Quarterly report pursuant to Section 13 or 15(d)

Accounting Policies (Policies)

Accounting Policies (Policies)

3 Months Ended

Dec. 31, 2023

Principles of Consolidation: The condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, Optex Systems, Inc. All significant inter-company balances and transactions have been eliminated in consolidation.

The condensed consolidated financial statements of Optex Systems Holdings included herein have been prepared by Optex Systems Holdings, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in conjunction with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading.

These condensed consolidated financial statements should be read in conjunction with the annual audited consolidated financial statements and the notes thereto included in the Optex Systems Holdings’ Form 10-K for the year ended October 1, 2023 and other reports filed with the SEC.

The accompanying unaudited interim condensed consolidated financial statements reflect all adjustments of a normal and recurring nature which are, in the opinion of management, necessary to present fairly the financial position, results of operations and cash flows of Optex Systems Holdings for the interim periods presented. The results of operations for these periods are not necessarily comparable to, or indicative of, results of any other interim period or for the fiscal year taken as a whole. Certain information that is not required for interim financial reporting purposes has been omitted.

Inventory

Inventory: As of December 31, 2023 and October 1, 2023, inventory included:

Schedule of Inventory


	(Thousands)
	December 31, 2023			October 1, 2023
Raw Material	$	8,483		$	8,211
Work in Process		4,628			4,460
Finished Goods		581			489
Gross Inventory	$	13,692		$	13,160
Less: Inventory Reserves		(1,007	)		(1,007	)
Net Inventory	$	12,685		$	12,153

Concentration of Credit Risk

Concentration of Credit Risk: Optex Systems Holdings’ accounts receivables as of December 31, 2023 consisted of U.S. government agencies (9%), six major U.S. defense contractors (25%, 7%, 7%, 5%, 5%, and 5%, respectively), one commercial customer (18%), one foreign military customer (10%) and all other customers (9%). The Company does not believe that this concentration results in undue credit risk because of the financial strength of the customers and the Company’s long history with these customers.

Accrued Warranties

Accrued Warranties: Optex Systems Holdings accrues product warranty liabilities based on the historical return rate against period shipments as they occur and reviews and adjusts these accruals quarterly for any significant changes in estimated costs or return rates. The accrued warranty liability includes estimated costs to repair or replace returned warranty backlog units currently in-house plus estimated costs for future warranty returns that may be incurred against warranty covered products previously shipped as of the period end date. As of December 31, 2023, and October 1, 2023, the Company had warranty reserve balances of $48 and $75 thousand, respectively.

Schedule of Warranty Reserves


	Three months ended
	December 31, 2023			January 1, 2023
Beginning balance	$	75		$	169

Incurred costs for warranties satisfied during the period		(32	)		-

Warranty Expenses:
Warranties reserved for new product shipped during the period⁽¹⁾		52			60
Change in estimate for pre-existing warranty liabilities⁽²⁾		(47	)		-
Warranty Expense		5			60

Ending balance	$	48		$	229

(1)	Warranty expenses accrued to cost of sales (based on current period shipments and historical warranty return rate.)

(2)	Changes in estimated warranty liabilities recognized in cost of sales associated with: the period end customer returned warranty backlog, or the actual costs of repaired/replaced warranty units which were shipped to the customer during the current period.

Use of Estimates

Use of Estimates: The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statement and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from the estimates.

Fair Value of Financial Instruments

Fair Value of Financial Instruments: Fair value estimates discussed herein are based upon certain market assumptions and pertinent information available to management as of the financial statement presentation date.

The carrying value of cash and cash equivalents, accounts receivable, accounts payable and accrued liabilities are carried at, or approximate, fair value as of the reporting date because of their short-term nature. The credit facility is reported at fair value as it bears market rates of interest.

The fair value hierarchy prioritizes the inputs to valuation techniques used to measure fair value and requires that assets and liabilities carried at fair value be classified and disclosed in one of the following three categories:

Level 1: Quoted market prices in active markets for identical assets or liabilities.

Level 2: Observable market-based inputs or unobservable inputs that are corroborated by market data.

Level 3: Unobservable inputs reflecting the reporting entity’s own assumptions.

The accounting guidance establishes a hierarchy which requires an entity to maximize the use of quoted market prices and minimize the use of unobservable inputs. An asset or liability’s level is based on the lowest level of input that is significant to the fair value measurement. Fair value estimates are reviewed at the origination date and again at each applicable measurement date and interim or annual financial reporting dates, as applicable for the financial instrument, and are based upon certain market assumptions and pertinent information available to management at those times.

Revenue Recognition

Revenue Recognition: The majority of the Company’s contracts and customer orders originate with fixed determinable unit prices for each deliverable quantity of goods defined by the customer order line item (performance obligation) and include the specific due date for the transfer of control and title of each of those deliverables to the customer at pre-established payment terms, which are generally within thirty to sixty days from the transfer of title and control. We have elected to account for shipping and handling costs as fulfillment costs after the customer obtains control of the goods. In addition, the Company has one ongoing service contract which relates to optimized weapon system support (OWSS) and includes ongoing program maintenance, repairs and spare inventory support for the customer’s existing fleet units in service during the duration of the contract. Revenue recognition for this program has been recorded by the Company, and compensated by the customer, at fixed monthly increments over time, consistent with the defined contract maintenance period. During the three months ended December 31, 2023 and January 1, 2023, there was $115 thousand and $112 thousand in service contract revenue recognized over time.

During the three months ended December 31, 2023 and January 1, 2023, there was zero and $29 thousand of revenue recognized from customer deposit liabilities (deferred contract revenue). As of December 31, 2023, customer deposit liabilities were $481 thousand.

As of December 31, 2023 and October 1, 2023, there was $280 and $336 thousand in accrued selling expenses and $258 and $336 thousand in contract assets related to a $3.4 million contract booked in November 2022. During the three months ended December 31, 2023, the contract was reduced from $3.4 million to $3.1 million and selling expenses were reduced by 1% as a result of contract price negotiations which resulted in a reduction of contract assets and accrued selling expenses of $56 thousand. The costs will be amortized against the revenue for the contract deliveries which began in the first quarter of fiscal year 2024 and are expected to extend through fiscal year 2025. During the three months ended December 31, 2023, we booked $22 thousand of selling expenses against the contract asset for shipments against the contract.

Contract Loss Reserves

Contract Loss Reserves: The Company records loss provisions in the event that the current estimated total revenue against a contract and the total estimated cost remaining to fulfill the contract indicate a loss upon completion. When the estimated costs indicate a loss, we record the entire value of the loss against the contract loss reserve in the period the determination is made. The Company has several long-term fixed price contracts that are currently indicative of a loss condition due to recent inflationary pressures on material and labor, combined with increased manufacturing overhead costs. Some of these long-term contracts have option year ordering periods ending in February 2025 with deliveries that may extend into February 2026. As of December 31, 2023 and October 1, 2023, the accrued contract loss reserves were $308 thousand and $243 thousand, respectively.

During the three months ended December 31, 2023, the Company recognized $90 thousand in loss reserves on new contract awards and made shipments resulting in reductions of $25 thousand against existing loss reserves. During the three months ended January 1, 2023, the Company recognized $51 thousand in loss reserves on new contract awards and made shipments resulting in reductions of $58 thousand against existing loss reserves.

Income Tax/Deferred Tax

Income Tax/Deferred Tax: As of December 31, 2023 and October 1, 2023, Optex Systems, Inc. has a deferred tax asset valuation allowance of ($0.8) million against deferred tax assets of $1.7 million, for a net deferred tax asset of $0.9 million. The valuation allowance has been established due to historical losses resulting in a Net Operating Loss Carryforward for each of the fiscal years 2011 through 2016 which may not be fully recognized due to an IRS Section 382 limitation related to a change in control.

Earnings per Share

Earnings per Share: Basic earnings per share is computed by dividing income available for common shareholders (the numerator) by the weighted average number of common shares outstanding (the denominator) for the period. Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock.

The Company has potentially dilutive securities outstanding, which include unvested restricted stock units and unvested shares of restricted stock. The Company uses the Treasury Stock Method to compute the dilutive effect of any dilutive shares. Unvested restricted stock units and shares of restricted stock that are anti-dilutive are excluded from the calculation of diluted earnings per common share.

For the three months ended December 31, 2023, 120,000 shares of unvested restricted stock and 39,000 restricted stock units (which convert to an aggregate of 55,371 incremental shares) were included in the diluted earnings per share calculation and 54,000 performance shares were excluded from diluted earnings per share as they were below the target share price.

For the three months ended January 1, 2023, 120,000 unvested shares of restricted stock (which convert to an aggregate of 36,045 incremental shares) were excluded from the diluted earnings per share calculation as antidilutive due to the net loss for the period.