Good day, and welcome to the Precision Optics Reports Second Quarter of Fiscal Year 2022 Financial Results. All participants will be in a listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Mr.

Robert Blum with Lytham Partners. Please go ahead, sir..

Statements made by the management team of Precision Optics during the course of this conference call may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended, and Section 21E of the Securities Exchange Act of 1934 as amended, and such forward-looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements describe future expectations, plans, results, or strategies, and are generally preceded by words such as may, future, plan or planned, will or should, expected, anticipates, draft, eventually or projected.

Listeners are cautioned that such statements are subject to a multitude of risks and uncertainties that could cause future circumstances, events or results to differ materially from those projected in the forward-looking statements, including the risk that actual results may differ materially from those projected in the forward-looking statements as a result of various factors and other risks identified in the Company's filings with the Securities Exchange Commission.

All forward-looking statements contained during this conference call speak only as of the date in which they were made and are based on management's assumptions and estimates as of such date.

The Company does not undertake any obligation to publicly update any forward-looking statements, whether as a result of the receipt of new information, the occurrence of future events or otherwise. So with that said, let me turn the call over to Dr. Joe Forkey, Chief Executive Officer of Precision Optics. Joe, please proceed..

Thank you, Robert, and thank you all for joining our call today to discuss our second quarter fiscal year 2022 financial results.

This is an exciting call for us as we report results of the first quarter, that includes Lighthouse Imaging, but also as we report and the growth in a number of key aspects of our business that should lead to strong performance in the back half of fiscal 2022 and beyond.

We also announced today that we intend to uplist our stock on to the NASDAQ Capital Market. And so in addition to filing our 10-Q today, we also filed a preliminary proxy and anticipation of our annual meeting, which is scheduled for April 8.

We are very excited about this milestone of our growth and development and the benefits this change should bring to our shareholders. So let me talk for a minute about our plans to uplist before we get into our second quarter financial results.

With the recent acquisition of Lighthouse Imaging and the positive developments in many pipeline projects, some of which I'll talk about in a minute, we have decided it's the right time to pursue listing of our stock on the NASDAQ Capital Market.

We believe that this move will make transactions in our stock easier for existing shareholders and will likely broaden significantly the population of prospective investors in our stock. Overall, this should improve the liquidity in the trading of our shares again, making them more attractive to investors.

We believe this move is an important step in the growth and maturation of our company. There are several requirements for listing on the NASDAQ Capital Market, among them are the need for a minimum share trading price of $3 and the need to have recently had an annual meeting.

We have already submitted the application to NASDAQ for listing on the Capital Market and our expectation absent any unforeseen complication in meeting listing criteria is to be able to complete uplisting quickly following the annual meeting.

Our proxy that we filed today includes a motion to allow our Board of Directors to effect a reverse stock split, if they deem that it is necessary to satisfy NASDAQ's requirement of a minimum share price of $3. We have included in the shareholder proposal a range of reverse split ratios.

If it is necessary to execute a reverse split, our intention is to use the lowest ratio possible to meet the listing criteria. The other items on the proxy are typical housekeeping requirements for a company and our situation.

It is really gratifying to be planning our first annual meeting in a long time and to be pursuing the goal of listing on NASDAQ. We have always appreciated the support of our shareholders and believe this step will benefit them as well as the company as a whole.

Now let me get back to our operations, starting with a brief summary of our second quarter results and some recent business developments. Overall revenue for the second quarter was $3.9 million, which was up 40% year-over-year and 67% quarter-over-quarter.

We experienced solid growth organically as well as contributions from our newly acquired Lighthouse Imaging division. Organic growth was up 16% sequentially and we recognized revenue of approximately $1.2 million from Lighthouse during the second quarter.

The quarter-over-quarter increase in organically generated revenue was the result of a strong rebound of our engineering operations combined with solid growth in production revenue. Beyond these second quarter results, we are optimistic about the rest of the fiscal year.

This optimism is based on the receipt of a large new production contract from a major defense aerospace customer along with notification we received just two weeks ago that one of our medical device projects finally received FDA clearance. Both of these projects were in our pipeline for the last couple of years and now are on the verge of production.

Let me provide a little more information regarding the new customer we announced last week. We received a $1.5 million production order from a large defense aerospace company. I have discussed this project on many of our recent earnings calls as we work through multiple rounds of technical negotiation and pre-production prototype deliveries.

The team at Precision Optics has done an incredible job, meeting the highly technical and challenging specifications required of this application. I want to emphasize that this effort included employees from multiple departments in our company, including our Ross Optical division.

I have mentioned previously that this is exactly the kind of customer and contract we expected we would be able to attract after the acquisition of Ross Optical, and it's a great model for future opportunities in the defense and aerospace market. The initial order is scheduled to be delivered over approximately six months.

Based on discussions with our customer, the clear intent is for this to be an ongoing production program with delivery rates equal to or potentially greater than those of this first order. These expectations are strongly supported by our customer's long-term deployment schedule for their systems that utilize the products we provide.

This implies roughly a $3 million annual run rate for the products covered in this initial order. In addition, we continue to work on the development of other products with this customer. Some of these are in early stages of development, while others have already been realized in prototype form and could lead to production in the next 12 months.

Overall, based on everything we have seen and heard from this customer and on the development work already completed, we expect this customer is likely to represent new revenue of several million dollars annually to POC.

The second recent development is the 510(k) clearance from the FDA that our customer for the five-camera colonoscope finally received two weeks ago. On each of the last few earnings calls, I commented that we and our customer expected 510(k) clearance any time.

While it has taken much longer for this clearance than any of us expected, it's still a great milestone. We are currently working with this customer to determine firm volumes per production camera modules to support the launch of their product into the clinical marketplace.

We also continued to see a nice recovery of our other matured products that were delayed due to COVID. The order we announced on our last earnings call for the defense product that was delayed due to the pandemic is now well underway. We expect this order to contribute to an increase in production revenue during the next four quarters.

And the customer for our production otoscopy device, which was also stalled due to the pandemic, has recently asked us for updated quotations. They are currently evaluating supply chain issues for other parts of the system, but have told us that they intend to place new orders soon.

Coming off of a second quarter with growing revenue levels in our Engineering and Production segments combined with the new defense aerospace contract, 510(k) clearance of our customers five camera colonoscope and continuing recovery of mature product orders that had been delayed by the pandemic, we expect significant growth in business levels going forward.

Layering on top of this, the positive developments at our newly acquired Lighthouse division, which has multiple products poised to launch into production, gives us confidence, we will see a significant step up in our overall revenue and bottom line performance in Q3 and Q4 of this fiscal year and beyond.

This is extremely gratifying considering the challenging business environment we have worked in over the last couple of years, and I see it as a great testament to the hard work, dedication and tenacity of all of our employees. The integration of Lighthouse Imaging in Precision Optics is going very well.

It has always been our plan to have the sales team quickly integrate, so we would begin to communicate a common message to customers immediately after the deal.

This effort is going well, and we are now presenting the three operations as three divisions of one company with a combined capabilities footprint broad enough to take on more extensive medical device and defense aerospace projects.

Our first joint visit in presentation in mid-December has led to ongoing discussions with a potentially significant customer in the medical device space. And in April, we will co-exhibit for the first time in one integrated booth at the MD&M WEST show in Anaheim, California.

We expect the combined sales efforts will lead to new engineering pipeline projects that depend heavily on the combined capabilities of POC and Lighthouse Imaging.

In the meantime, our individual engineers are finding many opportunities to work together on existing projects with cooperation on many aspects of projects that one division or the other would have outsourced in the past.

In particular, there are five existing customer development programs, three that came from Lighthouse and two that came from Precision Optics for which joint cooperation has already yielded significant positive results.

Behind the scenes, our Accounting Department, HR Management and IT Consultants have all been working diligently to provide an integrated platform of resources that will encourage and streamline interdivisional collaboration and increase overall corporate efficiency.

All-in-all, I am very pleased with the progress we have made, and I am encouraged by the environment of excitement, collaboration and positive attitude of our employees who also see the benefits of the combination.

Getting back to our operational results in the second quarter, our overall production revenue was up 22% quarter-over-quarter and 17% year-over-year. Excluding the contributions from Lighthouse Imaging, production revenue was up 4% and 9%, respectively.

I have already commented that the order for our production defense product, which was delayed by the pandemic, is now back up and running smoothly. I have also already mentioned that our otoscopy customer has told us they intend to restart production order soon.

The third major production program that had been impacted by the pandemic is the cardiac endoscope project. We continue to manufacture this product at a reduced rate, but we have heard positive news from our customer that the demand for their product is recovering nicely.

We expect that they will place a reorder for this product over the next few months in time to allow us to continue production when the current order runs out at the end of this year. For all three of these pandemic impacted programs, we are seeing a steady recovery.

Adding to that, a growing backlog for existing products and for products deployed by our Ross Optical and Lighthouse Imaging divisions, along with the impact of the $1.5 million order for the new defense aerospace product gives us confidence, we will see significant growth in production revenues in coming quarters.

Transitioning to our engineering pipeline, I'll start with the same comment I've made in the last couple of earnings calls, which is that our pipeline in the volume of new opportunities, especially as a combined company, is larger than any time in the past.

This is reflected in the strong engineering revenue levels we posted in the second quarter, which were up 93% year-over-year and 233% quarter-over-quarter. You may recall that in the first quarter we had some issues with allocation of engineering resources to non-revenue bearing activities for our single-use ophthalmic endoscope.

I am pleased to report that the steps we took towards the end of the first quarter rectified this issue, and in the second quarter engineering revenues, even without the increased attributable to the merger were up 89% over the first quarter. The single-use ophthalmoscope project continues to move forward with urgency on the part of our customer.

While we have completed many of the major milestones required for this program, our customer is working through a few items with other suppliers that will likely result in the project being pushed back a quarter or two from the estimates I've reported in previous calls.

At the moment, we are anticipating a potential production order in late calendar 2022 with product launch in calendar 2023.

While executing on this program, we continue to not only generate engineering revenue and pave the way for long-term production, we also continue to benefit from the experience of bringing a single-use project all the way from the conception stage to full production.

The experience and understanding we are gaining about the business requirements of single-use product as well as the tangible IP and intangible know-how will allow us to better develop a long-term strategy to address the large and rapidly growing single-use segment of the medical device market.

Many of our development programs that are slated to transition to production in the next 12 months come from our merger with Lighthouse Imaging. The system that is farthest along the development process is a highly complex optical and electronic assembly for imaging in the ENT space.

This product completed regulatory clearance before the pandemic was stalled during the pandemic, but now is proceeding with manufacturing transfer and scale up. We expect this product could fully transition to production in just the next couple months.

The next two products in the Lighthouse pipeline are custom orthopedic endoscopes, each designed for a specific surgery.

One of these which will be a single-use product is currently undergoing a major verification and validation build process, where we will fabricate a few hundred units to demonstrate that the design and process will support high volume production. The other orthopedic scope is used for a different surgery and is designed for resterilization and reuse.

Prototypes have been successfully fabricated and tested by both Lighthouse and our customer. We are currently building a pilot production lot while our customer finalizes their application to the FDA for 510(k) clearance.

Another Lighthouse project expected to launch in the next 12 months is a custom high-definition fully articulating surgical robotic camera. We have already completed prototypes of this highly sophisticated system, which our customer has successfully tested in human clinical trials.

This customer has a well funded startup company that recently completed round C financing for nearly $50 million to bring their product to full commercial launch. We are confident that the product we are building will be part of that launch, which is currently slated for later this calendar year.

While our engineering pipeline is too large for me to summarize all of the programs during this call, I hope that these examples give you an idea of the breadth of opportunities we are pursuing.

Each one of these can contribute on the order of $1 million of revenue in the first year of production and many have the potential to grow to much larger production levels over time. As I've said in the past, the key to our long-term growth is a large and robust pipeline.

And with the merger of POC and Lighthouse, our pipeline is as large as it has ever been and is filled with high quality programs with a high likelihood of transitioning to production. I'll now summarize and comment on some of the specific items of our income statement and balance sheet.

On the topline, as I've already mentioned, revenue during the second quarter of fiscal year 2022 was $3.9 million, an increase of 40% year-over-year and 67% sequentially. Production revenue was $2.3 million, while engineering revenue was $1.6 million.

Even excluding Lighthouse, this was the highest production revenue in the last five quarters and as I mentioned, should continue to grow from here. Our gross margin was 29% for the second quarter compared to 27% in the sequential first quarter and 31% in the second quarter a year-ago.

Moving forward as we begin to deliver on our new defense aerospace contract and as more projects move to production, we expect to get closer to full absorption of production resources and to see margins move closer to our target of 40%. Operating expenses in Q2 were $1.6 million.

On a cash basis, excluding depreciation and amortization as well as stock-based compensation, non-acquisition-related operating expenses were approximately $1.2 million compared to approximately $900,000 for the previous quarter.

This increase is due primarily to the inclusion of Lighthouse expenses, but also to the ramping backup of certain sales and marketing initiatives, such as trade shows.

We expect some modest increase in operating expense going forward as we continue to make investments in the integration of the combined company, but these will be limited both in size and scope. All told, on the net income line, we reported a GAAP net loss of $507,000 during the second quarter with an adjusted EBITDA loss of only $73,000.

Adjusted EBITDA excludes acquisition costs, stock-based compensation, interest expense, depreciation and amortization. Again, with the expected step up in revenue for the second half of the year, we are expecting to be adjusted EBITDA profitable during Q3 and Q4. Turning now to our balance sheet. I'll highlight just a couple of lines.

First, our cash balance at December 31, 2021 was $1,263,000. The biggest change on the asset side of our balance sheet is the inclusion of goodwill from the Lighthouse acquisition.

On the liability side of the ledger, you will notice that we now have two items that are also related to the acquisition, one for long-term debt and the other for acquisition earn-out liabilities. These are spread over both current and long-term liabilities.

All other movements on the balance sheet primarily relate to the inclusion now of Lighthouse and the associated impact on items such as AR, AP, et cetera. Before I take questions, I always like to recap the major elements of our strategic plan that we put in place a couple years ago and have discussed on recent calls.

First, grow our sales capacity and capabilities. This has resulted in the large increase of our engineering pipeline in an overall increase in revenue even as we work through the pandemic. Second, invest in our technical resources and develop our own intellectual property.

We have been building our technical team for a couple years now and continue to do so today. With the addition of Lighthouse, we have taken a significant leap forward in our technical capability. Third, invest in and update our production capabilities.

A great example of this is the production facility we recently set up specifically for the manufacturer of our single-use ophthalmic endoscope and the tools and fixtures we developed that can be used for other single-use projects. And fourth, augment our own skills and programs via external partnerships or acquisition.

Clearly, the acquisition of Lighthouse was a significant event that combines two of the industry's leaders in medical optics and digital imaging. Overall, I am extremely pleased with the current progress of Precision Optics as well as our position for future growth.

With a major new order in hand, additional programs poised to move from development into production, with pandemic delayed programs restarting and with the merger with Lighthouse positioning us as one of the premier optical and imaging solution providers in the industry, we are optimistic that we will see significant growth in the second half of fiscal 2022 and beyond.

With great confidence in the future, I'm pleased that we are able to restart annual meetings and to begin the process of listing our stock on the NASDAQ Capital Market. One final note, we will be participating in the Lytham Spring 2022 Investor Conference on April 4 through 7.

I look forward to speaking with many of you then, but as always in the meantime, please don't hesitate to reach out to Robert Blum or to me to schedule a call. I thank you all for your time today, and I'd be happy to answer any questions now..

Thank you. We will now begin the question-and-answer session. The first question will come from Michael Potter with Monarch Capital Group. Please go ahead..

Hey, Joe. Congratulations on a very good quarter and obviously a lot going on in moving the company forward..

Yes. Thanks, Michael..

Just a couple of follow-up questions.

On the single-use side, there's two projects, it sounds like that are moving forward?.

Yes. So you caught that. So we have the project that I've been talking about for a number of quarters now, which is the project that came through POC, through historic POC, I would say. But it's true that now with the acquisition of Lighthouse, they have a project that they had been working on and that they're continuing to work on.

That also is looking like it could go into production in the next 12 months. I will just add that beyond that we have a handful of additional single-use projects that we are engaged in discussions with customers on, which would represent additional pipeline projects.

Some of these we've already done some very early preliminary prototypes, but I think there's a good chance that there will be a few more that'll come into the pipeline in the next three to six-month, I would say..

That's terrific. I know you've been working on that for a very, very long time.

The 510(k) approval though that we – that our customer received recently, when do you anticipate that'll go into production that we'll actually get a production order from the customer?.

Yes. So I'm actually scheduled to talk with him any anytime now. We tried to connect last week and we played a little phone tag. But I expect that after he and I talk about his detailed requirements, I would expect we'd see an order pretty quickly after that. So I would say it would be just a matter of weeks..

Terrific. And then on the big one, obviously there's a big announcement – the announcement that you made last week.

Can you give us some more color on the use case for how the customer is using this product?.

Unfortunately, I cannot give you any details because of the nature of the application and because of the nature of the customer and the request of us by the customer, which we're very specific and very strong. I'm not able to talk about any of the aspects of the end use. What I can – I can tell you a couple of things.

I can tell you that the products that we make go into a larger product that our customer makes. I can tell you that we have – they have shared with us the forecast of the products that they're making into which our products go.

And without going into details, I can say that the forecast that they have shared with us are consistent with some information that's available publicly that relates to the way these systems are being used. Beyond that, I guess the only other thing I would point out and we sort of said this here, but I don't want people to miss it.

The orders that we've received are initial orders that are anticipated to turn into long-term, basically blanket orders. Now this customer's company policy is that they don't give blanket orders for these kinds of products.

But they have given us certain levels of commitment, that if we're able to succeed with this first order for $1.5 million over six months, that they have every intention of giving us follow-on orders so that the production continues without any break in between.

This is the reason why we've talked about this as a $1.5 million order, but if you look at the delivery schedule, which is over six months and the anticipation and commitments they've given us to give us follow-on orders, it really ends up being a $3 million a year run rate for these particular products.

The other point I want to make is that the products we're making go into a larger product that our customer makes. There are other requirements for their larger product that they have also had us looking at.

And some of these other products that we could provide for the same program, have – we've been working on for some time and so there's a reasonable chance that some of these other ones will go into production in the next 12 months.

Beyond that, this customer is happy enough with the things that we've been doing because of the stuff that we've been working on is extremely difficult from a technical standpoint.

And so they're happy enough with the things that we've already demonstrated and with the projects we have in process, that they've also told us that they plan to give us some request for “some entirely new products that they expect to get started with us in the next month or so.” So across the Board, the relationship is very strong and this customer could very quickly become the largest customer that we have..

Perfect. That's great, Joe. Keep up the good work. I'll get back in queue..

Thanks a lot, Mike..

.

Hey, Joe, I'll jump in here. It's Robert Blum, while we see if anyone else queues up.

Just two items here, I guess first off, we've talked about a number of product, projects and programs going into production, any concerns relating to labor shortages, production capacity, et cetera?.

Yes. Sure. So certainly we have concerns over the labor environment. Having said that, we've already been in the process of recruiting and hiring new people because the growth has already started and it sort of falls into two categories. There are folks that we hire as production projects come on.

These are production technicians, many of whom we train ourselves sometimes supply chain folks, quality assurance, technicians and such. And while the market is tight, we've been successful in attracting people to these physicians.

The other kinds of physicians that we've been looking for some time now are in the technical side and the engineering side. I would say the labor market there is even tighter particularly in the Northeast, where we're competing with lots of other technical companies in the Boston area.

Again, the challenging news is that it's a challenging market for this kind of qualified employee. The good news is, again, we've been successful in recruiting people for the company. So all-in-all, I would say it's taking us longer. It's a bit harder than it's been in the past, but the good news is we've been successful.

I think that's because we have a very good reputation with our existing employees. Employees typically come and stay for a long time. We have a great set of benefits and we're doing really interesting work.

And I think that a lot of our employees, particularly the technical engineering folks, a lot of times are attracted to companies that are doing cutting edge development and cutting edge products.

And so for all of those reasons, despite the fact that it's a little challenging, we've been successful in recruiting people, and I think we'll be able to as we go forward..

Okay, great. And then just one more item here. As it relates to the potential uplisting to NASDAQ or the intent to uplist here, we've talked about some of the facts about their stock price, which obviously can be remedied there.

Are there any other significant issues or milestones that need to be accomplished in order to get the uplisting to the NASDAQ?.

Yes. Sure. So the short answer is we don't see any roadblocks to getting uplisted to NASDAQ. Having said that, we've already been in touch with the folks at NASDAQ, they've been very helpful. We've submitted our initial application. They have responded with their initial comments. We certainly have some work to do. They ask lots of questions.

We have to get through the annual meeting. But as I say, there were none of the questions nor any of the things that we have to do for the annual meeting that we see as particular impediment. So we're going to work diligently to get through all of the requirements and get uplisted as quickly as we can..

All right. Great. Chuck, I'll turn it back over to you if there's any questions that stand in the call here..

As there are no more questions, I would like to turn the call over to management for any closing remarks..

Thank you, operator. Thanks everyone for joining us on the call today. I look forward to speaking with all of you very soon. Have a good evening and stay safe. Bye-bye..

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect..