Precision Optics Corporation, Inc. (POCI) Q1 2026 Earnings Report, Transcript and Summary

Good afternoon, and welcome to the Precision Optics Q1 '26 Earnings Event. [Operator Instructions] Please also note today's event is being recorded. At this time, I'd like to turn the floor over to Robert Blum with Lytham Partners. Sir, please go ahead.

All right. Thank you very much, and thank you, everyone, for joining us today. As the operator mentioned, on today's call, we will discuss Precision Optics' First quarter fiscal year 2026 financial results for the period ended September 30, 2025. With us on the call representing the company today are Dr. Joe Forkey, Precision Optics' Chief Executive Officer; Mr. Wayne Coll, the company's Chief Financial Officer. At the conclusion of today's prepared remarks, we'll open the call for a question-and-answer session. [Operator Instructions] Before we begin with prepared remarks, we submit for the record the following statement. 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 risks 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 and Exchange Commission. All forward-looking statements during this conference call speak only as of the date which they are 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. All right. With that said, let me turn the call over to Joe Forkey, Chief Executive Officer, Precision Optics. Joe, please proceed.

Thank you, Robert, and thank you all for joining our call today. On our last conference call, which was only 6 weeks ago, we talked about POC now operating at a new level, fueled by the record systems manufacturing revenue in the fourth quarter of fiscal 2025, which we expect it to continue into the indefinite future. I'm pleased to report today that this positive momentum continued during the first quarter of fiscal 2026 as we reported record quarterly revenue of $6.7 million. We have reached agreement with certain key customers to reimburse us for the cost of tariffs, which makes those revenues a pass-through for us. Backing out the tariff reimbursements, this represents an increase of 46% compared to revenue in the same quarter a year ago. These large increases are driven primarily by our 2 key manufacturing programs, one with a top-tier aerospace company and the other with a surgical robotics company for whom we make a single-use cystoscope. As we discussed on our last call, we've experienced gross margin challenges mainly associated with the aggressive ramp of production operations. We have come to appreciate our production business is much like a start-up with the need to build infrastructure, processes and talent in order to scale. Despite producing products for years, ramping programs to multimillion dollar annual levels with delivery rates 10x to 100x higher than historical programs while adding new programs concurrently has stressed the organization and required costs, all of which impact our gross margins. In fact, it may be more challenging to do with an existing business as we have had to make team, infrastructure and process changes from what was existing in order to serve both long-standing and new customer programs of varying revenue sizes. I'll touch on this more in a minute. As we grow, we will realize the benefits of the investments that we've made. Our product development revenue was still limited in the first quarter due to the recent advancement of a number of significant programs from development to production. Our sales team has been working to refill the pipeline, and we have now begun to see a more robust recovery of that part of our business. Since our last conference call, we have signed 2 new large development agreements, which we announced in the last week. These programs, one for the development of augmented reality systems for defense applications and the other for a high-resolution borescope for jet engine inspection represent the beginning of an upward swing in new product development programs that we expect to continue in upcoming quarters. These 2 programs are also important because they broaden our exposure to the aerospace and defense industry as major players in that market have begun to recognize how well POC's technologies are positioned to support the industry's need for smaller-sized optical systems. All in all, our first quarter results support the guidance we provided on our last call. We continue to expect that fiscal year 2026 revenue will be in excess of $25 million and that we will have approximately $0.5 million of positive adjusted EBITDA for the year despite the first quarter loss. Beyond this guidance, I want to reaffirm the overall sentiment of our last call. With ongoing higher top line revenue, a growing engineering pipeline and improving gross margins, we believe we are now operating at a new level for Precision Optics and expect the gains we are experiencing in top line revenue will increasingly flow through to the bottom line throughout fiscal '26 and beyond. Today, I'll focus my remarks on the following items: First, updates on our 2 major production programs; second, our gross margin analysis for Q1 and the path to anticipated improvements; and third, recent developments in our product development pipeline. In the first quarter of fiscal 2026, we achieved record quarterly revenue for our aerospace program for the fourth quarter in a row. With $2.5 million in revenue, net of tariffs, this represents an increase of more than 800% compared to revenue for this program a year ago. With a backlog of over $9 million and ongoing requests from our customers to increase output as quickly as possible, we expect this program to continue to grow at least through the remainder of fiscal 2026. In fact, we just recently completed a line expansion that will allow us to increase production throughput by as much as an additional 50% beginning next week. In the first quarter, we successfully negotiated for this customer to reimburse us on a pass-through basis for tariffs we incur in sourcing components. With this reimbursement, the program is now delivering a gross margin in the mid-30% range, and we expect that this level will increase as we gain experience to produce more efficiently and leverage fixed costs with greater volumes. This program is very likely to be an important cornerstone of our business for years to come. For our single-use cystoscope program, revenue during the quarter was $1.5 million, net of tariff reimbursements, an 85% increase compared to the previous quarter and a 180% increase year-over-year. This was another record quarter for this program, highlighting 2 important conclusions. First, the end market demand for this product continues to be very strong, and our customer is working with us to deliver as much volume as possible as quickly as possible. And second, the issues we had during the second half of last year that limited output are being resolved, and we are back to producing at record rates. Delivering many hundreds of units a week requires a different infrastructure and process than delivering 100 units a month or a year as POC has done in the past. Updating our systems has been challenging. And frankly, I think we underestimated the extent of changes that were required. But I believe we now have the right management team in place and a substantially more robust system that will not only help improve results for this program, but also for future programs. For example, we expect our single-use ophthalmic product to begin ramping significantly in the January time frame. Because of what we've learned from the cystoscopy program, we are already evaluating the potential need for line loading adjustments when volumes increase and putting in place in-process inspection points and KPIs to be able to monitor real time the efficiency of the line. We already have a dedicated manufacturing engineering team and have a plan for the next 12 months, identifying points where cycle time will be enhanced by fixture duplication, additional FTE count and cross-training. Clearly, the work we've done to improve volume throughput on the cystoscopy line will help with margins, not only for that product, but for others coming through the pipeline now. All in all, we have made substantial progress on improving the cystoscope line already, and the margin for this program in Q1 showed significant improvement over that of Q4. Additional efforts to improve yield and production efficiency will take time to complete, but we expect them to impact the current second quarter to some extent and to be fully implemented during the third quarter, leading to further improved quarter-over-quarter margin increases for this product. In the first quarter of fiscal 2026, we renegotiated pricing with our customer to account for lower yield and higher touch time costs. The renegotiated price is retroactive to August, and so this update had a partial impact on Q2 margins but will have a larger impact on Q3 and beyond. In addition, our customer has agreed to cover tariffs associated with this product on a pass-through basis. We believe that the design and production changes, along with pricing updates will result in steadily increasing profitability for this product throughout the year, an improvement that will have a meaningful impact on the bottom line given the significant contribution of this program to overall revenue. Our Ross Optical division also saw a nice uptick in revenue and margin from Q4 of fiscal 2025 to Q1 of fiscal 2026. Revenue grew 10% quarter-over-quarter, coming in at over $1 million. Because the Ross Optical division can support significantly higher revenue with existing staff and infrastructure, the variable margin on revenue increases is high. We are cautiously optimistic that the revenue increase we saw in Q1, which was the second consecutive quarter-over-quarter increase by 10% or more, along with a strong backlog going into Q2, indicates the beginning of a recovery of the optical components market, where we believe customers have held off on new orders due to tariffs and other uncertainties. While the margin for the Systems Manufacturing and Ross Optical divisions increased significantly from Q4 to Q1, this was masked by the drop in quarter-over-quarter margin of our micro-optics and Product Development divisions, both of which suffered from under absorption of resources due to unusually low revenue in the first quarter. We expect the revenue and margin for both of these groups to improve in the second quarter. Our Micro-optics division has historically been driven by a product we supply to one of the nation's largest defense contractors, representing $2 million to $2.5 million of annual revenue. We expected another reorder in the September time frame. Our customer has notified us that the program is continuing, but the new order has been delayed. We are confident that this order is forthcoming. To summarize, we expect improvements in our cystoscope line yield and efficiency, greater fixed cost absorption due to increases in production levels for our aerospace program and an increase in micro-optics and product development resource utilization to support higher revenue for both of these divisions. The combination of these developments will result in substantial quarter-over-quarter margin improvements for each quarter and the remainder of fiscal 2026. I'd like to talk for a few minutes now about the reasons for our optimism in our product development pipeline. Revenue from this part of our business in the first quarter of fiscal 2026 was only $656,000, which is the lowest it has been in many years. As I've already mentioned, this was caused mainly by the transfer of programs from development to production, but also due to the natural ebb and flow of demand for our services as programs move through the development process. With a number of existing programs requiring more work as they move towards production and importantly, with new programs coming in, we believe the first quarter was the bottom of the trough and that we will see a recovery of revenue from this division, starting with a 50% to 75% quarter-over-quarter increase in Q2 and additional growth in Q3 and Q4. Existing programs that will contribute to this increase include 2 programs, one for a single-use arthroscopy system and another for a reusable sinoscopy system that recently received 510(k) approvals and are driving towards production in the next 6 to 12 months. Two additional programs, one for urology and another for otoscopy, are targeting 510(k) approval in the next 6 to 12 months with production expected in 12 to 18 months. These time lines support our business goal of having 2 to 4 programs move from development to production each year. Our new sales leadership, which has been in place for about 5 quarters now, has been working diligently to identify and engage new customers for product development, in large part by updating and enhancing our approach to analyzing and communicating to the market. Over the last year, our team has begun using social media in a more directed way, releasing numerous capability videos in a podcast series now on its ninth installment. More recently, we have begun to use AI tools to improve the efficiency of our team, and we recently hosted our first ever webinar from which we received uniformly positive feedback and more concretely, 3 new high probability leads that our team is now engaged with. It takes time for these kinds of marketing efforts to translate into new business, but we believe we are starting to see the benefits of this investment. Last week, we announced 2 new development orders totaling about $1.4 million. The first is for an optomechanical subassembly that is used in an augmented reality system. This is the second AR system we have worked on, both of which benefit from our ability to design and manufacture very small optical systems that can fit inside of devices worn on the body. We believe there are additional opportunities for our technologies in this quickly growing market. The second new order is for a custom borescope that will be used to inspect the inside of jet engines after they have been deployed to the field. Our customer for this program is one of the world's largest jet engine manufacturers. We will design and later manufacture the borescope itself, along with electronics to capture and process images. The system will have 3 different configurations, greater than 1080p HD resolution and will be required to operate at temperatures as high as 100 degrees Celsius. Our customer for this program ran an extensive and detailed process to select the best supplier, including an all-day on-site visit to their facility where they evaluated POC and 3 other finalists. This program is not using our existing Unity platform. However, the demonstration of our capabilities embodied in Unity demonstrations clearly contributed to our success in winning this contract. With demand for our largest production programs continuing to ramp, a clear path to increasing gross margins and significant momentum in bringing on new customers for our product development pipeline, we are confident that fiscal 2026 will bring additional records for top line revenue and that this will increasingly flow to bottom line profitability. With that overview, let me now turn it over to Wayne to review the financials in more detail. Wayne?

Thank you, Joe. Let me expand on some of Joe's comments on the financial results, starting with revenue. For the first quarter, revenue was $6.7 million compared to $4.2 million in the year ago first quarter and up compared to $6.2 million in the prior sequential quarter. Breaking it down, production revenue was approximately $6 million compared to $2.6 million in the year ago quarter and $5.1 million in the prior sequential quarter. Engineering revenue was $656,000 compared to $1.6 million in the year ago quarter and $1.1 million in the sequential quarter. Our Aerospace program contributed $2.7 million in revenues, while the cystoscope program achieved $1.9 million. As Joe mentioned, we successfully negotiated agreements with these customers to pass through tariffs without markup. The tariffs are treated as revenue and correspondingly as cost of goods sold. Net of tariffs, the Aerospace program had revenue of $2.5 million and the cystoscope program, $1.5 million. Similarly, top line revenue would have been about $6.2 million, excluding the combined $562,000 of tariff charges. For the quarter, gross margins were 14.4% compared to 12.9% in the prior sequential quarter and 26.6% in the first quarter of a year ago. While manufacturing yields continue to improve, the under-absorption of engineering resources was a contributing factor here as well as the delay in receiving the large defense customers' reorder for the micro-optics lab. We expect significant increases in product development revenues in the second quarter and for the remainder of the year, driven in part by the new orders we recently announced and are confident the Micro-optics division's defense reorder will be received soon, both of which will improve overall gross margin. Turning to operating expenses. Total OpEx was $2.5 million during the quarter compared to $2.4 million in the year ago first quarter. Breaking it down, SG&A expenses were $2.2 million during the quarter compared to $2 million in the year ago quarter, resulting from a few onetime items, including $184,000 in employee severance and increased stock-based compensation. R&D spending in the quarter decreased to $312,000 from $401,000 in the year ago first quarter. The decrease is a result of progress made in prior periods in the development of the Unity platform, a key driver of our new product development engagements. As a result of the factors I've discussed, our net loss was $1.6 million for the quarter compared to $1.3 million in the year ago first quarter. Adjusted EBITDA, which excludes stock-based compensation, interest expense, depreciation and amortization, was negative $1.2 million in the first quarter of 2025 compared to negative $1.0 million in the year ago quarter. Based on the expected growth in revenue for the year, improved gross margins and efficient management of our operating expenses, it remains our expectation that adjusted EBITDA for the year will be approximately $500,000. Cash at the end of September was approximately $1.4 million and debt was $1.7 million. We continue to make progress in negotiations to increase the availability of debt capital to fund our continued business expansion, and we believe the outcome will be favorable considering the positive trajectory of our business and recent discussions with potential partners. I will now turn the call back over to Joe for some final comments.

Thank you, Wayne. Before we take questions, let me just recap a couple of points. First, our systems manufacturing business has posted record revenue levels for each of the last 4 quarters, and we expect this trend to continue. Second, while POC has been in business for over 40 years and has manufactured products this entire time, the volumes we are dealing with today require an updated approach. We have gone through some growing pains over the last few quarters, but are confident now that we have the right team in place and updated procedures to be able to capitalize on this higher volume production business. These improvements will pay dividends as more programs transfer to production, and we continue to ramp this part of the business into the future. This development of a scaled production capability should, over time, be value creating for shareholders. And finally, our recently updated sales and marketing efforts are beginning to refill our product development pipeline with 2 new programs announced in the last week and a more robust sales funnel likely to yield more successes in the coming months. This part of our business is poised for a significant recovery. Taken together, these developments give us great confidence that fiscal 2026 will be a year of transition with substantially higher revenue leading to increasingly profitable operations. We'd be happy to take any questions at this time.

[Operator Instructions]

All right, Jamie, this is Robert here. While we wait to see if anyone dials or prompts in from the live dial-in call, we'll take some questions from the webcast queue. [Operator Instructions] The first question here, gentlemen, is noticing there are 2 new development programs in the defense and aerospace applications. Is this an area the company is pivoting towards further?

Yes, that's a great question. And I was thinking that people might start thinking that given the last 2 announcements. So what I would say is we are doing more to promote ourselves in the defense aerospace marketplace. But I guess what I would add very quickly is this is in addition to, not instead of the medical device space, right? So the 2 programs coming in really is both from defense aerospace is really just due to the random timing of various programs. While we won't know for sure until programs actually come in, the next 1 or 2 announcements, I wouldn't be surprised, are likely to be medical device programs because we're still talking to quite a few medical device companies. Having said all of that, we're absolutely thrilled to have a couple of more defense aerospace programs. These programs often can move through the development process a little bit faster because they don't have the same level of regulatory requirement, not always, but often that's the case. And recently, with our big aerospace program, we recognize that these programs can become very large and can be very profitable. So we're happy to have the added diversity here. And even though it isn't a pivot away from med device, we're happy to see that the defense and aerospace industry is seeing more of what we're doing and responding in a positive way.

All right. Very good. We have a question here. [Operator Instructions] A question here for you on capacity utilization. Can you talk about capacity utilization and how you see this at the end of 2026? And what kind of revenue can it support?

Yes, that's a great question. So we've talked on recent calls about the facilities update that we've been working on. I would say that -- well, first of all, we have one final step in that facility update, which is to update our production area that's in Gardner, Massachusetts. Without going into all the details again, we moved our engineering team in Maine to a new facility. We moved our headquarters from Gardner Mass to Littleton Mass and a new facility there. All of that was to get the headquarters functions out of the way of the production team that's in Gartner. So we still have one more step there, which is to update the Gartner facility, and we expect to get that going in the next 6, 9, 12 months. So I'm not going to answer the question specifically at the time point that the person that the questioner asked about, which was the end of fiscal '26. What I'm going to answer it for is when we finish this final step in the facilities updates, which could be by the end of fiscal '26, but may slip into Q1 or Q2 of fiscal '27. Once that is done, I think we'll have plenty of capacity in order to expand the company probably to double the size that it's at now before we have to look at any kind of significant expansion-related costs beyond what we've already incurred.

Okay. Very good. [Operator Instructions] The next question here is, can you break out your COGS in terms of labor versus materials versus overhead? Can you automate production any further into the future?

So I'll answer the second part of that question, then I'm going to ask Wayne to answer the first one. Automation, there are absolutely opportunities for automation. When we've looked at the upfront costs for developing and prototyping and building and validating the automation systems, we find that, we find that we need to be at volumes that are roughly double the volume that we're at now with the cystoscopy program, which we keep talking about. So I think that, that is certainly coming. It's probably another year or 2 before we get to the volumes that warrant the return on investment for the costs associated with putting the automation systems together. But we already have on paper the approaches that we would take. So absolutely, that's something that in the long run is going to have a positive impact on the company. Wayne, do you want to comment at all on how we break out the COGS?

Yes. I think let me try to answer that question in this way. If you look at our 4 divisions, they have very different makeups in the relationship between materials, labor and overhead. Let's take manufacturing, for instance. So manufacturing does generally, especially with single-use, have a significant materials impact. A lot of that is due to the OmniVision sensors we use for the single-use devices. Labor is a significant part as well due to the manufacturing line. When you look at micro-optics lab, for instance, it's all about labor, very low materials costs, primarily labor costs. I would say it's almost a 10:1 relationship between labor costs and material costs and maybe a lower bit of overhead. When we think about the product development group, it is primarily engineering based -- revenue -- nonrecurring engineering based, labor-based. And so that's where those costs are primarily going to be in terms of the engineers and the managers of the product development. And then when you look at Ross Optical, that is primarily a sourcing business and a good portion of that is really on the material side. The labor is fairly fixed. So it does give us a significant advantage there as revenues go up, we're able to lever the existing workforce without having to increase labor. So hopefully, that addresses the question. It's hard to do on an overall basis as the mix of revenues in a given quarter changes and can change from time to time.

All right. Hopefully, that addresses the question. The next question here is, do you know what the cause for the delay in the legacy defense program reorder was?

So the short answer is no. But I'll just make this additional comment. So as I've said many times when we've talked about this program, we don't know what the product that we make goes into. It's not shared with us by our customer. But we do have a sense that the work that our customer is doing, they're one of the largest defense contractors in the country. We do know that it is in some way related to products and activities that are of interest to the defense industry and likely the defense department. So this is entirely a bit of a guess on my part, but I wouldn't be surprised if the government [Audio Gap] some impact on the delay. We will -- just as a data point with no definitive statement from our customer that we can rely on. I will comment that we have had one other case in the past where there was a government shutdown and not long after the government restarted. We saw that new order come in. So we're hopeful that, that's what it's related to, but we don't really know with any certainty.

All right. The next question here is, what are the average life spans of some of these programs, defense versus medical? And what does the bell curve look like for these programs?

That's a great question. I don't know that I have enough detail to be able to talk about the bell curve, but I can give a couple of points on the bell curve that I think are the ones that are most relevant. So for medical devices, once the product -- for medical devices, there are sort of 2 critical points. One is getting through the development process technically and from a regulatory standpoint. That's the point at which we say they transfer from development into production. The second one is the market introduction, sort of the first year of production that we're doing. That gives us a pretty good sense of whether the market through our customer is going to adopt the product. Once the product is adopted by the medical device community, it typically will run for a pretty long time. On the short side, it's something like 5 years, I would roughly say, before anyone would consider replacing it. Many of these medical device products last for a very long time. And I always use the example that we have one legacy product that we're still making today for a very large company whose name everyone would recognize that we've been making for over 25 years. another one that we've been making for over 15 years. So the medical device products are very sticky. And in large part, that's because there are large barriers to making a new one, both technical and also from a regulatory standpoint, but also from the standpoint that the medical community is pretty risk-averse and doesn't like to try new things, so -- or to take the risk of changing from something that they know works. So once a medical device gets into production, 5 years at least is typically what we see and many times much longer. For defense programs, it's a little harder to answer, but our experience with defense programs is, again, for the high-tech kinds of things that we're doing, they tend to last for a pretty long time once they've been going. This large defense program that I was just commenting on that has a delayed reorder has been running now for 4 or 5 years, and our customer tells us that they expect this to go on for a very long time. Same thing for aerospace. The big program that we're working on today is for a satellite program. And this is a program where the satellites are in low earth orbit, so they have limited lifetime. This system has a very high front-end cost to get the whole system up and running. And so making changes with components that go into satellites, again, is one where people will be very risk averse to the risks that come with making changes and very high start-up cost. So it's unlikely to be replaced anytime soon. So for all those reasons, we expect that the defense programs also are going to be in the 5, 10 year time frame or even longer.

Okay. Next question here. There's a comment that says congrats on the excellent first quarter numbers. And the question is, what is the time line of the manufacturing that was done in Maine and being moved to Gardner? And what was the dollar volume?

So there was only one program that was in production in Maine when we made the transfer. There was another program that was end of life by our customer for reasons completely unrelated to the product that we make about the same time. So that was part of the process was shutting down that line. But the one line that we moved, we have all the tools and fixtures reinstalled, and we're working with the customer. In fact, I'm meeting with them this week to look at the time line for putting that -- getting that program back up and running. And the -- so we expect that, that line will be back up and running in the next few months. And the volume of work for that particular program was running at about $1 million a year. It was a limited launch, and so we expect it to grow from there once the program gets back up and running in the next few months.

Okay. Thanks for that, Joe. The next question is, how many new hires have you recruited in the last 3 months? And how many do you expect in the next 3 months?

So I don't have the numbers sitting right in front of me. But Wayne, you can correct me if I'm wrong. I'm pretty sure it was something like 20 folks that we've hired in the last 3 months. Probably 15 of those were direct labor for the expansion of the production line and 4 or 5 were management, manufacturing, engineering, quality types of roles. And given the ramp that we see, I think it's probably a similar number of direct labor hires over the next 3 to 6 months. Wayne, does that sound more or less right?

Yes. Joe, I agree with both of those numbers. I think the next calendar year is going to look very similar to what we've seen in the past here.

All right. Very good. The next question here is on the borescope, can you provide a little more detail? Is the customer using it for their own planes? Or will they be going out to market against other borescope suppliers?

So yes, so let me clarify just a little bit. So the -- we're making the borescope for a company that makes jet engines. And so this borescope is designed specifically to be used with that company's jet engines. So when they sell the jet engine into the market, they'll sell the borescope into the market with it. And so the key point here is that the particular jet engine manufacturer that we're making this for makes an awful lot of jet engines. And so the bottom line is it's a custom borescope specifically for this customer. They make a lot of jet engines, and they'll resell it to their customers.

All right. Very good. I am showing no further questions, Joe and Wayne. So with that, I will turn it back over for any closing comments that you might have.

Great. Well, thanks, everyone, for all those great questions. Thanks, Robert. Thank you all for joining the call today. I look forward to talking with all of you again soon. Thank you, and have a good evening.

Ladies and gentlemen, that will conclude today's conference call and presentation. We do thank you for joining. You may now disconnect your lines.