20%) of the net profits from The Stables. The Stables Agreement expired on September 30, 2018, and was not renewed.

Architectural and Engineering Services. Companies in Professional Services provide licensed architectural, including commercial and industrial building design, and engineering services.

Results Overview

The three months ending July 31, 2019 revenue increased 27% to $17.0 million compared to $13.4 million in the three months ending July 31, 2018. In the three months ending July 31, 2019 the professional services revenue was $8.1 million compared to $7.9 million in the three months ending July 31, 2018, an increase of 2%. In the three months ending July 31, 2019 the Aerospace Products revenue was $8.9 million compared to $5.5 million in the three months ending July 31, 2018, an increase of 63%.

The three months ending July 31, 2019 net income increased to $2.1 million compared to a net income of $509 in the three months ending July 31, 2018.  The three months ending July 31, 2019, operating income increased to $3.5 million, from an operating income of $901 in the three months ending July 31, 2018.

Revenue:

Revenue increased 27% to $17.0 million in the three months ended July 31, 2019, compared to $13.4 million in the three months ended July 31, 2018. See "Operations by Segment" below for a discussion of the primary reasons for the increase in revenue.

Costs and expenses:

Costs and expenses related to Professional Services and Aerospace Products include the cost of engineering, labor, materials, equipment utilization, control systems, security and occupancy.

Costs and expenses increased 8% in the three months ended July 31, 2019 to $13.5 million compared to $12.5 million in the three months ended July 31, 2018. Costs and expenses were 79% of total revenue in the three months ended July 31, 2019, as compared to 93% of total revenue in the three months ended July 31, 2018.

Costs of Professional Services decreased 20% in the three months ended July 31, 2019 to $3.9 million compared to $4.8 million in the three months ended July 31, 2018. Costs were 23% of total revenue in the three months ended July 31, 2019, as compared to 36% of total revenue in the three months ended July 31, 2018.

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Costs of Aerospace Products increased by 20% in the three months ended July 31, 2019 to $5.0 million compared to $4.1 million for the three months ended July 31, 2018. Costs were 29% of total revenue in the three months ended July 31, 2019, as compared to 31% of total revenue in the three months ended July 31, 2018.

Marketing and advertising expenses increased by 13% in the three months ended July 31, 2019, to $1.1 million compared to $975 in the three months ended July 31, 2018. Expenses were 7% of total revenue in the three months ended July 31, 2019, as compared to 7% of total revenue in the three months ended July 31, 2018. Marketing and advertising expenses include advertising, sales and marketing labor, gaming development costs, and casino and product promotions.

Employee benefits expenses as a percent of total revenue was 3% in the three months ended July 31, 2019, compared to 4% in the three months ended July 31, 2018. These expenses increased to $547 in the three months ended July 31, 2019, from $505 in the three months ended July 31, 2018. These expenses include the employers' share of all federal, state and local taxes, paid time off for vacation, holidays and illness, employee health and life insurance programs and employer matching contributions to retirement plans.

Depreciation and amortization expenses as a percent of total revenue was 7% in the three months ended July 31, 2019, compared to 3% in the three months ended July 31, 2018. These expenses increased 219% to $1.2 million in the three months ended July 31, 2019, from $388 in the three months ended July 31, 2018. These expenses include depreciation related to owned assets being depreciated over various useful lives and amortization of intangible items including the Kansas privilege fee related to the Boot Hill Casino being expensed over the term of the gaming contract with the State of Kansas. BHCMC, LLC depreciation and amortization expense for the three months ended July 31, 2019 was $938 compared to $245 in the three months ended July 31, 2018.

General, administrative and other expenses as a percent of total revenue was 10% in the three months ended July 31, 2019, compared to 12% in the three months ended July 31, 2018. These expenses increased 5% to $1.8 million in the three months ended July 31, 2019, from $1.7 million in the three months ended July 31, 2018.

Other income (expense):

Interest expense and other income were $(568) in the three months ended July 31, 2019, compared with interest expense and other income of $209 in the three months ended July 31, 2018.  Interest related to obligations of BHCMC, LLC was $1.0 million in the three months ended July 31, 2019 compared to $29 in the three months ended July 31, 2018.

Operations by Segment

We have two operating segments, Professional Services and Aerospace Products. The Professional Services segment includes revenue contributions and expenditures associated with casino management services and professional architectural, engineering and management support services. Aerospace Products derives its revenue by designing, engineering, manufacturing, installing, servicing and repairing products for classic and current production aircraft.

The following table presents a summary of our operating segment information for the three months ended July 31, 2019 and July 31, 2018:

Professional Services

Aerospace Products

Employees

Other than persons employed by our gaming subsidiaries there were 102 full time and 5 part time employees on July 31, 2019, compared to 93 full time and 6 part time employees on July 31, 2018. As of September 6, 2019, staffing is 99 full time and 5 part time employees. Our staffing at Boot Hill Casino & Resort on July 31, 2019 was 192 full time and 67 part time employees compared to 186 full time and 66 part time employees on July 31, 2018. At September 6, 2019 there are 197 full time and 63 part time employees. None of the employees are subject to any collective bargaining agreements.

Liquidity and Capital Resources

We believe that our current banks will provide the necessary capital for our business operations. However, we continue to maintain contact with other banks that have an interest in funding our working capital needs to continue our growth in operations in fiscal 2019 and beyond.

The ownership structure of BHCMC, LLC is now:

Our wholly owned subsidiary, Butler National Service Corporation continues friendly discussions with the other member of BHCMC, LLC to explore the possible acquisition by Butler National Service Corporation of the other member's 20% equity interest in BHCMC, LLC.   If and when a definitive agreement is reached, such definitive agreement and a press release concerning the acquisition will be issued to describe the terms of the agreement and the intentions of the members.   We have not set a definitive timetable for our discussions and there can be no assurances that the process will result in any transaction being announced or completed.  At present there is no disagreement between the members of BHCMC, LLC.   We do not plan to disclose or comment on developments until further disclosure is deemed appropriate.

BHCMC, LLC, rents the casino building under the terms of a 25 year lease from BHC Development L.C. ("BHCD"). Butler National Service Corporation continues friendly discussions with BHC Development L.C. to explore the possible acquisition by Butler National Service Corporation of the casino building and related land. If and when a definitive agreement is reached, such definitive agreement and press release concerning the acquisition will be issued to describe the terms of the agreement and the intentions of the members. Butler National Corporation, its management, and its subsidiaries have no ownership interest in BHCI or BHCD.
 
Analysis and Discussion of Cash Flow

During the three months ended July 31, 2019 our cash position increased by $1.2 million. Net income was $2.2 million for the three months ended July 31, 2019. Cash flows provided by operating activities was $1.1 million for the three months ended July 31, 2019. Non-cash activities consisting of depreciation and amortization provided $1.6 million, while a gain on sale of an airplane used $529. Customer deposits increased our cash position by $190. Inventories decreased our cash position by $374. Accounts receivable decreased our cash position by $2.1 million. Gaming facility mandated payments decreased our cash position by $305. Prepaid expenses and other assets decreased our cash by $100. A decrease in accounts payable, a decrease in accrued expenses, and an increase in other current liabilities decreased our cash by an additional $179. Income tax payable increased our cash position by $735.

Cash provided by investing activities was $917 for the three months ended July 31, 2019. We invested $58 in furniture and fixtures. We received $975 in proceeds for the sale of an airplane.

Cash used in financing activities was $823 for the three months ended July 31, 2019. We made repayments on our debt of $556. We reduced our financed lease liability by $224. We purchased company stock of $43. The stock was acquired and placed in treasury.

Critical Accounting Policies and Estimates

We believe that there are several accounting policies that are critical to understanding our historical and future performance, as these policies affect the reported amount of revenue and other significant areas involving management judgments and estimates. These significant accounting policies relate to revenue recognition, the use of estimates, long-lived assets, and Supplemental Type Certificates. These policies and our procedures related to these policies are described in detail below and under specific areas within this "Management's Discussion and Analysis of Financial Condition and Results of Operations."

Revenue Recognition: See footnote 3 to the condensed consolidated financial statements.

Finance Lease Right-of-Use: See footnote 11 to the condensed consolidated financial statements.

Use of Estimates: The preparation of financial statements in conformity with generally accepted accounting principles (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Future events and their effects cannot be determined with certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results could differ from those estimates, and any such differences may be material to our financial statements.

Significant estimates include assumptions about collection of accounts receivable, inventory obsolescence, the valuation of long-lived assets, including the STC’s, valuation for deferred tax assets and useful life of fixed and other long-term assets.

Long-lived Assets: The Company accounts for its long-lived assets in accordance with ASC Topic 360-10, "Accounting for the Impairment or Disposal of Long-Lived Assets." ASC Topic 360-10 requires that long-lived assets be reviewed for impairment whenever events or changes in circumstances indicate that the historical cost carrying value of an asset may no longer be appropriate. The Company assesses recoverability of the carrying value of an asset by estimating the future net cash flows expected to result from the asset, including eventual disposition. If the future net cash flows are less than the carrying value of the asset, an impairment loss is recorded equal to the difference between the asset's carrying value and fair value or disposable value.

Supplemental Type Certificates: Supplemental Type Certificates (STCs) are authorizations granted by the Federal Aviation Administration (FAA) for specific modification of a certain aircraft. The STC authorizes us to perform modifications, installations, and assemblies on applicable customer-owned aircraft. Costs incurred to obtain STCs are capitalized and subsequently amortized over a seven year life. The legal life of an STC is indefinite.

Changing Prices and Inflation

We have experienced upward pressure from inflation in fiscal year 2020. From fiscal year 2019 to fiscal year 2020 most of the increases we experienced were in material costs. This additional cost may not be transferable to our customers resulting in lower income in the future. We anticipate fuel costs and possibly interest rates to rise in fiscal 2020 and 2021.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements.