The half year report had an underlying EBITDA of $550,000 for the six month period. I thought that was an excellent result only two months into bricks and mortar sales for an early stage tech product. Others thought the headline result after a non-cash options expense is more important than EBITDA. This is why I consider the EBITDA more important to understanding the profitability of the company. First, the Depreciation/Amortisation was down a little this half relative to half of the prior year's total. I.e. this expense fell a little despite sales volume being much higher and despite ongoing R&D with the company stating that they are working on and will be releasing new products including a new watch this year. So as volumes and revenue increase markedly through European sales, this expense becomes much less significant relative to revenue.
What about the reported non-cash options expense of $3.35 mill? What exactly is this? Does it affect our profitability or viability? Details are available in the December report and shown below with my spreadsheet check of totals below each table.
If we look at the second table first, the exercise price of the options is zero and the total fair value is $69,000. With a zero exercise price, this definitely should be considered an employee expense but is very modest at just $69,000 and does not have much impact on the companies overall headline results. Now, looking at the second table, these are options with exercise prices beginning at $4 and ranging up to $10 which is well above the current sp. While these have a total intrinsic value of $3.25 mill and this has been expensed as a non-cash expense, if the sp does not rise above $4 then there will ultimately be no expense (other than the $69,000), as the options will expire worthless. EBITDA would be the real result in that case. More importantly though, what if they are all in the money at expiry? First that means we have made a good gain - but, more importantly again, if the options are exercised and the exercise prices range from $4-$10, then the company would receive $6.16 mill in cash. Is this really an expense that negatively affects the profitability of the company or is it more realistically a positive cash flow in to the company by issuing shares at an average price of $5.81- a strong premium to the current price? For those that think the EBITDA is trying to hide a bad result, they really don't understand this particular non-cash expense. The EBITDA is in this case a much better indication of the profitability of the business. The options are effectively a strong incentive and if exercised will generate a big cash input to the company by issuing shares at a strong premium to the current sp. If that cash is not needed at that time, we might even get a special dividend? If we deduct the amortisation and depreciation expense, the underlying EBIT becomes a small loss of $365,000 (including the value of the non cash, zero exercise price options as an expense). The company has a net positive cash position so interest should not be significant. Earnings before tax is a marginal loss relative to revenue of $4mill for the period (<10%). To put that into perspective, the six month result included just the two months of sales from bricks and mortar stores and we saw how big a jump in sales the B&M gave us. I think that we will see modest positive earnings this six months. Modest only because the UK sales will also be very late in the period so advertising expenses will be high again relative to the amount of time that the watches are available in stores in the UK - but that will be offset by a full six months of sales in B&M stores here and without the higher launch advertising cost. For the following period (next financial year), beginning in July this year, as advertising expenses fall relative to B&M sales revenue and as volumes increase strongly from what we achieved this half from just our first two months worth of B&M sales, profit should be strong. And important to remember that if all of those options are all exercised before expiry as I expect, not only will it put over $6 mill into our company, but we will be trading above $10.
