Pioneer Power Solutions, Inc.: Form 10-Q for the period ended Mar 31, 2023

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying consolidated interim financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and with our Annual Report on Form 10-K for the year ended December 31, 2022, which was filed with the Securities and Exchange Commission on April 11, 2023.

Unless the context requires otherwise, references in this Quarterly Report on Form 10-Q to the “Company,” “Pioneer,” “we,” “our” and “us” refer to Pioneer Power Solutions, Inc. and its subsidiaries.

Special Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains “forward-looking statements,” which include information relating to future events, future financial performance, financial projections, strategies, expectations, competitive environment and regulation. Words such as “may,” “should,” “could,” “would,” “predicts,” “potential,” “continue,” “expects,” “anticipates,” “future,” “intends,” “plans,” “believes,” “estimates,” and similar expressions, as well as statements in future tense, identify forward-looking statements. Forward-looking statements should not be read as a guarantee of future performance or results and may not be accurate indications of when such performance or results will be achieved. Forward-looking statements are based on information we have when those statements are made or management’s good faith belief as of that time with respect to future events, and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in or suggested by the forward-looking statements. Important factors that could cause such differences include, but are not limited to:

• General economic conditions and their effect on demand for electrical equipment, particularly in the commercial construction market, but also in the power generation, industrial production, data center, oil and gas, marine and infrastructure industries.
• The effects of fluctuations in sales on our business, revenues, expenses, net income (loss), income (loss) per share, margins and profitability.
• Many of our competitors are better established and have significantly greater resources and may subsidize their competitive offerings with other products and services, which may make it difficult for us to attract and retain customers.
• The potential loss or departure of key personnel, including Nathan J. Mazurek, our chairman, president and chief executive officer.
• Our ability to generate internal growth, maintain market acceptance of our existing products and gain acceptance for our new products.
• Unanticipated increases in raw material prices or disruptions in supply could increase production costs and adversely affect our profitability.
• Our ability to realize revenue reported in our backlog.
• Operating margin risk due to competitive pricing and operating efficiencies, supply chain risk, material, labor or overhead cost increases, interest rate risk and commodity risk.
• Strikes or labor disputes with our employees may adversely affect our ability to conduct our business.
• The impact of geopolitical activity on the economy, changes in government regulations such as income taxes, climate control initiatives, the timing or strength of an economic recovery in our markets and our ability to access capital markets.
• Material weaknesses in internal controls.
• Future sales of large blocks of our common stock may adversely impact our stock price.
• The liquidity and trading volume of our common stock.
• Our business could be adversely affected by an outbreak of disease, epidemic or pandemic, such as the global coronavirus pandemic, or similar public threat, or fear of such an event.

The foregoing does not represent an exhaustive list of matters that may be covered by the forward-looking statements contained herein or risk factors that we are faced with that may cause our actual results to differ from those anticipated in our forward-looking statements. Moreover, new risks regularly emerge, and it is not possible for us to predict or articulate all risks we face, nor can we assess the impact of all risks on our business or the extent to which any risk, or combination of risks, may cause actual results to differ from those contained in any forward-looking statements. Except to the extent required by applicable laws or rules, we undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. You should review carefully the risks and uncertainties described under the heading “Part II - Item 1A. Risk Factors” in this Quarterly Report on Form 10-Q and “Part I - Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2022 for a discussion of the foregoing and other risks that relate to our business and investing in shares of our common stock.

Business Overview

We design, manufacture, integrate, refurbish, service, distribute and sell electric power systems, distributed energy resources, power generation equipment and mobile electric vehicle (“EV”) charging solutions. Our products and services are sold to a broad range of customers in the utility, industrial and commercial markets. Our customers include, but are not limited to, electric, gas and water utilities, data center developers and owners, EV charging infrastructure developers and owners, and distributed energy developers. We are headquartered in Fort Lee, New Jersey and operate from three (3) additional locations in the U.S. for manufacturing, service and maintenance, engineering, and sales and administration.

Description of Business Segments

We have two reportable segments: Transmission & Distribution Solutions (“T&D Solutions”) and Critical Power Solutions (“Critical Power”).

• Our T&D Solutions business provides equipment solutions that help customers effectively and efficiently protect, control, transfer, monitor and manage their electric energy requirements. These solutions are marketed principally through our Pioneer Custom Electrical Products Corp. (“PCEP”) brand name.
• Our Critical Power business provides customers with our suite of mobile e-Boost© EV charging solutions, power generation equipment and all forms of service and maintenance on our customers’ power generation equipment. These products and services are marketed by our operations headquartered in Minnesota, currently doing business under both the Titan Energy Systems Inc. (“Titan”) and Pioneer Critical Power brand names.

Critical Accounting Policies and Estimates

Our financial statements have been prepared in accordance with U.S. GAAP. The preparation of our financial statements requires us to make estimates and assumptions that affect the amounts and disclosures in the financial statements. Our estimates are based on our historical experience, knowledge of current events and actions we may undertake in the future, and on various other factors that we believe are reasonable under the circumstances. Our critical accounting policies and estimates are described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies” in our Annual Report on Form 10-K filed with the SEC on April 11, 2023. There were no material changes to our accounting policies during the three months ended March 31, 2023.

RESULTS OF OPERATIONS

Overview of the Three-Month Results

Selected financial and operating data for our reportable business segments for the most recent reporting period is summarized below. This information, as well as the selected financial data provided in “Note 12 - Business Segment and Geographic Information” and in our unaudited Consolidated Financial Statements and related notes included in this Quarterly Report on Form 10-Q, should be referred to when reading our discussion and analysis of results of operations below.

Our summary of operating results during the three months ended March 31, 2023 and 2022 are as follows:

Backlog

Our backlog is based on firm orders from our customers expected to be delivered in the future, most of which is expected to occur during the next twelve months. Backlog may vary significantly from reporting period to reporting period due to the timing of customer commitments. Backlog reflects the amount of revenue we expect to realize upon the shipment of customer orders for our products that are not yet complete or for which work has not yet begun. At March 31, 2023, backlog from our E-Bloc power systems solutions was approximately $24.4 million, or 66% of the total backlog.

The following table represents the progression of our backlog, by reporting segment, as of the end of the last five quarters:

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Revenue

The following table represents our revenues by reporting segment and major product category for the periods indicated (in thousands, except percentages):

For the three months ended March 31, 2023, our consolidated revenue increased by $2.1 million, or 33.7%, to $8.5 million, up from $6.4 million during the three months ended March 31, 2022, primarily due to an increase in sales of our power systems from our T&D Solutions segment.

T&D Solutions. During the three months ended March 31, 2023, revenue from our power systems product lines increased by $2.0 million, or 55.2%, as compared to the three months ended March 31, 2022, primarily due to increased sales of our E-Bloc power systems and automatic transfer switches and a decrease in sales of our medium and low voltage power systems.

Critical Power. For the three months ended March 31, 2023, revenue for our Critical Power segment increased by $107, or 4.1%, as compared to the three months ended March 31, 2022, primarily due to a reduction in sales of our equipment and an increase in service sales.

Gross Profit and Margin

The following table represents our gross profit by reporting segment for the periods indicated (in thousands, except percentages):

For the three months ended March 31, 2023, our consolidated gross margin increased to 26.0% of revenues, as compared to 14.5% during three months ended March 31, 2022.

T&D Solutions. For the three months ended March 31, 2023, our gross margin percentage increased by 15.0%, from 11.4% to 26.4%, as compared to the three months ended March 31, 2022. The increase was primarily due to increased sales our E-Bloc power systems and automatic transfer switches, a favorable sales mix and improved productivity from our manufacturing facility.

Critical Power Solutions. For the three months ended March 31, 2023, our gross margin increased by 6.2%, to 25.1%, from 18.9% for the three months ended March 31, 2022. The increase was predominately due to a favorable sales mix and the acceptance of price increases from our customers.

Operating Expenses

The following table represents our operating expenses by reportable segment for the periods indicated (in thousands, except percentages):

Selling, General and Administrative Expense. For the three months ended March 31, 2023, consolidated selling, general and administrative expense, before depreciation and amortization, increased by approximately $314, or 18.3%, to $2.0 million, due to an increase in payroll related costs, including stock-based compensation, professional fees, depreciation expense and product development costs related to our e-Boost initiative, as compared to $1.7 million during the three months ended March 31, 2022. As a percentage of our consolidated revenue, selling, general and administrative expense, before depreciation and amortization, decreased to 23.9% during the three months ended March 31, 2023, as compared to 27.0% in the three months ended March 31, 2022.

Depreciation and Amortization Expense. Depreciation and amortization expense consists primarily of depreciation of fixed assets and amortization of right-of-use assets related to our finance leases and excludes amounts included in cost of sales. For the three months ended March 31, 2023, consolidated depreciation and amortization expense increased by $98, or 363.0%, as compared to the three months ended March 31, 2022.

Operating Income (Loss)

The following table represents our operating income (loss) by reportable segment for the periods indicated (in thousands, except percentages):

T&D Solutions. Operating income from our T&D Solutions segment increased by $1.2 million, or 1,280.0%, during the three months ended March 31, 2023, as compared to the three months ended March 31, 2022, primarily due an increase in sales of our power systems, a favorable sales mix and improved productivity from our manufacturing facility the three months ended March 31, 2023.

Critical Power Solutions. Operating loss for the Critical Power segment increased by $282, or 181.9% during the three months ended March 31, 2023, primarily due to an increase in consulting, marketing and promotion fees related to our e-Boost initiative during the three months ended March 31, 2023.

General Corporate Expense. Our general corporate expenses consist primarily of executive management, corporate accounting and human resources personnel, corporate office expenses, financing and corporate development activities, payroll and benefits administration, treasury, tax compliance, legal, stock-based compensation, public reporting costs and costs not specifically allocated to reportable business segments.

During the three months ended March 31, 2023, our unallocated corporate overhead expense decreased by $8, or 1.1%, as compared to the three months ended March 31, 2022.

Non-Operating (Income) Expense

Interest Income. For the three months ended March 31, 2023, we had interest income of approximately $54, as compared to interest income of approximately $101 during the three months ended March 31, 2022. We generated the majority of our interest income from our cash on hand. During the three months ended March 31, 2022, we generated the majority of our interest income from the Seller Notes we received from the sale of the transformer business units and our cash on hand.

Other (Income) Expense. Other (income) expense in the consolidated statements of operations reports certain gains and losses associated with activities not directly related to our core operations.

For the three months ended March 31, 2023, other non-operating income was $13, as compared to other non-operating expense of $11 during the three months ended March 31, 2022.

Provision for Income Taxes. Our provision reflects an effective tax rate on income before taxes of 0.0% for the three months ended March 31, 2023, as compared to (1.0)% for the three months ended March 31, 2022, as set forth below:

Net Income (Loss) per Share

We generated a net income of $122 during the three months ended March 31, 2023, as compared to a net loss of $740 during the three months ended March 31, 2022.

Our net income per basic and diluted share for the three months ended March 31, 2023 was $0.01, as compared to a net loss per basic and diluted share of $0.08 for the three months ended March 31, 2022.

LIQUIDITY AND CAPITAL RESOURCES

General. On October 20, 2020, we entered into an At the Market Sale Agreement with H.C. Wainwright & Co., LLC (“Wainwright”), pursuant to which we may offer and sell our shares of common stock, preferred stock, warrants and/or units of up to $25.0 million from time to time through Wainwright, acting as sales agent or principal (the “ATM Program”). As of March 31, 2023, we had $11.6 million of cash on hand generated primarily from the sale of common stock under the ATM Program during the year ended December 31, 2021, payment of all unpaid principal and interest from the Seller Notes during the year ended December 31, 2022 and cash flows from operating activities. We have met our cash needs through a combination of cash flows from operating activities and bank borrowings, proceeds from the sale of the CleanSpark Common Stock and warrants to purchase CleanSpark Common Stock, proceeds from insurance, the sale of common stock under the ATM Program, funding from the Payroll Protection Program and collecting all unpaid principal and interest from the Seller Notes. Our cash requirements historically were generally for operating activities, capital improvements and acquisitions.

On December 13, 2021, we filed a prospectus supplement, which forms a part of our registration statement on Form S-3 (File No. 333-249569), that was declared effective by the SEC on October 27, 2020, in connection with the offer and sale of up to an aggregate offering amount of $8.6 million of common stock that may be issued and sold under the ATM Program. We did not sell any shares of common stock under the ATM Program during the three months ended March 31, 2023. As of March 31, 2023, $8.6 million of common stock remained available for issuance under the ATM Program.

The worldwide spread of the novel coronavirus (“COVID-19”), including the emergence of variants and subvariants, as well as rising interest rates, inflation, changes in foreign currency exchange rates and geopolitical developments (including the war in Ukraine) have resulted, and may continue to result, in a global slowdown of economic activity, which may decrease demand for a broad variety of goods and services, including those provided by the Company’s clients, while also disrupting supply channels, sales channels and advertising and marketing activities for an unknown period of time until economic activity normalizes. As a result of the current uncertainty in economic activity, the Company is unable to predict the size and duration of the impact on its revenue and its results of operations. The extent of the impact of these macroeconomic factors on the Company’s operational and financial performance will depend on a variety of factors, including the duration and spread of COVID-19 and its variants and the duration and the extent of geopolitical disruption and their respective impacts on the Company’s clients, partners, industry, and employees, all of which are uncertain at this time and cannot be accurately predicted. The Company continues to monitor the effects of the COVID-19 pandemic and take steps deemed appropriate to limit the impact on its business. During the three months ended March 31, 2023, the Company was able to operate substantially at capacity.

The World Health Organization recently determined that COVID-19 no longer fit the definition of a public health emergency, and the U.S. government has announced that the declaration of a public health emergency associated with COVID-19 expired on May 11, 2023. However, COVID-19 is expected to remain a serious endemic threat for an indefinite future period. The economic uncertainty caused by the COVID-19 pandemic has made and may continue to make it difficult for the Company to forecast revenue and operating results and to make decisions regarding operational cost structures and investments. The Company has committed, and the Company plans to continue to commit, resources to grow its business, employee base, and technology development, and such investments may not yield anticipated returns, particularly if worldwide business activity continues to be impacted by the COVID-19 pandemic. The duration and extent of the impact from the COVID-19 pandemic depend on future developments that cannot be accurately predicted at this time, and if the Company is not able to respond to and manage the impact of such events effectively, its business may be harmed.

There can be no assurance that precautionary measures, whether adopted by the Company or imposed by others, will be effective, and such measures could negatively affect its sales, marketing, and client service efforts, delay and lengthen its sales cycles, decrease its employees’, clients’, or partners’ productivity, or create operational or other challenges, any of which could harm its business and results of operations.

Cash Provided by Operating Activities. Cash provided by our operating activities was $1.5 million during the three months ended March 31, 2023, as compared to $2.1 million during the three months ended March 31, 2022. The decrease in cash provided by operating activities is primarily due to working capital fluctuations.

Cash Used in Investing Activities. Cash used in investing activities during the three months ended March 31, 2023 was $194, as compared to cash used in our investing activities of $112 during the three months ended March 31, 2022. Additions to property and equipment during the three months ended March 31, 2023 were $194, as compared to $112 additions during the three months ended March 31, 2022.

Cash Used in Financing Activities. Cash used in our financing activities was $71 during the three months ended March 31, 2023, as compared to $31 during the three months ended March 31, 2022. The primary use of cash in financing activities for the three months ended March 31, 2023 and 2022 was repayments of financing leases.

Working Capital. As of March 31, 2023, we had working capital of $14.3 million, including $11.6 million of cash on hand, compared to working capital of $14.1 million, including $10.3 million of cash on hand at December 31, 2022.

Assessment of Liquidity. At March 31, 2023, we had $11.6 million of cash on hand generated primarily from the sale of common stock under the ATM Program during the year ended December 31, 2021, payment of all unpaid principal and interest from the Seller Notes during the year ended December 31, 2022 and cash flows from operating activities. We have met our cash needs through a combination of cash flows from operating activities and bank borrowings, proceeds from the sale of the CleanSpark Common Stock and warrants to purchase CleanSpark Common Stock, proceeds from insurance, sale of common stock under the ATM Program, funding from the Payroll Protection Program and collecting all unpaid principal and interest from the Seller Notes. Our cash requirements historically were generally for operating activities, capital improvements and acquisitions.

We expect to meet our cash needs with our working capital and cash flows from our operating activities. We expect our cash requirements to be generally for operating activities, capital improvements and product development. We expect that product development and promotional activities related to our new initiatives will continue in the near future and we expect to continue to incur costs related to such activities. We expect that our cash balance is sufficient to fund operations for the next twelve months.

As of March 31, 2023, we had no off-balance sheet transactions, arrangements, obligations (including contingent obligations), or other relationships with unconsolidated entities or other persons that had, or that may have, a material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Capital Expenditures

The Company had $194 of additions to property and equipment during the three months ended March 31, 2023, as compared to $112 of additions to property and equipment during the three months ended March 31, 2022.

Known Trends, Events, Uncertainties and Factors That May Affect Future Operations

We believe that our future operating results will continue to be subject to quarterly variations based upon a wide variety of factors, including the cyclical nature of the electrical equipment industry and the markets for our products and services. Our operating results could also be impacted by changing customer requirements and exposure to fluctuations in prices of important raw supplies, such as copper, steel and aluminum. We have various insurance policies, including cybersecurity, covering risks in amounts that we consider adequate. In addition to these measures, we attempt to recover other cost increases through improvements to our manufacturing efficiency and through increases in prices where competitively feasible. Lastly, other economic conditions we cannot foresee may affect customer demand. The impact of the COVID-19 pandemic, including the Omicron variant of COVID-19 and the subvariant, BA.2, and the ongoing effects of COVID-19, are currently indeterminable and rapidly evolving, and has affected and may continue to affect our operations and the global economy. In addition, the consequences of the ongoing conflict between Russia and Ukraine, including related sanctions and countermeasures, and the effects of rising global inflation, are difficult to predict, and could adversely impact geopolitical and macroeconomic conditions, the global economy, and contribute to increased market volatility, which may in turn adversely affect our business and operations. We predominately sell to customers in the industrial production and commercial construction markets. Accordingly, changes in the condition of any of our customers may have a greater impact than if our sales were more evenly distributed between different end markets. For a further discussion of factors that may affect future operating results see the sections entitled “Special Note Regarding Forward-Looking Statements” in this Quarterly Report on Form 10-Q and “Part I - Item 1A. Risk Factors” in our Annual Report on Form 10-K.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), evaluated the effectiveness of our disclosure controls and procedures as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of March 31, 2023. Our disclosure controls and procedures are designed to provide reasonable assurance that information we are required to disclose in the reports we file or submit under the Exchange Act is accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosures, and is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms. Based on this evaluation, and as a result of the material weakness described below, our CEO and CFO have concluded that our disclosure controls and procedures were not effective as of March 31, 2023. In light of this determination, our management has performed additional analyses, reconciliations, and other post-closing procedures and has concluded that, notwithstanding the material weakness in our internal control over financial reporting, the unaudited interim condensed consolidated financial statements for the periods covered by and included in this Quarterly Report on Form 10-Q fairly state, in all material respects, our financial position, results of operations and cash flows for the periods presented in conformity with U.S. GAAP.

Material Weakness

As of December 31, 2022, we identified a material weakness in our internal control over financial reporting due to not having the appropriate controls in place over our revenue recognition process for nonroutine and complex revenue transactions in accordance with ASC 606, “Revenue from Contracts with Customers”, which continued to exist as of March 31, 2023.

In order to remediate this material weakness, management has expanded and improved our process for reviewing customer contracts and revenue recognition inputs, including through the engagement of third-party accounting professionals with expertise in evaluating customer contracts to obtain guidance on large and/or unique contracts in order to ensure that ASC 606 is accurately applied and documented.

Although we have begun implementing the enhancements described above at the end of 2022 and have been continuing our remediation efforts through the first quarter of 2023, the material weakness will not be considered remediated until the applicable controls operate for a sufficient period of time and management has concluded that these controls are operating effectively.

Changes in Internal Control over Financial Reporting

Except as described above, there were no changes in our internal control over financial reporting during the three months ended March 31, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

A description of the risks associated with our business, financial condition and results of operations is set forth in “Item 1A. Risk Factors” of our annual report on Form 10-K for the fiscal year ended December 31, 2022, as filed with the Securities and Exchange Commission on April 11, 2023. There have been no material changes to these risks during the three months ended March 31, 2023.