TCCO Technical Communications Corp (CE)

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

Certain statements contained herein or as may otherwise be incorporated by reference herein that are not purely historical constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include but are not limited to statements regarding anticipated operating results, future earnings, and the Company’s ability to achieve growth and profitability. Such forward-looking statements involve known and unknown risks, uncertainties and other factors, including but not limited to the impact of the COVID-19 pandemic (including its duration and severity) and governmental actions in response thereto; the effect of foreign political unrest; domestic and foreign government policies and economic conditions; future changes in export laws or regulations; changes in technology; the ability to hire, retain and motivate technical, management and sales personnel; the risks associated with the technical feasibility and market acceptance of new products; changes in telecommunications protocols; the effects of changing costs, exchange rates and interest rates; and the Company's ability to secure adequate capital resources. Such risks, uncertainties and other factors could cause the actual results, performance or achievements of the Company, or industry results, to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. For a more detailed discussion of the risks facing the Company, see the Company’s filings with the SEC, including its Annual Report on Form 10-K for the fiscal year ended September 24, 2022.

Overview

The Company designs, manufactures, markets and sells communications security equipment that utilizes various methods of encryption to protect the information being transmitted. Encryption is a technique for rendering information unintelligible, which information can then be reconstituted if the recipient possesses the right decryption “key”. The Company manufactures several standard secure communications products and also provides custom-designed, special-purpose secure communications products for both domestic and international customers. The Company’s products consist primarily of voice, data and facsimile encryptors. Revenue is generated principally from the sale of these products, which have traditionally been to foreign governments either through direct sale, pursuant to a U.S. government contract, or made as a sub-contractor to domestic corporations under contract with the U.S. government. We also sell these products to commercial entities and U.S. government agencies. We generate additional revenues from contract engineering services performed for certain government agencies, both domestic and foreign, and commercial entities.

Critical Accounting Policies and Significant Judgments and Estimates

There have been no material changes in the Company’s critical accounting policies or critical accounting estimates since September 24, 2022 and we have not adopted any accounting policies that have had or will have a material impact on our consolidated financial statements. For further discussion of our accounting policies see Note 2, Summary of Significant Accounting Policies and Significant Judgments and Estimates in the Notes to Unaudited Consolidated Financial Statements in this Quarterly Report on Form 10-Q and the Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the fiscal year ended September 24, 2022 as filed with the SEC.

Results of Operations

Three Months ended December 24, 2022 compared to Three Months ended December 25, 2021

Net Revenue

Net revenue for the quarters ended December 24, 2022 and December 25, 2021 was $122,000 and $423,000, respectively, a decrease of $301,000 or 71%. Revenue for the first fiscal quarter of 2023 consisted of $95,000, or 78%, from domestic sources and $27,000, or 22%, from international customers as compared to the same period in fiscal 2022, in which revenue consisted of $343,000 or 81%, from domestic sources and $80,000, or 19%, from international customers. International revenues continued to be impacted by the effects of the Covid-19 pandemic.

Foreign sales consisted of a shipment to one country during the quarters ended December 24, 2022 and December 25, 2021. A sale is attributed to a foreign country based on the location of the contracting party. Domestic revenue may include the sale of products shipped through domestic resellers or manufacturers to international destinations. The table below summarizes our principal foreign sales by country during the first quarters of fiscal 2023 and 2022:

For the three months ended December 24, 2022, revenue was derived from sales of our bulk encryptors to a domestic company amounting to $88,000 and training services to an international company amounting to $27,000.

For the three months ended December 25, 2021, revenue was derived from sales of our engineering services amounting to $343,000 and shipments of our internet protocol data encryptors amounting to $80,000.

Gross Profit (Loss)

Gross loss for the first quarter of fiscal 2023 was $(27,000), compared to gross profit of $67,000 for the same period of fiscal 2022, a decrease of 140%. Gross profit expressed as a percentage of total net revenue was (22%) for the first quarter of fiscal 2023 compared to 16% for the same period in fiscal 2022. This decrease in gross profit expressed as a percentage of total net revenue was primarily due to the very low sales volume fiscal 2023.

Operating Costs and Expenses

Selling, General and Administrative Expenses

Selling, general and administrative expenses for the first quarter of fiscal 2023 were $484,000, compared to $562,000 for the same quarter in fiscal 2022. This decrease of $78,000, or 14%, was attributable to decreases in general and administrative expenses of $22,000 and selling and marketing expenses of $56,000 during the three months ended December 24, 2022.

The decrease in general and administrative expenses for the three months ended December 24, 2022 was primarily attributable to a decreases in payroll and payroll related expenses of $22,000, audit and legal fees of $14,000 and $13,000 respectively. These decreases were partially offset by increases in outside consulting costs of $15,000 and in certification costs of $10,000 during the quarter.

The decrease in selling and marketing expenses for the three months ended December 24, 2022 was primarily attributable to decreases in bid and proposal efforts of $16,000, product demonstration costs of $22,000, outside commissions of $13,000, outside consulting costs of $9,000 and travel expenses of $5,000. These decreases were partially offset by an increase in payroll and payroll related expenses of $12,000 during the quarter.

Product Development Costs

Product development costs for the quarter ended December 24, 2022 were $277,000, compared to $101,000 for the quarter ended December 25, 2021. This increase of $176,000, or 174%, was attributable to a decrease in billable engineering services contracts during the first quarter of fiscal 2023 that resulted in increased product development costs of $219,000. This increase was partially offset by decreases in payroll and payroll-related expenses of $19,000 and outside consulting costs of $13,000 during the period.

The Company actively sells its engineering services in support of funded research and development. The receipt of these orders is sporadic, although such programs can span over several months. In addition to these programs, the Company also invests in research and development to enhance its existing products or to develop new products, as it deems appropriate. There was no engineering services revenue generated during the first quarter of fiscal 2023 and $343,000 of engineering services revenue generated during the first quarter of fiscal 2022.

Product development costs are charged to billable engineering services, bid and proposal efforts or business development activities, as appropriate. Product development costs charged to billable projects are recorded as cost of revenue; engineering costs charged to bid and proposal efforts are recorded as selling expenses; and product development costs charged to business development activities are recorded as marketing expenses.

Net Loss

The Company generated a net loss of $849,000 for the first quarter of fiscal 2023, compared to a net loss of $613,000 for the same period of fiscal 2022. This increase in net loss is primarily attributable to a 140% decrease in gross profit, a 270% increase in interest expense and a 15% increase in operating expense during the first quarter of fiscal 2023.

Liquidity and Capital Resources

Our cash and cash equivalents at December 24, 2022 totaled $59,000.

Liquidity and Ability to Continue as a Going Concern

For the quarter ended December 24, 2022, the Company generated a net loss of $848,600 and for the fiscal years ended September 24, 2022, September 25, 2021 and September 26, 2020, the Company generated net losses of $2,331,139, $1,088,386 and $910,650 and, although the Company generated $631,426 of net income in the fiscal year ended September 28, 2019, the Company suffered recurring losses from operations during the prior seven year period from fiscal 2012 to fiscal 2018. The Company has an accumulated deficit of $7,333,706 at December 24, 2022. These factors continue to raise substantial doubt about the Company's ability to continue as a going concern. Such consolidated financial statements do not include any adjustments to reflect the substantial doubt about the Company’s ability to continue as a going concern.

On August 4, 2022, the Company issued an amended and restated demand promissory note in the principal amount of up to $4,000,000 in favor of Carl H. Guild, Jr. Mr. Guild, the Company’s Chief Executive Officer, President and Chairman of the Board, loaned the money to the Company to provide working capital. The $4,000,000 consists of $1,000,000 previously loaned to the Company at an interest rate of 6% and $2,000,000 previously loaned to the Company at an interest rate of 7.5% and an additional $1,000,000 at an interest rate of 7.5%. The additional funds will be available to the Company to borrow from Mr. Guild on a revolving basis and the loan has no specified term year and may be prepaid at any time without premium or penalty. The outstanding principal balance at December 24, 2022 was $3,725,000, plus accrued interest of $167,000. An interest payment of $30,000 was made in January of 2022.

In December 2022 the Company implemented a partial furlough plan for the majority of salaried employees. This plan reduces the workweek to 24 hours and salaries have been reduced commensurately. In January of 2023 the Company reduced the workweek further to 16 hours. With this furlough plan in place we anticipate that our principal sources of liquidity will be sufficient to fund our activities to February 2023. In order to have sufficient cash to fund our operations beyond that point, we will need to secure new customer contracts, raise additional equity or debt capital, and reduce expenses, including payroll and payroll-related expenses through another employee furlough and/or separations.

In order to have sufficient capital resources to fund operations, the Company has been working diligently to secure several large orders with new and existing customers. The receipt of these orders has been significantly delayed and will continue to be difficult to predict due to the impact of the COVID-19 pandemic on our customers as a result of their operations being reduced or shut down. TCC has been able to maintain its operations during this sustained period of disruption, but a continuation of the disruption in either our customers’ operations or those of the Company will continue to have a material adverse impact on sales activity and revenue.

Since the start of the pandemic, the Company has been able to secure capital in the form of debt financing to assist with funding its operations. On April 17, 2020, the Company was granted a loan from bankHometown under the U.S. Small Business Administration's, or SBA, Paycheck Protection Program, or PPP, in the principal amount of $474,400. The loan, which was evidenced by a note dated April 17, 2020, was payable over 18 months at an annual interest rate of 1% to the extent not forgiven. The Company used the entire original PPP loan amount for qualifying expenses and the SBA forgave the loan in its entirety on January 11, 2021.

On February 1, 2021, the Company received a second loan from bankHometown under the PPP as authorized under the Economic Aid to Hard-Hit Small Businesses, Nonprofits, and Venues Act, or the Economic Aid Act. The loan, evidenced by a promissory note, was in the principal amount of $474,405. The Company used the entire second PPP loan amount for qualifying expenses and the loan was forgiven on August 10, 2021 under the provisions of the Economic Aid Act.

During fiscal year 2020, the Company was granted a loan from the SBA in the principal amount of $150,000 pursuant to the Economic Injury Disaster Loan program. This loan is payable monthly over 30 years at an annual interest rate of 3.75%. Although originally repayable commencing one year after grant, on March 15, 2022 the SBA announced that payments on the SBA Loan would be deferred an additional six months. The Company initiated making monthly payments in December 2022.

The Company is working diligently to secure additional capital through equity or debt arrangements in addition to the recent funding received from the SBA and Mr. Guild. The Company is actively working with equity investors as well as debt investors, such as the SBA and Mr. Guild to secure additional funding, although we cannot provide assurances we will be able to secure such new funding, especially in light of the tightening of the credit markets and continuing volatility of the capital markets as a result of the coronavirus. Moreover, the Company’s common stock was delisted from the Nasdaq Capital Market effective January 25, 2021; while our common stock is quoted on the OTC Bulletin Board, the change in listing may have a negative impact on the liquidity of the stock and the Company’s ability to raise capital through offerings of its equity securities.

Should the Company be unsuccessful in these efforts, it would be forced to implement headcount reductions, additional employee furloughs and/or reduced hours for certain employees, or cease operations completely.

Company Facilities

On April 1, 2014, the Company entered into a lease for its current facilities. This lease is for 22,800 square feet located at 100 Domino Drive, Concord, MA. The Company has been a tenant in this space since 1983. This is the Company’s only facility and houses all manufacturing, research and development, and corporate operations. The initial term of the lease was for five years through March 31, 2019 at an annual rate of $171,000. In addition, the lease contains options to extend the lease for two and one-half years through September 30, 2021 and another two and one-half years through March 31, 2024 at an annual rate of $171,000. In September 2018, the Company exercised its option to extend the term of the lease through September 2021. In March 2021, the Company exercised the second option and the new term will run until March 30, 2024. The lease expense for each of the three month periods ended December 24, 2022 and December 25, 2021 was $43,000.

Debt Instruments

On August 4, 2022, the Company issued an amended and restated demand promissory note in the principal amount of up to $4,000,000 in favor of Carl H. Guild, Jr. Mr. Guild, the Company’s Chief Executive Officer, President and Chairman of the Board, loaned the money to the Company to provide working capital. The $4,000,000 consists of $1,000,000 previously loaned to the Company at an interest rate of 6% and $2,000,000 previously loaned to the Company at an interest rate of 7.5% and an additional $1,000,000 at an interest rate of 7.5%. The additional funds will be available to the Company to borrow from Mr. Guild on a revolving basis and the loan has no specified term year and may be prepaid at any time without premium or penalty. The outstanding principal balance at December 24, 2022 was $3,725,000, plus accrued interest of $167,000. An interest payment of $30,000 was made in January of 2022.

On August 10, 2020, the Company also was granted a loan (the “SBA Loan”) from the SBA in the principal amount of $150,000 pursuant to the Economic Injury Disaster Loan program. The SBA Loan, which is evidenced by a Promissory Note dated August 10, 2020, is payable in monthly installments of $731, including principal and interest, over 30 years at an interest rate of 3.75% per year. The SBA Loan may be prepaid by the Company at any time prior to maturity with no prepayment penalties. The proceeds from this loan must be used solely as working capital to alleviate economic injury caused by the Covid-19 pandemic. Although originally repayable commencing one year after grant, on March 15, 2022 the SBA announced that payments on the SBA Loan would be deferred an additional six months. The Company initiated making monthly payments in December 2022.

Backlog

Backlog at December 24, 2022 and September 24, 2022 amounted to $32,000 and $80,000, respectively. The orders in backlog at December 24, 2022 are expected to ship and/or services are expected to be performed over the next nine months depending on customer requirements and product availability.

Performance guaranties

Certain foreign customers require the Company to guarantee bid bonds and performance of products sold. These guaranties typically take the form of standby letters of credit. Guaranties are generally required in amounts of 5% to 10% of the purchase price and last in duration from three months to one year. At December 24, 2022 and September 25, 2021, the Company had no outstanding letters of credit.

Research and development

Research and development efforts are undertaken by the Company primarily on its own initiative. In order to compete successfully, the Company must improve existing products and develop new products, as well as attract and retain qualified personnel. No assurances can be given that the Company will be able to hire and train such technical management and sales personnel or successfully improve and develop its products.

During the three month periods ended December 24, 2022 and December 25, 2021 the Company spent $277,000 and $101,000, respectively, on internal product development. The Company also spent $219,000 on billable development efforts during the first three months of fiscal 2022. The Company’s total product development costs during the first three months of fiscal 2023 were consistent with the same period in fiscal 2022 and in line with its planned commitment to research and development, and reflected the costs of custom development, product capability enhancements and production readiness. It is expected that total product development expenses will remain lower until we secure a new billable research and development contract.

It is anticipated that cash from operations will fund our near-term research and development and marketing activities. We also believe that, in the long term, based on current billable activities, cash from operations will be sufficient to meet the development goals of the Company, although we can give no assurances. Any increase in development activities - either billable or new product related - will require additional resources, which we may not be able to fund through cash from operations. In circumstances where resources will be insufficient, the Company will look to other sources of financing, including debt and/or equity investments; however, we can provide no guarantees that we will be successful in securing such additional financing.

Other than those stated above, there are no plans for significant internal product development or material commitments for capital expenditures during the remainder of fiscal 2023.

New Accounting Pronouncements

Recent accounting pronouncements were issued by the FASB (including its Emerging Issues Task Force) and the SEC during the first three months of the Company’s 2023 fiscal year but such pronouncements are not believed by management to have a material impact on the Company’s present or future financial statements.

Off-Balance Sheet Arrangements

The Company does not have any off-balance sheet arrangements.