UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

———————

FORM 10-Q

☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 2021
OR
☐	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________

Commission file number: 0-14942

PRO-DEX, INC.

(Exact name of registrant as specified in its charter)

———————

colorado	84-1261240
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)

2361 McGaw Avenue, Irvine, California 92614

(Address of principal executive offices and zip code)

(949) 769-3200

(Registrant's telephone number, including area code)

———————

Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, no par value	PDEX	NASDAQ Capital Market

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer ☐	Accelerated filer ☐
Non-accelerated filer ☒	Smaller reporting company ☒
	Emerging growth company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date: 3,660,161 shares of common stock, no par value, as of November 12, 2021.

PRO-DEX, INC. AND SUBSIDIARIES

QUARTERLY REPORT ON FORM 10-Q

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2021

TABLE OF CONTENTS

	Page
PART I — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (Unaudited)	1

Condensed Consolidated Balance Sheets as of September 30, 2021 and June 30, 2021	1
Condensed Consolidated Statements of Income for the Three Months Ended September 30, 2021 and 2020	2
Condensed Consolidated Statements of Shareholders’ Equity for the Three Months Ended September 30, 2021 and 2020	3
Condensed Consolidated Statements of Cash Flows for the Three Months Ended September 30, 2021 and 2020	4
Notes to Condensed Consolidated Financial Statements	6

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	15

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	23

ITEM 4. CONTROLS AND PROCEDURES	23

PART II — OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS	25

ITEM 1A. RISK FACTORS	25

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	25

ITEM 6. EXHIBITS	26

SIGNATURES	27

PART I — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

PRO-DEX, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

(In thousands, except share amounts)


	September 30, 2021		June 30, 2021
ASSETS
Current Assets:
Cash and cash equivalents	$	5,177	$	3,721
Investments		1,506		1,295
Accounts receivable, net of allowance for doubtful accounts of $7 and $2 at September 30, 2021 and at June 30, 2021, respectively		10,093		10,933
Deferred costs		184		193
Inventory		8,907		8,437
Prepaid expenses and other current assets		151		434
Total current assets		26,018		25,013
Land and building, net		6,413		6,437
Equipment and leasehold improvements, net		4,535		3,845
Right of use asset, net		2,518		2,605
Intangibles, net		195		186
Deferred income taxes, net		463		463
Investments		1,656		1,704
Other assets		67		67
Total assets	$	41,865	$	40,320

LIABILITIES AND SHAREHOLDERS’ EQUITY
Current Liabilities:
Accounts payable	$	2,476	$	2,288
Accrued expenses		2,195		2,198
Deferred revenue		293		150
Note payable		1,248		1,236
Total current liabilities		6,212		5,872
Lease liability, net of current portion		2,342		2,432
Income taxes payable		709		397
Notes payable, net of current portion		11,219		11,535
Total non-current liabilities		14,270		14,364
Total liabilities		20,482		20,236

Shareholders’ Equity:
Common stock; no par value; 50,000,000 shares authorized; 3,666,319 and 3,645,660 shares issued and outstanding at September 30, 2021 and June 30, 2021, respectively		8,188		7,953
Retained earnings		13,195		12,131
Total shareholders’ equity		21,383		20,084
Total liabilities and shareholders’ equity	$	41,865	$	40,320

The accompanying notes are an integral part of these condensed consolidated financial statements.

PRO-DEX, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

(In thousands, except per share amounts)


	Three Months Ended September 30,
	2021			2020

Net sales	$	9,988		$	8,590
Cost of sales		6,560			5,115
Gross profit		3,428			3,475

Operating expenses:
Selling expenses		37			130
General and administrative expenses		1,093			705
Research and development costs		980			1,091
Total operating expenses		2,110			1,926
Operating income		1,318			1,549

Other income (expense):
Interest and miscellaneous income		24			53
Unrealized gain (loss) on marketable equity investments		149			(107	)
Interest expense		(120	)		(54	)
Total other expense		53			(108	)

Income before income taxes		1,371			1,441
Provision for income taxes		307			283
Net income	$	1,064		$	1,158

Basic and diluted income per share:
Basic net income per share	$	0.29		$	0.30
Diluted net income per share	$	0.28		$	0.29

Weighted average common shares outstanding:
Basic		3,651,334			3,850,838
Diluted		3,777,118			3,975,063
Common shares outstanding		3,666,319			3,858,251

The accompanying notes are an integral part of these condensed consolidated financial statements.

PRO-DEX, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(Unaudited)

(In thousands)


	Three Months Ended September 30,
	2021			2020
COMMON STOCK:
Balance, beginning of period	$	7,953		$	12,752
Share-based compensation expense		300			26
Stock option exercise		—			39
Share repurchases		(95	)		—
Shares withheld from common stock issued to employees to pay employee payroll taxes		—			(259	)
ESPP shares issued		30			25
Balance, end of period	$	8,188		$	12,583

RETAINED EARNINGS:
Balance, beginning of period	$	12,131		$	6,310
Net income		1,064			1,158
Balance, at end of period	$	13,195		$	7,468
Balance, beginning of period		20,084			19,062
Net income		1,064			1,158

Total shareholders’ equity	$	21,383		$	20,051

The accompanying notes are an integral part of these condensed consolidated financial statements.

PRO-DEX, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(In thousands)


	Three Months Ended September 30,
	2021			2020
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income	$	1,064		$	1,158
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization		184			150
Share-based compensation		300			26
Unrealized (gain) loss on marketable equity investments		(149	)		107
Non-cash lease expense		6			9
Amortization of loan fees		2			2
Gain on sale of investments		—			(12	)
Bad debt expense		5			3
Changes in operating assets and liabilities:
Accounts receivable and other receivables		834			(986	)
Deferred costs		9			13
Inventory		(470	)		(75	)
Prepaid expenses and other assets		284			(198	)
Accounts payable and accrued expenses		177			(767	)
Deferred revenue		143			—
Income taxes payable		312			(318	)
Net cash provided by (used in) operating activities		2,701			(888	)

CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of equipment and improvements		(848	)		(89	)
Purchases of investments		(14	)		(—	)
Increase in intangibles		(12	)		(1	)
Proceeds from sale of investments		—			115
Net cash provided by (used in) investing activities		(874	)		25

CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on notes payable		(306	)		(161	)
Payment of employee payroll taxes on net issuance of common stock		—			(259	)
Proceeds from stock option exercises and ESPP contributions		30			64
Repurchases of common stock		(95	)		(—	)
Net cash used in financing activities		(371	)		(356	)

Net increase (decrease) in cash and cash equivalents		1,456			(1,219	)
Cash and cash equivalents, beginning of period		3,721			6,421
Cash and cash equivalents, end of period	$	5,177		$	5,202

The accompanying notes are an integral part of these condensed consolidated financial statements.

PRO-DEX, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED

(Unaudited)

(In thousands)

	Three Months Ended September 30,
	2021		2020
Supplemental disclosures of cash flow information:

Non-cash investing and financing activity:
Cashless stock option exercise	$	45	$	—

Cash paid during the period for:
Interest	$	121	$	54
Income taxes, net of refunds	$	—	$	747

The accompanying notes are an integral part of these condensed consolidated financial statements.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONSDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

NOTE 1. BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements of Pro-Dex, Inc. (“we,” “us,” “our,” “Pro-Dex,” or the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Regulation S-K. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. These financial statements should be read in conjunction with the financial statements presented in our Annual Report on Form 10-K for the fiscal year ended June 30, 2021. In the opinion of management, all adjustments considered necessary for a fair presentation have been included. The results of operations for such interim periods are not necessarily indicative of the results that may be expected for the full year. For further information, refer to the financial statements and footnotes thereto included in our Annual Report on Form 10-K for the year ended June 30, 2021.

Recently Adopted Accounting Standards

In December 2019, the FASB issued ASU 2019-12 Income Taxes (Topic 740)—Simplifying the Accounting for Income Taxes, to remove certain exceptions related to the approach for intraperiod tax allocation, recognition of deferred tax liabilities for outside basis differences and requiring that an entity reflect the effect of an enacted change in tax laws or rates in the annual effective tax rate computation in the interim period that includes the enactment date. The amendments in this update are effective for us beginning with fiscal year 2022. The adoption of the amendments in this update did not have a material impact as of September 30, 2021 and is also not expected to have a material impact for the year ending June 30, 2022.

NOTE 2. DESCRIPTION OF BUSINESS

We specialize in the design, development and manufacture of autoclavable, battery-powered and electric, multi-function surgical drivers and shavers used primarily in the orthopedic, thoracic, and maxocranial facial markets. We have patented adaptive torque-limiting software and proprietary sealing solutions which appeal to our customers, primarily medical device distributors. We also manufacture and sell rotary air motors to a wide range of industries.

In August 2020, we formed a wholly owned subsidiary, PDEX Franklin, LLC (“PDEX Franklin”), to hold title for an approximate 25,000 square foot industrial building in Tustin, California (the “Franklin Property”) that we acquired on November 6, 2020, in order to allow for the continued growth of our business. The condensed consolidated financial statements include the accounts of the Company and PDEX Franklin and all significant inter-company accounts and transactions have been eliminated. This subsidiary has no separate operations.

NOTE 3. REVISION OF PREVIOUSLY ISSUED FINANCIAL STATEMENTS FOR CORRECTION OF IMMATERIAL ERRORS

We failed to timely adopt ASU 2016-01 – Accounting for Financial Instruments – Classification and Measurement, which states in part that changes in fair value of equity investments must be recognized in net income. We have completed an evaluation of the quantitative and qualitative impact of this error in our historical financial statements and concluded that our historical financial statements are not materially misstated. Accordingly, the prior year financial statements have been revised to reflect the impact of ASU 2016-1. The revised classification and reported values of our unrealized gains (losses) on marketable equity investments as accounted for under ASU2016-01 are included in the condensed consolidated financial statements herein. The impact to net income for the three months ended September 30, 2020 was a reduction of $107,000 with a corresponding increase in unrealized loss on marketable equity securities of $107,000, previously presented in other comprehensive income (loss). The revision resulted in a reduction to both basic and diluted earnings per share of $.03. As of June 30, 2021, the revision reclassified the remaining accumulated other comprehensive loss of $215,000 to retained earnings.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

NOTE 4. COMPOSITION OF CERTAIN FINANCIAL STATEMENT ITEMS

Investments

Investments are stated at fair market value and consist of the following (in thousands):

Schedule of investments
	September 30, 2021		June 30, 2021
Marketable equity securities - short-term	$	1,506	$	1,295
Marketable equity securities - long-term		1,656		1,704
Total marketable equity securities	$	3,162	$	2,999

Investments at September 30, 2021 and June 30, 2021 had an aggregate cost basis of $3,219,000 and $3,204,000, respectively. The long-term investments include equity investments of thinly traded securities that we classified as long-term in nature because if we decide to sell these securities we may not be able to sell our position within one year. At September 30, 2021, the investments included unrealized losses of $66,000 (gross unrealized losses of $448,000 offset by gross unrealized gains of $382,000). At June 30, 2021, the investments included net unrealized losses of $215,000 (gross unrealized losses of $386,000 offset by gross unrealized gains of $171,000).

Of the total marketable equity securities at September 30, 2021 and June 30, 2021, $1,420,000 and $1,224,000, respectively, represent an investment in the common stock of Air T, Inc. Two of our Board members are also board members of Air T, Inc. and both either individually or through affiliates own an equity interest in Air T, Inc. Our Chairman, one of the two Board members aforementioned, also serves as the Chief Executive Officer and Chairman of Air T, Inc. Another of our Board members is employed by Air T as its Chief of Staff. The shares were purchased through 10b5-1 Plans, that, in accordance with our internal policies regarding the approval of related-party transactions, were approved by our three Board members that are not affiliated with Air T, Inc.

We invest surplus cash from time to time through our Investment Committee, which is comprised of one management director, Mr. Van Kirk, and two non-management directors, Mr. Cabillot and Mr. Swenson, who chairs the committee. Both Mr. Cabillot and Mr. Swenson are active investors with extensive portfolio management expertise. We leverage the experience of these committee members to make investment decisions for the investment of our surplus operating capital or borrowed funds. Additionally, many of our securities holdings include stocks of public companies that either Messrs. Swenson or Cabillot or both may own from time to time either individually or through the investment funds that they manage, or other companies whose boards they sit on, such as Air T, Inc.

Inventory

Inventory is stated at the lower of cost (first-in, first-out) or net realizable value and consists of the following (in thousands):

Schedule of inventory
	September 30, 2021		June 30, 2021
Raw materials/purchased components	$	3,856	$	3,967
Work in process		2,833		2,218
Sub-assemblies/finished components		1,791		1,738
Finished goods		427		514
Total inventory	$	8,907	$	8,437

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

Intangibles

Intangibles consist of the following (in thousands):

Schedule of intangibles
	September 30, 2021			June 30, 2021
Patent-related costs	$	272		$	260
Less accumulated amortization		(77	)		(74	)
	$	195		$	186

Patent-related costs consist of legal fees incurred in connection with both patent applications and a patent issuance, and will be amortized over the estimated life of the product(s) that is or will be utilizing the technology, or expensed immediately in the event the patent office denies the issuance of the patent. Since we do not know when, or if, our patent applications will be issued, the future amortization expense is not predictable.

NOTE 5. WARRANTY

The warranty accrual is based on historical costs of warranty repairs and expected future identifiable warranty expenses and is included in accrued expenses in the accompanying balance sheets. As of September 30, 2021 and June 30, 2021, the warranty reserve amounted to $232,000 and $221,000, respectively. Warranty expenses are included in cost of sales in the accompanying statements of operations. Changes in estimates to previously established warranty accruals result from current period updates to assumptions regarding repair costs and warranty return rates and are included in current period warranty expense.

Information regarding the accrual for warranty costs for the three months ended September 30, 2021 and 2020 are as follows (in thousands):

Schedule of accrual warranty costs
	As of and for the Three Months Ended September 30,
	2021			2020
Beginning balance	$	221		$	213
Accruals during the period		32			80
Changes in estimates of prior period warranty accruals		(8	)		(8	)
Warranty amortization/utilization		(13	)		(95	)
Ending balance	$	232		$	190

NOTE 6. NET INCOME PER SHARE

The Company calculates basic net income per share by dividing net income by the weighted-average number of common shares outstanding during the reporting period. Diluted income per share reflects the effects of potentially dilutive securities, which consist entirely of outstanding stock options and performance awards.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

The following table presents reconciliations of the numerators and denominators of the basic and diluted income per share computations. In the tables below, income amounts represent the numerator, and share amounts represent the denominator (in thousands, except per share amounts):


	Three Months Ended September 30,
	2021		2020
Basic:
Net income	$	1,064	$	1,158
Weighted-average shares outstanding		3,651		3,851
Basic earnings per share	$	0.29	$	0.30
Diluted:
Net income	$	1,064	$	1,158
Weighted-average shares outstanding		3,651		3,851
Effect of dilutive securities		126		124
Weighted-average shares used in calculation of diluted earnings per share		3,777		3,975
Diluted earnings per share	$	0.28	$	0.29

NOTE 7. INCOME TAXES

Deferred income taxes are provided on a liability method whereby deferred tax assets and liabilities are recognized for temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more-likely-than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.

Significant management judgment is required in determining our provision for income taxes and the recoverability of our deferred tax assets. Such determination is based primarily on our historical taxable income or loss, with some consideration given to our estimates of future taxable income or loss by jurisdictions in which we operate and the period over which our deferred tax assets would be recoverable.

We recognize accrued interest and penalties related to unrecognized tax benefits when applicable. As of September 30, 2021, we recognized accrued interest of $51,000 related to unrecognized tax benefits. No interest or penalties were recognized as of June 30, 2021, since we had sufficient tax attributes available to fully offset any potential assessment of additional tax. Our effective tax rate for the three months ended September 30, 2021 and 2020, is 22% and 20%, respectively. The prior year effective tax rate is less than the current year rate due primarily to a tax benefit recognized as a result of the common stock awarded to our employees under previously granted performance awards (see Note 8).

We are subject to U.S. federal income tax, as well as income tax of multiple state tax jurisdictions. We are currently open to audit under the statute of limitations by the Internal Revenue Service for the years ended June 30, 2018 and later. Our state income tax returns are open to audit under the statute of limitations for the years ended June 30, 2017 and later. However, because of research credit carryovers, substantially all of our tax years are subject to audit. We do not anticipate a significant change to the total amount of unrecognized tax benefits within the next 12 months.

NOTE 8. SHARE-BASED COMPENSATION

Through 2014, we had two equity compensation plans, the Second Amended and Restated 2004 Stock Option Plan (the “Employee Stock Option Plan”) and the Amended and Restated 2004 Directors’ Stock Option Plan (the “Directors’ Stock Option Plan”) (collectively, the “Former Stock Option Plans”). The Employee Stock Option Plan and Directors’ Stock Option Plan were terminated in June 2014 and December 2014, respectively.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

In September 2016, our Board approved the establishment of the 2016 Equity Incentive Plan, which was approved by our shareholders at our 2016 Annual Meeting. The 2016 Equity Incentive Plan provides for the award of up to 1,500,000 shares of our common stock in the form of incentive stock options, nonstatutory stock options, stock appreciation rights, restricted shares, restricted stock units, performance awards, and other stock-based awards. As of September 30, 2021, 200,000 performance awards and 372,000 non-qualified stock options have been granted under the 2016 Equity Incentive Plan.

Former Stock Option Plans

There were no stock options granted during the three months ended September 30, 2021 and 2020. As of September 30, 2021, there was no unrecognized compensation cost under our Former Stock Option Plans as all outstanding stock options under those plans are fully vested. As of September 30, 2021, there were 6,500 options outstanding under our Former Stock Option Plans at weighted-average exercise prices of $1.82 per share. These outstanding options had a weighted-average remaining contractual life of 1.04 years and an intrinsic value of $155,000. During the first quarter ended September 30, 2021 and 2020, 25,000 and 20,000 options under our Former Stock Option Plans were exercised, at exercise prices of $1.80 and $1.97 per share, respectively.

Performance Awards

In December 2017, the Compensation Committee of our Board of Directors granted 200,000 performance awards to our employees under our 2016 Equity Incentive Plan, which will generally be paid in shares of our common stock. Whether any performance awards vest, and the amount that does vest, is tied to the completion of service periods that range from 7 months to 9.5 years at inception and the achievement of our common stock trading at certain pre-determined prices. The weighted-average fair value of the performance awards granted was $4.46, calculated using the weighted-average fair market value for each award, using a Monte Carlo simulation. In February 2020, the Compensation Committee reallocated 48,000 previously forfeited awards, having the same remaining terms and conditions, to certain employees. The weighted-average fair value of the performance awards granted in 2020 was $16.90, calculated using the weighted-average fair market value for each award, using a Monte Carlo simulation. We recorded share-based compensation expense of $21,000 for each of the three months ended September 30, 2021 and 2020 related to these performance awards. On September 30, 2021, there was approximately $139,000 of unrecognized compensation cost related to these non-vested performance awards expected to be expensed over the weighted-average period of 2.73 years.

On July 1, 2020, it was determined by the Compensation Committee of our Board of Directors that the vesting of the second of five tranches of 40,000 performance awards had been achieved and participants were awarded 40,000 shares of common stock. Each participant elected a net issuance to cover their individual withholding taxes and therefore the Company issued 25,629 shares and paid $259,000 of participant-related payroll tax liabilities.

Non-Qualified Stock Options

In December 2020, the Compensation Committee of our Board of Directors granted 310,000 non-qualified stock options to our directors and certain employees under the 2016 Equity Incentive Plan. Whether any stock options vest, and the amount that does vest, is tied to the completion of service periods that range from 18 months to 10.5 years at inception and the achievement of our common stock trading at certain pre-determined prices. We recorded compensation expense of $274,000 and $0 for the three months ended September 30, 2021 and 2020, respectively, related to these options. The weighted-average fair value of the stock option awards granted was $16.72, calculated using a Monte Carlo simulation. As of September 30, 2021, there was approximately $3.9 million of unrecognized compensation cost related to these non-vested non-qualified stock options.

In February 2021, the Compensation Committee of our Board of Directors granted 62,000 non-qualified stock options to our directors and certain employees under the 2016 Equity Incentive Plan. Whether any stock options vest, and the amount that does vest, is tied to the completion of service periods that range from 4 months to 1.3 years at inception and the achievement of our common stock trading at certain pre-determined prices. Of these 62,000 stock options, 57,750 vested on July 1, 2021, as our common stock met the pre-determined prices set forth in the underlying agreements. The weighted-average fair value of the stock option awards granted was $3.16, calculated using a Monte Carlo simulation.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

Employee Stock Purchase Plan

In September 2014, our Board approved the establishment of an Employee Stock Purchase Plan (the “ESPP”). The ESPP conforms to the provisions of Section 423 of the Internal Revenue Code, has coterminous offering and purchase periods of six months, and bases the pricing to purchase shares of our common stock on a formula so as to result in a per-share purchase price that approximates a 15% discount from the market price of a share of our common stock at the end of the purchase period. The Board of Directors also approved the provision that shares formerly reserved for issuance under the Former Stock Option Plans in excess of shares issuable pursuant to outstanding options, aggregating 704,715 shares, be reserved for issuance pursuant to the ESPP. The ESPP was approved by our shareholders at our 2014 Annual Meeting.

During the first quarters ended September 30, 2021 and 2020, 1,130 and 1,485 shares were purchased, respectively, under the ESPP and allocated to employees based upon their contributions at discount prices of $26.17 and $16.94, respectively, per share. On a cumulative basis, since the inception of the ESPP plan, employees have purchased a total of 25,593 shares. During each of the three months ended September 30, 2021 and 2020, we recorded stock compensation expense in the amount of $5,000 relating to the ESPP.

NOTE 9. MAJOR CUSTOMERS & SUPPLIERS

Information with respect to customers that accounted for sales in excess of 10% of our total sales in either of the three-month periods ended September 30, 2021 and 2020 is as follows (in thousands, except percentages):

Schedule of sales by major customers
	Three Months Ended September 30,
	2021					2020
	Amount		Percent of Total			Amount		Percent of Total

Total revenue	$	9,988		100	%	$	8,590		100	%

Customer concentration:
Customer 1	$	6,991		70	%	$	5,169		60	%
Customer 2		879		9	%		2,171		25	%
Total	$	7,870		79	%	$	7,340		85	%

Information with respect to accounts receivable from those customers that comprised more than 10% of our gross accounts receivable at either September 30, 2021 and June 30, 2021 is as follows (in thousands, except percentages):


	September 30, 2021				June 30, 2021
Total gross accounts receivable	$	10,100	100	%	$	10,935	100	%

Customer concentration:
Customer 1	$	7,622	75	%	$	6,666	61	%
Customer 2		1,311	13	%		3,710	34	%
Total	$	8,933	88	%	$	10,376	95	%

During the three months ended September 30, 2021 and 2020, we had three and two suppliers, respectively, that each accounted for more than 10% of total inventory purchases. Amounts owed to the fiscal 2022 significant suppliers at September 30, 2021 totaled $233,000, $177,000 and $306,000, respectively, and at June 30, 2021 totaled $184,000, $206,000 and $225,000, respectively.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

NOTE 10. NOTES PAYABLE AND FINANCING TRANSACTIONS

Minnesota Bank & Trust (“MBT”)

On November 6, 2020 (the “Closing Date”), PDEX Franklin, a newly created wholly owned subsidiary of the Company, purchased an approximate 25,000 square foot industrial building in Tustin, California (the “Franklin Property”). A portion of the purchase price was financed by a loan from MBT to PDEX Franklin in the principal amount of approximately $5.2 million (the “Property Loan”) pursuant to a Loan Agreement, dated as of the Closing Date, between PDEX Franklin and MBT (the “Property Loan Agreement”) and corresponding Term Note (the “Property Note”) issued by PDEX Franklin in favor of MBT on the Closing Date. The Property Loan is secured by the Franklin Property pursuant to a Deed of Trust with Assignment of Leases and Rents, Security Agreement and Fixture Filing in favor of MBT (the “Deed”) and by an Assignment of Leases and Rents by PDEX Franklin in favor of MBT (the “Rents Assignment”). We paid loan origination fees to MBT on the Closing Date in the amount of $26,037.

The Property Loan bears interest at a fixed rate of 3.55% per annum, which is subject to a 3% increase upon an event of default. Accrued interest is payable monthly beginning on December 1, 2020, and both principal and interest in the amount of approximately $30,000 are due and payable on the first day of each subsequent month until the maturity date of November 1, 2030 (the “Maturity Date”), at which time a balloon payment in the amount of $3.1 million is due. Any prepayment of the Property Loan (other than monthly scheduled interest and principal payments), is subject to a prepayment fee equal to 4% of the principal amount prepaid for any prepayment made during the first or second year, 3% of the principal amount prepaid for any prepayment made during the third or fourth year, 2% of the principal amount prepaid for any prepayment made during the fifth or sixth year, and 1% of the principal amount prepaid for any prepayment made during the seventh or eighth year. The Property Loan Agreement, Property Note, Deed, and Rents Assignment each contain representations, warranties, covenants, and events of default that are customary for a loan of this type. The balance owed on the Property Loan at September 30, 2021 is $5,074,000.

On the Closing Date, we also entered into an Amended and Restated Credit Agreement with MBT (the “Amended Credit Agreement”), providing for a $7,525,000 amended and restated term loan (the “Term Loan A”), a $1,000,000 term loan (the “Term Loan B”), and a $2,000,000 amended and restated revolving loan (the “Revolving Loan” and, together with the Term Loan A and the Term Loan B, collectively, the “Loans”), evidenced by an Amended and Restated Term Note A (“Term Note A”), a Term Note B, and an Amended and Restated Revolving Credit Note (the “Revolving Note”) made by us in favor of MBT. The Loans are secured by substantially all of the Company’s assets pursuant to a Security Agreement entered into on September 6, 2018 between the Company and MBT. The Term Note A had an outstanding principal balance of $3,770,331 as of the Closing Date and could be borrowed against through May 30, 2021 (the “Commitment Period”). During the third quarter ended March 31, 2021, we borrowed an additional $3,000,000 against Term Note A for the purpose of repurchasing shares of our common stock. The Term Note B had a zero balance as of the Closing Date and we borrowed the full $1,000,000 during the third quarter ended March 31, 2021, for the purpose of making improvements to the Franklin Property.

The Term Loan A matures on November 1, 2027 and bears interest at a fixed rate of 3.84% per annum. Initial payments on the Term Loan A of interest only were due on December 1, 2020 through June 1, 2021. Commencing July 1, 2021 and continuing on the first day of each month thereafter until the maturity date, we are required to make payments of principal and interest on Term Loan A of approximately $97,000 plus any additional accrued and unpaid interest through the date of payment. The balance owed on Term Loan A as of September 30, 2021, is $6,489,000.

The Term Loan B matures on November 1, 2027 and bears interest at a fixed rate of 3.84% per annum. Initial payments on the Term Loan B of interest only are due on December 1, 2020 through June 1, 2021. Commencing July 1, 2021 and continuing on the first day of each month thereafter until the maturity date, we are required to make payments of principal and interest on Term Loan B of approximately $15,000, plus any additional accrued and unpaid interest through the date of payment. As of March 31, 2021, we had drawn fully against Term Note B and the balance outstanding on Term Note B was $966,000 on September 30, 2021.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

The Revolving Loan may be borrowed against from time to time through its maturity date of November 5, 2021, which has since been extended (See Note 14), and bears interest at an annual rate equal to the greater of (a) 3.25% or (b) the prime rate as published in the Money Rates section of the Wall Street Journal. Commencing on the first day of each month after we initially borrow against the Revolving Loan and each month thereafter until maturity, we are required to pay all accrued and unpaid interest on the Revolving Loan through the date of payment. Any principal on the Revolving Loan that is not previously prepaid shall be due and payable in full on the maturity date (or earlier termination of the Revolving Loan). No amounts have been drawn against the Revolving Loan.

Any payment on the Loans not made within seven days after the due date is subject to a late payment fee equal to 5% of the overdue amount. Upon the occurrence and during the continuance of an event of default, the interest rate of all Loans will be increased by 3% and MBT may, at its option, declare the Loans immediately due and payable in full.

The Amended Credit Agreement, Security Agreement, Term Note A, Term Note B, and Revolving Note contain representations and warranties, affirmative, negative and financial covenants, and events of default that are customary for loans of this type.

NOTE 11. COMMON STOCK

Share Repurchase Program

In December 2019, our Board approved a new share repurchase program authorizing us to repurchase up to 1 million shares of our common stock, as the prior repurchase plan authorized by our Board in 2013 was nearing completion. In accordance with, and as part of, these share repurchase programs, our Board has approved the adoption of several prearranged share repurchase plans intended to qualify for the safe harbor Rule 10b5-1 under the Securities Exchange Act of 1934, as amended (“10b5-1 Plan” or “Plan”). During the quarter ended September 30, 2021, we repurchased 3,616 shares at an aggregate cost, inclusive of fees under the plan, of $95,000. During the quarter ended September 30, 2020, we did not repurchase any shares. On a cumulative basis, we have repurchased a total of 1,039,112 shares under the share repurchase programs at an aggregate cost, inclusive of fees, of $14.1 million. All repurchases under the 10b5-1 Plans were administered through an independent broker.

NOTE 12. LEASES

Effective July 1, 2019, we adopted the new lease accounting standard using the modified retrospective method of applying the new standard at the adoption date. In addition, we elected the practical expedient, which allowed us to carry forward the historical lease classification of our sole operating lease for our corporate office, which includes our manufacturing and research and development facilities. Adoption of this standard resulted in the recording of net operating lease right-of-use (“ROU”) asset and corresponding operating lease liability of $3.3 million.

Our operating lease ROU asset and long-term liability are presented separately on our condensed consolidated balance sheet. The current portion of our operating lease liability as of September 30, 2021, in the amount of $353,000, is presented within accrued expenses on the condensed consolidated balance sheet.

As of September 30, 2021, our operating lease has a remaining lease term of six 6 years and an imputed interest rate of 5.53%. Cash paid for amounts included in the lease liability was $120,000 for the three months ended September 30, 2021, excluding $12,000 paid for common area maintenance charges.

PRO-DEX, INC. AND SUBSIDIAIRIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

As of September 30, 2021, the maturity of our lease liability is as follows (in thousands):


	Operating Lease
Fiscal Year:
2022	$	369
2023		504
2024		519
2025		535
2026		551
Thereafter		710
Total lease payments		3,188
Less imputed interest		(493	)
Total	$	2,695

NOTE 13. COMMITMENTS AND CONTINGENCIES

Legal Matters

On August 24, 2021, one of our customers, through its counsel, sent notice that it is seeking indemnification from us regarding a pending complaint filed by a third-party claiming patent infringement on one of the products that we manufacture for this customer. Our assessment of the alleged claim is ongoing. As of the date of this filing, our position is that there is no infringement and/or that the patent at issue is invalid.

In addition to the above matter, we may be involved in legal proceedings arising either in the ordinary course of our business or incidental to our business. There can be no certainty, however, that we may not ultimately incur liability or that such liability will not be material or adverse.

NOTE 14. SUBSEQUENT EVENTS

On November 5, 2021, we entered into Amendment No. 1 to Amended and Restated Credit Agreement (the “Amendment”), which amends our Amended and Restated Credit Agreement with MBT to extend the maturity date of our existing $2,000,000 revolving credit note with MBT from November 5, 2021 to November 5, 2023 and to reduce the annual interest rate to the greater of (a) 2.75% or (b) the prime rate minus 0.5% as published in the Money Rates section of the Wall Street Journal.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with our unaudited interim condensed consolidated financial statements and the related notes and other financial information appearing elsewhere in this report.

COMPANY OVERVIEW

The following discussion and analysis provides information that management believes is relevant to an assessment and understanding of the results of operations and financial condition of Pro-Dex, Inc. (“Company,” “Pro-Dex,” “we,” “our,” or “us”) for the three-month periods ended September 30, 2021 and 2020. This discussion should be read in conjunction with the condensed consolidated financial statements and the notes thereto included elsewhere in this report. This report contains certain forward-looking statements and information. The cautionary statements included herein should be read as being applicable to all related forward-looking statements wherever they may appear. Our actual future results could differ materially from those discussed herein.

Except for the historical information contained herein, the matters discussed in this report, including, but not limited to, discussions of our product development plans, business strategies, strategic opportunities, and market factors influencing our results, are forward-looking statements that involve certain risks and uncertainties. Actual results may differ from those anticipated by us as a result of various factors, both foreseen and unforeseen, including, but not limited to, our ability to continue to develop new products and increase sales in markets characterized by rapid technological evolution, the impact of the COVID-19 pandemic on our suppliers, customers and us, consolidation within our target marketplace and among our competitors, competition from larger, better capitalized competitors, and our ability to realize returns on opportunities. Many other economic, competitive, governmental, and technological factors could impact our ability to achieve our goals. You are urged to review the risks, uncertainties, and other cautionary language described in this report, as well as in our other public disclosures and reports filed with the Securities and Exchange Commission (“SEC”) from time to time, including, but not limited to, the risks, uncertainties, and other cautionary language discussed in our Annual Report on Form 10-K for our fiscal year ended June 30, 2021.

We specialize in the design, development, and manufacture of powered rotary drive surgical instruments used primarily in the orthopedic, thoracic, and maxocranial facial (“CMF”) markets.

Our principal headquarters are located at 2361 McGaw Avenue, Irvine, California 92614 and our phone number is (949) 769-3200. Our Internet address is www.pro-dex.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, amendments to those reports, and other SEC filings are available free of charge through our website as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the SEC. In addition, our Code of Ethics and other corporate governance documents may be found on our website at the Internet address set forth above. Our filings with the SEC may also be read and copied at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC at www.sec.gov and company specific information at www.sec.gov/edgar/searchedgar/companysearch.html.

Basis of Presentation

The condensed results of operation presented in this report are not audited and those results are not necessarily indicative of the results to be expected for the entirety of our fiscal year ending June 30, 2022, or any other interim period during such fiscal year. Our fiscal year ends on June 30 and our fiscal quarters end on September 30, December 31, and March 31. Unless otherwise stated, all dates refer to our fiscal year and those fiscal quarters.

Critical Accounting Estimates and Judgments

Our financial statements are prepared in accordance with U.S. GAAP. The preparation of our financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures. We base our estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates.

An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, and if different estimates that reasonably could have been used or changes in the accounting estimate that are reasonably likely to occur could materially change the financial statements. Management believes that there have been no significant changes during the three months ended September 30, 2021, to the items that we disclosed as our critical accounting policies in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for our fiscal year ended June 30, 2021.

Business Strategy and Future Plans

Our business today is almost entirely driven by sales of our medical devices. Many of our significant customers place purchase orders for specific products that were developed by us under various development and/or supply agreements. Our customers may request that we design and manufacture a custom surgical device or they may hire us as a contract manufacturer to manufacture a product of their own design. In either case, we have extensive experience with autoclavable, battery-powered and electric, multi-function surgical drivers, and shavers. We continue to focus a significant percentage of our time and resources on providing outstanding products and service to our valued principal customers. During the first quarter of fiscal 2021, our largest customer executed an amendment to our existing supply agreement such that we shall continue to supply their surgical handpieces to them through calendar 2025.

Simultaneously, we are working to build top-line sales through active proposals of new medical device products with new and existing customers. Our patented adaptive torque-limiting software has been very well received in the CMF and thoracic markets. Additionally, we have other significant engineering projects under way described more fully below under “Results of Operations”.

In November 2020, we purchased an approximate 25,000 square foot industrial building in Tustin, California (the “Franklin Property”). This building is located approximately four miles from our Irvine, California headquarters and was acquired to provide us additional capacity for our expected continued future growth, including anticipated expanded capacity for the manufacture of batteries and new products. Currently, we are completing our build-out of the property and performing necessary validations for both equipment and processes and have yet to transition any of our employees into the facility. We expect that we will begin operations in the new facility during the second quarter.

In summary, our current objectives are focused primarily on maintaining our relationships with our current medical device customers, investing in research and development activities to design Pro-Dex branded drivers to leverage our torque-limiting software, expansion of our manufacturing capacity through the build-out of the Franklin Property, and promoting active product development proposals to new and existing customers for both orthopedic shavers and screw drivers for a multitude of surgical applications, while monitoring closely the progress of all these individual endeavors. Our investments in research and development have increased disproportionately to our growth in revenue and we anticipate this to continue in the near term. These expenditures are being made in an effort to release new products and garner new customer relationships. While we expect revenue growth in the future, it may not be a consistent trajectory but rather periods of incremental growth that current expenditures are helping to create. However, there can be no assurance that we will be successful in any of these objectives.

COVID-19 Pandemic

We have adjusted certain policies and procedures based on applicable national, state, and local emergency orders and safety guidance that may be issued from time to time, in order to effectively manage our business during the pandemic, including:

Non-essential employees that are able to work remotely are doing so;

Increased frequency of disinfectant cleanings, especially for high-touch surfaces;

Curtailed business travel;

Multiple, staggered work shifts have been implemented in order to achieve effective social distancing;

Provided training, education and appropriate personal protective equipment; and

Implemented quarterly company-wide COVID-19 testing.

While we have yet to see any significant decline in our customer orders, we have received and accepted some customer requests to delay the shipment of their existing orders. We provide our largest customer with a device used primarily in elective surgeries and although this customer has not requested a reduction or delay to their planned shipments, if this pandemic continues to adversely impact the United States and other markets where our products are sold, coupled with the potential for recommended deferrals of elective procedures by governments and other authorities, we would expect to see a decline in demand from certain of our customers, including our principal customer.

We are focused on the health and safety of all those we serve – our customers, our communities, our employees, and our suppliers. We are supporting our customers according to their priorities and working with them to the degree that we can offer relief in the form of delayed shipments. We are focused on continuity of supply by working with our suppliers, some of whom have delivered our orders late and are quoting longer lead times.

While the COVID-19 pandemic has not materially adversely affected our financial results and business operations thus far, we cannot predict the full impact of the COVID-19 pandemic on our business.

Results of Operations

The following tables set forth results from continuing operations for the three months ended September 30, 2021 and 2020 (in thousands, except percentages):

	Three Months Ended September 30,
	2021					2020
	Dollars in thousands
			% of Net Sales						% of Net Sales
Net sales	$	9,988		100	%	$	8,590			100	%
Cost of sales		6,560		66	%		5,115			60	%
Gross profit		3,428		34	%		3,475			40	%
Selling expenses		37		—			130			2	%
General and administrative expenses		1,093		11	%		705			8	%
Research and development costs		980		10	%		1,091			13	%
		2,110		21	%		1,926			22	%
Operating income		1,318		13	%		1,549			18	%
Other income (expense), net		53		1	%		(108	)		(1	%)
Income before income taxes		1,371		14	%		1,441			17	%
Provision for income taxes		307		3	%		283			3	%
Net income	$	1,064		11	%	$	1,158			14	%

Revenue

The majority of our revenue is derived from designing, developing, and manufacturing surgical devices. We continue to sell our rotary air motors for industrial and scientific applications, but our focus remains in medical devices. The proportion of total sales by type is as follows (in thousands, except percentages):

	Three Months Ended September 30,												Increase (Decrease) From 2020 To 2021
	2021						2020
	Dollars in thousands
				% of Net Sales						% of Net Sales
Net sales:
Medical device	$	8,284			83	%	$	6,740			78	%		23	%
Industrial and scientific		216			2	%		164			2	%		32	%
Dental and component		62			1	%		62			1	%		—
NRE & proto-types		196			2	%		10			—			1,860	%
Repairs		1,459			14	%		1,627			19	%		(10	%)
Discounts and other		(229	)		(2	%)		(13	)		—			1,661	%
	$	9,988			100	%	$	8,590			100	%		16	%

Certain of our medical device products utilize proprietary designs developed by us under exclusive development and supply agreements. All of our medical device products utilize proprietary manufacturing methods and know-how, and are manufactured in our Irvine, California facility. Details of our medical device sales by type is as follows (in thousands, except percentages):

	Three Months Ended September 30,										Increase (Decrease) From 2020 To 2021
	2021					2020
	Dollars in thousands
			% of Med Device Sales					% of Med Device Sales
Medical device sales:
Orthopedic	$	5,706		69	%	$	3,689		55	%		55	%
CMF		2,387		29	%		1,525		22	%		57	%
Thoracic		191		2	%		1,526		23	%		(88	%)
	$	8,284		100	%	$	6,740		100	%		23	%

Our medical device revenue increased $1.5 million, or 23%, in the first quarter of fiscal 2022 compared to the corresponding period of the prior fiscal year. Our orthopedic sales include the surgical handpiece that we sell to our largest customer which increased $2.0 million in the current year due to a supply disruption in the first quarter of the prior year that did not recur in the current year. Sales of our CMF products increased $862,000 in the first quarter of fiscal 2022 compared to the corresponding period of the prior fiscal year due in part to the launch of a new driver to our existing largest customer during the third quarter of the prior fiscal year. Sales of our thoracic drivers decreased $1.3 million in the first quarter of fiscal 2022 compared to the corresponding period of the prior fiscal year due primarily as a result of our customer filling the near-term requirements of its distribution network.

Sales of our compact pneumatic air motors increased $52,000, or 32%, in the first quarter of fiscal 2022 compared to the corresponding period of the prior fiscal year. The revenue increase relates to a continued interest in these legacy products but is not due to any substantive marketing efforts. Sales of our dental products and components remained flat in the first quarter of fiscal 2022 compared to the corresponding quarter of the prior fiscal year. We will continue to experience future declines in this area as we are no longer manufacturing dental products, but rather simply selling remaining inventory. Our non-recurring engineering (“NRE”) and proto-type revenue increased $186,000 in the first quarter of fiscal 2022 compared to the corresponding period of the prior fiscal year, due to increased billable contracts in the current fiscal first quarter. Our NRE and proto-type revenue is typically a small percentage of our total revenue and can vary significantly from quarter to quarter.

Repair revenue decreased by $168,000 in the first quarter of fiscal 2022 compared to the corresponding period of the prior fiscal year, due to decreased repairs of the orthopedic handpiece we sell to our largest customer. Typically, upon initial product launch, repair revenue is minimal as most repairs are typically covered under warranty, but as the products mature in the marketplace and after a certain number of routine duty cycles in the operating room, repairs generally increase.

Discounts and other increased by $216,000 in the first quarter of fiscal 2022 compared to the corresponding period of the prior fiscal year, due to volume rebates related to the orthopedic handpiece we sell to our largest customer which they negotiated in conjunction with our contract extension through 2025.

At September 30, 2021, we had a backlog of approximately $12.8 million, of which $12.6 million is scheduled for delivery during the remainder of fiscal 2022. Our backlog represents firm purchase orders received and acknowledged from our customers and does not include all revenue expected to be generated from existing customer contracts. We may experience variability in our new order bookings due to various reasons, including, but not limited to, the timing of major new product launches and customer planned inventory builds. However, we do not typically experience seasonal fluctuations in our shipments and revenues.

Cost of Sales and Gross Margin

	Three Months Ended September 30,											Increase (Decrease) From 2020 To 2021
	2021						2020
	Dollars in thousands
				% of Net Sales					% of Net Sales
Cost of sales:
Product costs	$	6,632			66	%	$	4,915		58	%		35	%
Under-(over) absorption of manufacturing costs		(146	)		(1	%)		94		1	%		(255	%)
Inventory and warranty charges		74			1	%		106		1	%		(30	%)
Total cost of sales	$	6,560			66	%	$	5,115		60	%		28	%
Gross profit and gross margin	$	3,428			34	%	$	3,475		40	%		(1	%)

Cost of sales for the three-month period ended September 30, 2021 increased by $1.4 million, or 28%, compared to the corresponding period of the prior fiscal year. Although some of the increase in cost of sales is consistent with the 16% increase in revenue for the same period, some of the increase relates to the change in product mix from the first quarter of fiscal 2021 to 2022. Product costs increased by 35% during the three months ended September 30, 2021, compared to the corresponding period of the prior fiscal year, due to both higher material costs and higher direct costs in our machine shop, materials, assembly and quality departments. During the first quarter of fiscal 2022 we experienced $146,000 of over-absorbed manufacturing costs compared to an under-absorption of $94,000 in the first quarter of fiscal 2021, primarily due to actual production hours exceeding the corresponding period of the prior fiscal year. Costs related to inventory and warranty charges decreased $32,000 in the first quarter of fiscal 2022 compared to the corresponding quarter of fiscal 2021, due primarily to a prior year accrual for the replacement cost of batteries owed to one of our customers. No similar costs were incurred in the first quarter of fiscal 2022.

Gross profit decreased by approximately $47,000, or 1%, for the three months ended September 30, 2021 compared to the corresponding period of the prior fiscal year, and gross margin as a percentage of sales decreased by approximately six percentage points between such periods, primarily as a result of product mix.

Operating Costs and Expenses

	Three Months Ended September 30,										Increase (Decrease) From 2019 To 2020
	2021					2020
	Dollars in thousands
			% of Net Sales					% of Net Sales
Operating expenses:
Selling expenses	$	37		—		$	130		1	%		(72	%)
General and administrative expenses		1,093		11	%		705		8	%		55	%
Research and development costs		980		10	%		1,091		13	%		(10	%)
	$	2,110		21	%	$	1,926		22	%		10	%

Selling expenses consist of salaries and other personnel-related expenses in support of business development, as well as trade show attendance, advertising and marketing expenses, and travel and related costs incurred in generating and maintaining our customer relationships. Selling expenses for the three months ended September 30, 2021 decreased $93,000, or 72%, compared to the corresponding year-earlier period. The decrease is primarily due to decreased personnel and related expenses due to combining our Director of Business Development position with our Director of Engineering in the first quarter of fiscal 2022.

General and administrative expenses (“G&A”) consist of salaries and other personnel-related expenses of our accounting, finance, and human resources personnel, professional fees, directors’ fees, and other costs and expenses attributable to being a public company. G&A increased by $388,000, or 55%, for the three months ended September 30, 2021, when compared to the corresponding period of the prior fiscal year. The increase in total G&A expenses was primarily related to non-cash compensation expense related to the non-qualified stock options granted in the prior fiscal year.

Research and development costs generally consist of compensation and other personnel-related costs of our engineering and support personnel, related professional and consulting fees, patent-related fees, lab costs, materials, and travel and related costs incurred in the development and support of our products. Research and development costs decreased $111,000, or 10%, for the quarter ended September 30, 2021, compared to the corresponding prior year period. The decrease is due primarily to a decrease in the amount of $51,000 in engineering projects for new product development as well as an increase of $58,000 relating to billable non-recurring engineering, which amount has been reclassified to cost of sales in the condensed consolidated statement of income.

Although the majority of our research and development costs relate to sustaining activities related to products we currently manufacture and sell, we have created a product roadmap to develop future products. Research and development costs represent between 46% and 57% of total operating expenses for all periods presented and are expected to increase in the future as we continue to invest in product development.

The amount spent on projects under development, along with the current estimated commercial launch date and estimated recurring annual revenue, is summarized below (in thousands):

	For the Three Months Ended September 30,
	2021		2020		Market Launch⁽¹⁾			Est. Annual Revenue
Total Research & Development costs:	$	980	$	1,091

Products in development:
ENT Shaver	$	232	$	183		Q4 2021		$	1,000
VITAL Ventilator		115		57		Q1 2022		$	1,500
CMF Driver		—		189		(2	)	$	1,000
Sustaining & Other		633		662
Total.	$	980	$	1,091

⁽¹⁾	Represents the calendar quarter of expected market launch.

⁽²⁾	The CMF Driver was completed in the third quarter of fiscal 2021 and began shipping to our existing largest customer under a distribution agreement we executed in the first quarter of fiscal 2021.

As we introduce new products into the market, we expect to see an increase in sustaining and other engineering expenses. Typical examples of sustaining engineering activities include, but are not limited to, end-of- life component replacement, especially in electronic components found in our printed circuit board assemblies, analysis of customer complaint data to improve process and design, replacement and enhancement of tooling and fixtures used in the machine shop, assembly operations, and inspection areas to improve efficiency and through-put. Additionally, these costs include development projects that may be in their infancy and may or may not result in a full-fledged product development effort.

Other Income (Expense), net

The interest expense recorded during the quarters ended September 30, 2021 and 2020 relates to our Minnesota Bank and Trust (“MBT”) loan described more fully in Note 10 to the condensed consolidated financial statements contained elsewhere in this report. The unrealized gain (loss) on marketable securities for the quarters ended September 30, 2021 and 2020 relates to our portfolio of investments described more fully in Note 4 to the condensed consolidated financial statements contained elsewhere in this report. The interest and miscellaneous income recorded during the quarters ended September 30, 2021 and 2020, consists primarily of interest and dividends from our investments and money market accounts as well as $12,000 of realized gains from the sale of marketable securities during the quarter ended September 30, 2020.

Income Tax Expense

The effective tax rate for the three months ended September 30, 2021 and 2020 is 22% and 20%, respectively. The prior year effective tax rate is less than the current year rate due primarily to a tax benefit recognized as a result of the common stock awarded to our employees described more fully in Note 8 to the condensed consolidated financial statements contained elsewhere in this report.

Liquidity and Capital Resources

Cash and cash equivalents at September 30, 2021 increased $1.5 million to $5.2 million as compared to $3.7 million at June 30, 2021. The following table includes a summary of our condensed statements of cash flows contained elsewhere in this report.

	As of and For the Three Months Ended September 30,
	2021			2020
	(in thousands)
Cash provided by (used in):
Operating activities	$	2,701		$	(888	)
Investing activities	$	(874	)	$	25
Financing activities	$	(371	)	$	(356	)

Cash and Working Capital:
Cash and cash equivalents	$	5,177		$	5,202
Working capital	$	19,806		$	18,087

Operating Activities

Net cash provided by operating activities during the three months ended September 30, 2021 totaled $2.7 million. The primary sources of cash arose from (a) our net income for the quarter of $1.1 million, as well as non-cash share-based compensation and depreciation and amortization of $300,000 and $184,000, respectively, (b) a decrease of $834,000 in accounts receivable due to more timely collection of receivables from our largest customer, and (c) a decrease in prepaid expenses and other current assets of $284,000. Uses of cash arose primarily from an increase in inventory of $470,000 primarily related to timing of various components and advance procurement of long-lead time items.

Net cash used by operating activities during the three months ended September 30, 2020 totaled $888,000. The primary sources of cash arose from our net income for the quarter of $1,158,000, as well as non-cash depreciation and amortization of $150,000, offset by an increase in accounts receivable of $986,000 due to extended payment terms from our largest customers, a decrease in accounts payable and accrued expenses of $767,000, as well as payments for income taxes in the amount of $747,000.

Investing Activities

Net cash used in investing activities for the three months ended September 30, 2021 was $874,000 and related primarily to the purchase of manufacturing equipment and improvements at the Franklin Property in the amount of $847,000.

Net cash provided by investing activities for the three months ended September 30, 2020 was $25,000 and related primarily to the sale of marketable equity securities in the amount of $115,000 offset by the purchase of capitalized equipment and software in the amount of $89,000.

Financing Activities

Net cash used in financing activities for the three months ended September 30, 2021 included the repurchase of $95,000 of common stock pursuant to our share repurchase program, as well as payments of $306,000 on our loans from MBT more fully described in Note 10 to the condensed consolidated financial statements contained elsewhere in this report.

Net cash used in financing activities for the three months ended September 30, 2020 included payments of $161,000 on our existing term loan from MBT as well as $259,000 of employee payroll taxes related to the award of 40,000 shares of common stock to employees under previously granted performance awards.

Financing Facilities & Liquidity Requirements for the Next Twelve Months

As of September 30, 2021, our working capital was $19.8 million. We currently believe that our existing cash and cash equivalent balances together with our account receivable balances will provide us sufficient funds to satisfy our cash requirements as our business is currently conducted for at least the next 12 months. In addition to our cash and cash equivalent balances, we expect to derive a portion of our liquidity from our cash flows from operations. We may also borrow against our $2.0 million Revolving Loan with MBT, which we have recently renewed. (See Notes 10 and 14 to condensed consolidated financial statements contained elsewhere in this report.)

We are focused on preserving our cash balances by monitoring expenses, identifying cost savings, and investing only in those development programs and products that we believe will most likely contribute to our profitability. As we execute on our current strategy, however, we may require debt and/or equity capital to fund our working capital needs and requirements for capital equipment to support our manufacturing and inspection processes. In particular, we have experienced negative operating cash flow in the past, especially as we procure long-lead time materials to satisfy our backlog, which can be subject to extensive variability. We believe that if we need additional capital to fund our operations, we can borrow against our revolving loan with MBT, or sell additional shares of our common stock under our previously disclosed ATM Agreement, which is currently suspended.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not applicable.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Our Chief Executive Officer (our principal executive officer) and Chief Financial Officer (our principal financial officer and principal accounting officer) have concluded based on their evaluation as of September 30, 2021, that our “disclosure controls and procedures” (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”)) were not effective because of the identification of a material weakness. A material weakness is a deficiency in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected in a timely manner. The material weakness we discovered relates to a lack of controls surrounding analysis of appropriate accounting pronouncements, in this case ASU 2016-01 Accounting for Financial Instruments – Classification and Measurement. We have since put in place a system to monitor and evaluate any new financial statement line item above a certain threshold to ensure that a thorough review of the accounting treatment and disclosure is documented. While this planned action is intended to assist management with identifying financial accounting standards that may pertain to our business and our operations, we remain committed to the continuous improvement of our internal control over financial reporting and may implement further changes intended to enhance our internal control over financial reporting.

The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures also include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive officer and principal financial officer and principal accounting officer, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure.

Internal Control over Financial Reporting

During the three months ended September 30, 2021, in addition to the material weakness described above, our human resources director began a leave of absence and since that time the accounting department has been performing the human resources job functions. Additionally, three months ended September 30, 2021, our Director of Operations retired and that position’s responsibilities are primarily being assumed by our Chief Executive Officer. As a small company, these changes in personnel and reallocation of duties can have an impact on our internal controls. There were no other changes in our internal controls over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act) that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

Inherent Limitations on the Effectiveness of Controls

In designing and evaluating our disclosure controls and procedures, our management recognized that any system of controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, as ours are designed to do, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risks that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

PART II — OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

See Note 13 of Notes to condensed financial statements contained elsewhere in this report.

ITEM 1A. RISK FACTORS

Our business, future financial condition, and results of operations are subject to a number of factors, risks, and uncertainties, which are disclosed in Item 1A, entitled “Risk Factors,” in Part I of our Annual Report on Form 10-K for our fiscal year ended June 30, 2021, as well as any amendments thereto or additions and changes thereto contained in this quarterly report on Form 10-Q for the quarter ended September 30, 2021. Additional information regarding some of those risks and uncertainties is contained in the notes to the condensed financial statements included elsewhere in this report and in Part I, Item 2, of this report entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The risks and uncertainties disclosed in our Form 10-K, our quarterly reports on Form 10-Q and other reports filed with the SEC are not necessarily all of the risks and uncertainties that may affect our business, financial condition and results of operations in the future. There have been no material changes to the risk factors as disclosed in our Annual Report on Form 10-K for the fiscal year ended June 30, 2021.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Repurchases by the Company of its common stock during the quarter ended September 30, 2021 were as follows:

Period	Total Number of Shares Purchased	Average Price Paid per Share	Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs
July 1, 2021 to July 31, 2021	–	–	–	790,603
August 1, 2021 to August 31, 2021	–	–	–	790,603
September 1, 2021 to September 30, 2021	3,616	$26.18	3,616	786,987

All repurchases were made pursuant to the Company’s previously announced repurchase program. For information concerning the Company’s repurchase program, please see the discussion under the caption “Share Repurchase Program” in Note 10 to the condensed consolidated financial statements included elsewhere in this report.

ITEM 6. EXHIBITS

Exhibit		Description
10.1		Amendment No. 1 to Amended and Restated Credit Agreement dated November 5, 2021 by and between Pro-Dex, Inc. and Minnesota Bank & Trust (incorporated herein by reference to Exhibit 10.1 to the Company’s Form 8-K filed November 9, 2021)
10.2		Amended and Restated Revolving Credit Note dated November 5, 2021 made by Pro-Dex in favor of Minnesota Bank & Trust (incorporated herein by reference to Exhibit 10.2 to the Company’s Form 8-K filed November 9, 2021)
31.1		Certification of Principal Executive Officer Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Certification of Principal Financial Officer Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32		Certifications of Principal Executive Officer and Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS		Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document)
101.SCH		Inline XBRL Taxonomy Extension Schema Document
101.CAL		Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF		Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB		Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE		Inline XBRL Taxonomy Extension Presentation Linkbase Document
104		Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

	PRO-DEX, INC.

Date: November 15, 2021	By:	/s/ Richard L. Van Kirk
		Richard L. Van Kirk
		Chief Executive Officer (principal executive officer)

Date: November 15, 2021

By:

/s/ Alisha K. Charlton

Alisha K. Charlton

Chief Financial Officer

(principal financial officer and principal accounting officer)

EXHIBIT INDEX

Exhibit		Description
10.1		Amendment No. 1 to Amended and Restated Credit Agreement dated November 5, 2021 by and between Pro-Dex, Inc. and Minnesota Bank & Trust (incorporated herein by reference to Exhibit 10.1 to the Company’s Form 8-K filed November 9, 2021)
10.2		Amended and Restated Revolving Credit Note dated November 5, 2021 made by Pro-Dex in favor of Minnesota Bank & Trust (incorporated herein by reference to Exhibit 10.2 to the Company’s Form 8-K filed November 9, 2021)
31.1		Certification of Principal Executive Officer Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Certification of Principal Financial Officer Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32		Certifications of Principal Executive Officer and Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS		Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document)
101.SCH		Inline XBRL Taxonomy Extension Schema Document
101.CAL		Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF		Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB		Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE		Inline XBRL Taxonomy Extension Presentation Linkbase Document
104		Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)

SEC Form 10-Q filed by Pro-Dex, Inc.