Orion Energy Systems Inc. has a market cap of $66.2 million; its shares were traded at around $2.93 with and P/S ratio of 1. OESX is in the portfolios of John Rogers of ARIEL CAPITAL MANAGEMENT LLC, Chuck Royce of Royce& Associates.
Highlight of Business Operations:In response to the constraints on our customers capital spending budgets, we have more aggressively promoted the advantages to our customers of purchasing our energy management systems through our Orion Virtual Power Plant, or OVPP, or Orion Throughput Agreement, or OTA, financing program, as well as our Solar Power Purchasing Agreements, or PPAs as an alternative to purchasing our systems for cash. Our OVPP or OTA financing program provides for our customers purchase of our energy management systems without an up-front capital outlay. OVPP and OTA are interchangeable terms. The OVPP and OTA contract is structured as a supply agreement in which we receive monthly rental payments over the life of the contract, typically 12 months, with an annual renewable agreement with a maximum term between two and five years. The PPA contract is a supply side agreement for the generation of electricity and subsequent sale to the end user. We receive monthly payments over the life of the contract, typically in excess of 10 years. We expect that the number of customers who choose to purchase our systems by using our OVPP or OTA financing program will continue to increase in future periods. While our OVPP or OTA program creates a recurring revenue stream over the term of the annually renewable OVPP or OTA contract, it results in a mis-match between the timing of our recognition of revenues and expenses. This consequence has negatively impacted our near-term revenue and net income, and will likely continue to do so. All of our selling and marketing expenses and most of our administrative expenses related to new OVPP or OTA contracts are expensed up front as incurred, while the related OVPP or OTA contract revenue is recognized on a monthly basis over the life of the contract. Our management evaluates the impact of our OVPP or OTA contracts on our financial statements by discounting the future earnings potential of our OVPP or OTA contracts at our weighted average cost of capital rate of 7.25%, assuming that our OVPP or OTA customers will exercise all renewal periods through the end of their contract term. We believe that this non-GAAP analysis, that adjusts for the financial impact of the mis-match under generally accepted accounting principles, or GAAP, between the immediate operating expense recognition for most OVPP, OTA and PPA sales activities and contract administration costs and the deferral of revenue recognition and the related income from such contracts on a monthly basis over the contract term, provides investors and financial analysts with a consistent basis for comparison across accounting periods and, therefore, is useful in helping them to better understand our relative operating results and underlying operational trends. Our management also uses this non-GAAP financial measure to help evaluate our ongoing operations and for internal planning, budgeting, forecasting and business management purposes. For fiscal 2010, we evaluated the impact of the $10.0 million of OVPP or OTA contracted revenue, or bookings, during fiscal 2010 and determined that the discounted future earnings potential would have provided us with an additional $0.07 of earnings per share for fiscal 2010, which would have reduced our total loss to $(0.12) per share. For the first quarter of fiscal 2011, we evaluated the impact of the $4.1 million of OVPP or OTA and Solar, or PPA, contracted revenues and determined that the discounted future earnings potential would have provided us with an additional $0.03 of earnings per share, which would have reduced our total loss to $(0.02) per share. We anticipate that the expected continuing increasing volume of our product sales through OVPP, OTA and PPA financing contracts as a percentage of overall customer contracts signed, compared to cash purchases, will continue to reduce our near-term GAAP revenue and operating income as a result of the mis-match of contract operating expenses and revenues, and will continue to impact the ability of investors and financial analysts to compare financial performance across accounting periods.
Income Taxes. As of June 30, 2010, we had net operating loss carryforwards of approximately $16.8 million for federal tax purposes and $9.1 million for state tax purposes. Included in these loss carryforwards were $6.5 million for federal and $3.2 million for state tax purposes of compensation expenses that were associated with the exercise of nonqualified stock options. The benefit from our net operating losses created from these compensation expenses has not yet been recognized in our financial statements and will be accounted for in our shareholders equity as a credit to additional paid-in capital as the deduction reduces our income taxes payable. We also had federal tax credit carryforwards of approximately $579,000 and state credit carryforwards of approximately $107,000, which is net of a valuation allowance of $421,000. Management believes it is more likely than not that we will realize the benefits of most of these assets and has reserved for an allowance due to our state apportioned income and the potential expiration of the state tax credits due to the carryforwards period. These federal and state net operating losses and credit carryforwards are available, subject to the discussion in the following paragraph, to offset future taxable income and, if not utilized, will begin to expire in varying amounts between 2014 and 2030.
Contracted Revenue, or Bookings. Total contracted revenue, or bookings, increased from $15.4 million, which included $2.3 million of future potential gross revenue streams associated with OVPP and OTA contracts, for the fiscal 2010 first quarter to $18.8 million, which included $2.2 million of future potential gross revenue associated with OVPP and OTA contracts and $1.9 million of discounted potential revenue from PPA contracts, for the fiscal 2011 first quarter, an increase of $3.4 million, or 22%. The increase in contracted revenue from the prior year was due to the impact of the $1.9 million discounted PPA contract and improved order activity from both our wholesale channel and direct sales channel. We attribute this slight improvement in orders to an improved economic environment versus the first quarter of fiscal 2010.
Revenue. Product revenue increased from $10.7 million for the fiscal 2010 first quarter to $13.5 million for the fiscal 2011 first quarter, an increase of $2.8 million, or 26%. The increase in product revenue was a result of increased sales of our HIF lighting systems. Service revenue decreased from $2.0 million for the fiscal 2010 first quarter to $1.2 million for the fiscal 2011 first quarter, a decrease of $0.8 million or 40%. The decrease in service revenues was a result of the continued percentage increase of total revenues to our wholesale channels where services are not provided, a trend that we expect to continue. While we were encouraged by the improvement in first quarter fiscal 2011 revenues versus the prior year first quarter, we believe that our product and service revenues continue to be impacted by a lengthened sales cycle in the marketplace. We attribute this to general conservatism in the marketplace concerning capital spending and purchase decisions due to adverse economic and credit market conditions.
Cost of Revenue and Gross Margin. Our cost of product revenue increased from $7.9 million for the fiscal 2010 first quarter to $8.5 million for the fiscal 2011 first quarter, an increase of $0.6 million, or 8%. Our cost of service revenues decreased from $1.3 million for the fiscal 2010 first quarter to $0.9 million for the fiscal 2011 first quarter, a decrease of $0.4 million, or 31%. Total gross margin increased from 27.7% for the fiscal 2010 first quarter to 35.8% for the fiscal 2011 first quarter. The increase in gross margin was attributable to cost containment efforts through the reduction of direct and indirect headcounts, improved production efficiencies resulting from the reengineering of our assembly process, and reductions in discretionary spending.
General and Administrative. Our general and administrative expenses decreased from $3.2 million for the fiscal 2010 first quarter to $2.9 million for the fiscal 2011 first quarter, a decrease of $0.3 million, or 9%. The decrease was a result of $0.2 million in reduced compensation costs resulting from headcount reductions, a $0.2 million decrease in consulting and auditing services and $0.1 million in discretionary spending reductions. These reductions were offset by increased legal expenses of $0.3 million related to the settlement efforts of the class action litigation and general corporate matters.
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