KOSS CORP

Previous wording

The following table presents selected financial data for the three and six months ended December 31, 2023 and 2022:

Current wording

The following table presents selected financial data for the three and nine months ended March 31, 2024 and 2023:

Previous wording

(comments refer to the three and six-month periods ended December 31 unless otherwise noted)

Current wording

(comments refer to the three and nine-month periods ended March 31 unless otherwise noted)

Previous wording

Net sales of $3,360,000 for the three months ended December 31, 2023 were 2.4% ahead of sales for the same three-month period in the prior year, an increase of $79,000. An increase in sales of custom headphones and sales to internet retailers and domestic distributors was mostly offset by reductions in direct-to-consumer (“DTC”) sales and sales to certain of our European distributors. For the six months ended December 31, 2023, sales of $6,734,000 were slightly favorable compared to $6,645,000 of sales for the first half of the prior fiscal year. All export market sales and DTC sales were down compared to the prior year, offset by increased sales of custom headphones.

Current wording

Net sales for the three months ended March 31, 2024 were $2,638,000 compared to $3,381,000 for the same three-month period in the prior year, a decrease of $743,000, or 22.0%. A reduction in sales to a significant customer in the educational space, due to timing of a recurring order versus the prior year, was the most significant contribution to the decline, coupled with a meaningful drop in direct-to-consumer (“DTC”) sales and sales to our largest domestic distributors. For the nine months ended March 31, 2024, sales of $9,372,000 were also unfavorable compared to $10,026,000 of sales for the first three quarters of the prior fiscal year with the driver being the nearly 30% fall in DTC sales followed by declines in all export market sales and sales to domestic distributors. The decreases were offset somewhat by increased sales of custom headphones.

Previous wording

For the three months ended December 31, 2023, gross margin as a percentage of net sales was 33.0%, a drop of 160 basis points compared to 34.6% for the three months ended December 31, 2022. A more favorable customer mix of sales, due mainly to the higher margin custom sales and a reduced volume of lower margin export sales, coupled with favorability experienced in fixed manufacturing expenses as a result of cost savings initiatives, were more than offset by the margin hit as a result of a lower volume of higher margin DTC sales and the continued sell through of Company inventory brought in from suppliers at higher freight rates. An increase in the excess and obsolete reserve also contributed negatively to the gross margin. The gross margin as a percentage of sales for the six months ended December 31, 2023 was 32.3% compared with 35.1% for the same six months in the prior year. The current period’s margins were adversely impacted by the aforementioned sell-through of inventory combined with an increase in the reserve for excess and obsolete inventory. A reduction in fixed manufacturing expenses helped to partially offset the margin decline.

Current wording

Gross margins as a percentage of net sales for the three months ended March 31, 2024 were 31.9% as compared to 38.6% for the three months ended March 31, 2023, a drop of 670 basis points. While the mix of sales by market class was fairly consistent year over year and there was some favorability as a result of a decrease in the excess and obsolete inventory reserve, the adverse impact on margin from the continued sell through of Company inventory brought in from suppliers at higher freight rates, coupled with the increase in online marketplace seller fees due to some targeted marketing programs, drove the decline. Gross margin as a percentage of sales for the nine months ended March 31, 2024 was 32.2% compared with 36.3.% for the same nine months in the prior year. The 410 basis points drop in the current period’s margins was primarily driven by the aforementioned sell-through combined with an increase in the reserve for excess and obsolete inventory.

Previous wording

Selling, general and administrative expenses were $1,585,000 for the three months ended December 31, 2023, a decrease of $898,000, or 36.2%, compared to the same three months in the prior year. The decrease was primarily driven by legal fees and expenses incurred during the three months ended December 31, 2022 related to patent defense litigation resolved in that fiscal year. Slightly offsetting the lower legal expense in the current year was an increase in deferred compensation expense driven by a decrease in the discount rates used to calculate the deferred compensation liability. For the six months ended December 31, 2023, selling, general and administrative expenses of $3,121,000 were a significant drop from the $26,158,000 of expenses incurred for the six months ended December 31, 2022. The decrease was predominantly driven by the $22,141,000 of legal fees and related expenses incurred during the prior six-month period in support of the Company’s patent defense litigation. Also, expenses related to bonus and profit-sharing accruals of $359,000 and $576,000, respectively, were recorded during the six months ended December 31, 2022 as a result of the increased net income before income taxes due to the licensing proceeds received in that year. The increase in the deferred compensation liability as of December 31, 2023 resulted in a corresponding increase to expense during the first six months of the current year and offset some of the decrease in legal expenses.

Current wording

Selling, general and administrative expenses were $1,451,000 for the three months ended March 31, 2024, a decrease of $298,000, or 17.0%, compared to the same three months in the prior year. The decrease in the quarter was driven by a number of reasons: 1) personnel departures for which work was reallocated with no replacement hired, 2) a reduction in bad debt expense as a result of continued strong collections and low past due accounts, 3) a decrease in deferred compensation expense driven by lower discount rates used to calculate the deferred compensation liability in the prior year, and 4) a reduction in stock based compensation expense as options became fully vested. For the nine months ended March 31, 2024, selling, general and administrative expenses of $4,572,000 were reduced by $23,335,000 from $27,907,000 of expenses incurred for the nine months ended March 31, 2023. The decrease was predominantly driven by the $22,141,000 of legal fees and related expenses incurred during the prior nine-month period in support of the Company’s patent defense litigation. Also, expenses related to bonus and profit-sharing accruals of $381,000 and $576,000, respectively, were recorded during the nine months ended March 31, 2023 as a result of the increased net income before income taxes due to the licensing proceeds received in that year. A decrease in payroll expense as a result of personnel departures in the prior fiscal year, coupled with a reduction in stock based compensation expense as options became fully vested, also contributed to the decline.

Previous wording

No other income was recorded for the three and six months ended December 31, 2023. Other income for the six months in the prior period consisted entirely of $33,000,000 in licensing proceeds received during the first quarter.

Current wording

No other income was recorded for the three and nine months ended March 31, 2024. Other income for the nine months in the prior period consisted entirely of $33,000,000 in licensing proceeds received during the first quarter.

Previous wording

As a result of a taxable loss for the first three and six months of fiscal year 2024, no federal income tax expense was recorded. State income tax expense of $1,879 and $3,758 was recorded for the three and six months ended December 31, 2023, respectively, reflecting the minimum required tax due. The condensed consolidated statement of operations for the three months ended December 31, 2022 reflected a federal tax benefit resulting from the taxable loss for the quarter. For the six months ended December 31, 2022, the utilization of net operating loss carryforwards significantly reduced the taxable income for that period, resulting in federal and state tax provisions of $374,714 and $120,125, respectively. The effective tax rate was less than 1% in the three and six months ended

Current wording

As a result of a taxable loss for the three- and nine-month periods ended March 31, 2024, no federal income tax expense was recorded. Instead, a federal income tax benefit of $82,653 was recorded for both periods as a result of the RTP adjustment recorded during the third quarter of fiscal 2024. State income tax expense of $1,522 and $5,281 was recorded for the three and nine months ended March 31, 2024, respectively, reflecting the minimum required tax due. For the nine months ended March 31, 2023, the utilization of net operating loss carryforwards significantly reduced the taxable income for that period, resulting in federal and state tax provisions of $374,714 and $89,214, respectively. The effective tax rate was 20.5% and 8.4%, respectively, in the three and nine months ended March 31, 2024 and was 12.1% and 5.1%, respectively, for those same periods in the prior year. It is anticipated that the effective rate in the current year and future years will be reduced by utilization of a portion or all of the federal net operating loss carryforwards that existed as of June 30, 2023.

Previous wording

The Company’s remaining expected federal tax loss carryforward is expected to approximate $32,000,000 by the end of the fiscal year. The taxable loss for the first two quarters for fiscal year 2024 increased the net operating loss carryforward deferred tax asset to approximately $8,300,000 as of December 31, 2023, and the future realization of this continues to be uncertain. The valuation allowance was reduced slightly to fully offset the net deferred tax asset as there is sufficient negative evidence to support the maintaining of a full valuation allowance as, excluding unusual, infrequent items, a three-year cumulative tax loss occurred.

Current wording

The Company’s remaining expected federal tax loss carryforward is expected to approximate $32,800,000 by the end of the fiscal year. The taxable loss for the first nine months of fiscal year 2024 increased the net operating loss carryforward deferred tax asset to approximately $8,500,000 as of March 31, 2024, and the future realization of this continues to be uncertain. The valuation allowance was increased to fully offset the net deferred tax asset as there is sufficient negative evidence to support the maintaining of a full valuation allowance as, excluding unusual, infrequent items, a three-year cumulative tax loss occurred.

Previous wording

The Company believes that its financial position remains strong. The Company had $2.5 million of cash and cash equivalents, $12.1 million of short-term investments and available credit facilities of $5.0 million on December 31, 2023.

Current wording

The Company believes that its financial position remains strong. The Company had $2.9 million of cash and cash equivalents, $7.0 million of short-term investments and available credit facilities of $5.0 million on March 31, 2024.

Previous wording

Recent and ongoing macroeconomic and geopolitical conditions have impacted, and will continue to impact, our business. These include, the inflationary cost environment, reduced consumer confidence, disruption in our supply chain and trade tensions with China, the ongoing crises in Eastern Europe and the Mideast, and increased risk of cyberattacks.

Current wording

Recent and ongoing macroeconomic and geopolitical conditions have impacted, and will continue to impact, our business. These include economic uncertainty from elevated inflation and interest rates, reduced consumer confidence, disruption in our supply chain and trade tensions with China, the ongoing crises in Eastern Europe, the ongoing instability in the Middle East and increased risk of cyberattacks.

Previous wording

Inflationary Cost Environment and Reduced Consumer Confidence -The Company continues to experience inflationary cost increases in our commodities, packaging materials, wages and higher energy and transportation costs, potentially impacting our ability to meet customer demand. These increases have been partially mitigated by pricing actions implemented in the third quarter of the prior fiscal year, as well as working with a dedicated freight forwarding partner to minimize freight rate increases. Inflation may impact customer demand for our products resulting from a slowdown in consumers’ willingness to spend as disposable income decreases due to rising prices of essential items, dwindling savings and the resumption of student loan repayments. Other risk factors further exacerbated by inflation include supply chain disruptions, increased oil and energy costs, risks of international operations and the recruitment and retention of talent.

Current wording

Inflationary Cost Environment and Reduced Consumer Confidence -The Company continues to experience inflationary cost increases in our commodities, packaging materials, wages and higher energy and transportation costs, potentially impacting our ability to meet customer demand. These increases have been partially mitigated by pricing actions implemented in the third quarter of the prior fiscal year, as well as working with a dedicated freight forwarding partner to minimize freight rate increases. Inflation may impact customer demand for our products resulting from a slowdown in consumers’ willingness to spend as disposable income decreases due to rising prices of essential items, spend through of excess savings from earlier in the pandemic and leading indicators pointing to a softening in the labor market. Other risk factors further exacerbated by inflation include supply chain disruptions, increased oil and energy costs, risks of international operations and the recruitment and retention of talent.

Previous wording

Our dependence on foreign suppliers for our products necessitates ordering products further in advance than we would if manufactured domestically, thus increasing investments in inventory. Delays in receiving and shipping products due to interruptions in its supply chain would pose a risk of lower sales to the Company and the potential for price volatility, negatively impacting profits.

Current wording

Our dependence on foreign suppliers for our products necessitates ordering products further in advance than we would if manufactured domestically, thus increasing investments in inventory. Delays in receiving and shipping products due to interruptions in its supply chain would pose a risk of lower sales to the Company and the potential for price volatility, negatively impacting profits. Recovery of a single facility through replacement of a supplier in the event of a disaster or suspension of supply could take an estimated six to twelve months.

Previous wording

On July 25, 2023, United Parcel Service (“UPS”) and the International Brotherhood of Teamsters Union reached a tentative five-year contract deal that averted a nationwide strike. Also, since December 2022, when the U.S. government abated a threatened railroad strike and implemented a labor agreement that prohibited the workers from striking, there has been movement by some of the leading railroad companies to grant paid sick leave with continued negotiations between union leaders and railroad executives of each of the remaining railroads. In addition, Yellow freight lines announced their insolvency last quarter, however, the Company had no material direct exposure to Yellow in the current fiscal year. The Company continues to monitor these situations as the changes in the current labor landscape, the settlement of recent labor disputes, coupled with rising energy prices, could potentially exacerbate disruptions in the supply chain, delay product shipments and increase transportation costs.

Current wording

On July 25, 2023, United Parcel Service (“UPS”) and the International Brotherhood of Teamsters Union reached a tentative five-year contract deal that averted a nationwide strike. Also, in December 2022, the U.S. government abated a threatened railroad strike and implemented a labor agreement that prohibited the workers from striking and negotiations continue between union leaders and railroad executives of each of the remaining railroads. While Yellow freight lines announced their insolvency earlier in the year, the Company has had no material direct exposure to Yellow. The Company continues to monitor these situations as the changes in the current labor landscape, the settlement of recent labor disputes, coupled with rising energy prices, could potentially exacerbate disruptions in the supply chain, delay product shipments and increase transportation costs.

Previous wording

Russia’s Invasion of Ukraine -Financial and credit markets around the world experienced volatility following the invasion of Ukraine by Russia in February 2022. In response to the invasion, the United States, United Kingdom, and European Union, along with others, imposed significant sanctions and export controls against Russia, Russian banks and certain Russian individuals and may implement additional sanctions or take further punitive actions in the future. In accordance with Executive Order 14071 signed on April 6, 2022, the Company suspended sales to Russia. Also, as a result of the humanitarian crisis in Ukraine created by the war and the population seeking refuge in other countries, sales to Ukraine have been impacted. During the three and six months ended December 31, 2023 and 2022, there were no sales to Russia.

Current wording

Russia’s Invasion of Ukraine -Financial and credit markets around the world experienced volatility following the invasion of Ukraine by Russia in February 2022. In response to the invasion, the United States, United Kingdom, and European Union, along with others, imposed significant sanctions and export controls against Russia, Russian banks and certain Russian individuals and may implement additional sanctions or take further punitive actions in the future. In accordance with Executive Order 14071 signed on April 6, 2022, the Company suspended sales to Russia. While there is a humanitarian crisis in Ukraine created by the war and the population continues to seek refuge in other countries, the Company did receive a sizable order from their Ukrainian distributor in the first quarter of fiscal year 2024 with potential for another before the end of this fiscal year. During the three and nine months ended March 31, 2024 and 2023, there were no sales to Russia.

Previous wording

The following table summarizes cash flows from operating, investing and financing activities for the six months ended December 31, 2023 and 2022:

Current wording

The following table summarizes cash flows from operating, investing and financing activities for the nine months ended March 31, 2024 and 2023:

Previous wording

The cash used in operating activities during the six months ending December 31, 2023, was primarily the payment of bonuses earned in the prior year. During the six months ended December 31, 2022, the majority of the cash provided by operating activities resulted from the licensing proceeds received, partially offset by the payment of related legal fees and expenses and profit sharing.

Current wording

The cash used in operating activities during the nine months ending March 31, 2024, was primarily a result of the payment of bonuses earned in the prior year mostly offset by improvements in cash flow related to working capital, namely the reduction of inventory levels. During the nine months ended March 31, 2023, the majority of the cash provided by operating activities resulted from the licensing proceeds received, partially offset by the payment of related legal fees and expenses and profit sharing.

Previous wording

Cash used by investing activities for the six months ended December 31, 2023 was related to fixed asset expenditures, predominantly the replacement of a roof section of the building for approximately $300,000, and the payment of the premiums on the company-owned life insurance policies on two of its executives. Also, during the first two quarters of the current fiscal year, proceeds of $7,223,000 from the maturity of U.S. Treasury securities were received and utilized to purchase $7,177,000 of similar securities at a $180,000 discount. Cash used by investing activities for the six months ended December 31, 2022 was almost entirely related to the purchase of $15,312,000 of U.S. Treasury securities at a discount of $427,000. The Company believes that its available cash and its credit facility is sufficient to fund any necessary tooling, leasehold improvement and capital expenditures.

Current wording

Cash used by investing activities for the nine months ended March 31, 2024 was related to fixed asset expenditures, predominantly the replacement of a roof section of the building for approximately $300,000, and the payment of the premiums on the company-owned life insurance policies on two of its executives. Proceeds of $14,331,000 were received during the nine months ended March 31, 2024 from the maturity of U.S. Treasury securities and were mostly reinvested to purchase $14,286,000 of similar securities at a $300,000 discount. Cash used by investing activities for the nine months ended March 31, 2023 was almost entirely related to the purchase of $17,334,000 of U.S. Treasury securities at a discount of $450,000. The Company believes that its available cash and its credit facility is sufficient to fund any necessary tooling, leasehold improvement and capital expenditures.

Previous wording

Cash from the exercise of stock options during the six months ended December 31, 2023 and 2022 provided the cash from financing activities. An aggregate of 20,000 and 42,000 shares of common stock, respectively, were issued as a result of employee stock option exercises under the Company’s 2012 Omnibus Incentive Plan for those periods.

Current wording

Cash from the exercise of stock options during the nine months ended March 31, 2024 and 2023 provided the cash from financing activities. An aggregate of 20,000 and 69,000 shares of common stock, respectively, were issued as a result of employee stock option exercises under the Company’s 2012 Omnibus Incentive Plan for those periods.

Previous wording

There were no purchases of common stock in the three and six months ended December 31, 2023 or December 31, 2022 under the stock repurchase program.

Current wording

There were no purchases of common stock in the three and nine months ended March 31, 2024 or March 31, 2023 under the stock repurchase program.

Previous wording

On May 14, 2019, the Company entered into a secured credit facility (“Credit Agreement”) with Town Bank (“Lender”). The Credit Agreement provides for a $5,000,000 revolving secured credit facility for letters of credit for the benefit of the Company of up to a sublimit of $1,000,000. There are no unused line fees in the credit facility. On January 28, 2021, the Credit Agreement was amended to extend the expiration date to October 31, 2022, and to change the interest rate to Wall Street Journal Prime less 1.50%. A Third Amendment to the Credit Agreement effective October 30, 2022 extended the expiration date to October 31, 2024. The Company and the Lender also entered into a General Business Security Agreement dated May 14, 2019 under which the Company granted the Lender a security interest in substantially all of the Company’s assets in connection with the Company’s obligations under the Credit Agreement. The Credit Agreement contains certain affirmative and negative covenants customary for financings of this type. The negative covenants include restrictions on other indebtedness, liens, fundamental changes, certain investments, disposition of assets, mergers and liquidations, among other restrictions. As of December 31, 2023, the Company was in compliance with all covenants related to the Credit Agreement. As of December 31, 2023 and June 30, 2023, there were no outstanding borrowings on the facility.

Current wording

On May 14, 2019, the Company entered into a secured credit facility (“Credit Agreement”) with Town Bank (“Lender”). The Credit Agreement provides for a $5,000,000 revolving secured credit facility for letters of credit for the benefit of the Company of up to a sublimit of $1,000,000. There are no unused line fees in the credit facility. On January 28, 2021, the Credit Agreement was amended to extend the expiration date to October 31, 2022, and to change the interest rate to Wall Street Journal Prime less 1.50%. A Third Amendment to the Credit Agreement effective October 30, 2022, extended the expiration date to October 31, 2024. The Company and the Lender also entered into a General Business Security Agreement dated May 14, 2019 under which the Company granted the Lender a security interest in substantially all of the Company’s assets in connection with the Company’s obligations under the Credit