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SMTC Corporation (NASDAQ:SMTX)

Q2 2008 Earnings Call Transcript

August 6, 2008 5:00 pm ET

Executives

Jane Todd – SVP of Finance and CFO

John Caldwell – President and CEO

Analysts

Boyne Malkovich [ph]

David Sandberg – Red Oak Partners

Operator

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the SMTC second quarter results conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for questions. (Operator instructions) I would like to remind everyone that this conference call is being recorded on Wednesday, August 13, 2008 at 8:30 AM Eastern Time.

I will now turn the conference over to Ms. Jane Todd, Senior Vice President, Finance, and Chief Financial Officer. Please go ahead.

Jane Todd

Thank you, Maria. Good morning. I'd like to welcome everyone to SMTC's second-quarter earnings call. Joining me today is John Caldwell, SMTC's President and Chief Executive Officer.

Before turning the meeting over to John Caldwell, let me read this standard Safe Harbor message. This presentation includes statements about expected future events and financial results that are forward-looking in nature and subject to risks and uncertainties. For those statements, we claim the protection of the Safe Harbor for forward-looking statements provisions contained in the Private Securities Litigation Reform Act of 1995. The company cautions that actual performance will be affected by a number of factors, many of which are beyond the company’s control, and that future events and results may vary substantially from what the company currently foresees. A discussion of these various factors that may affect future results is contained in the company’s recent filings with the Securities and Exchange Commission and SEDAR.

Let me now turn the meeting over to John.

John Caldwell

Thanks, Jane, and good morning, everyone.

By way of the agenda for this morning's call, I will make some summary comments on the quarter. Jane will then take you through our quarterly results in more detail, and then I will wrap up with remarks on the outlook for the second half of this year.

We released our second-quarter results yesterday after market close. For those who've seen the results, you will note we reported a quarter with sequential revenue growth and a net loss, including restructuring charges. We would characterize our results for the second quarter as mixed. We fully expected to achieve significant sequential revenue growth in the second quarter; we achieved this. Revenue at $66.3 million was up sequentially by 20%. We also expected to be profitable and generate positive cash flow. These objectives were not met.

Let me first talk to revenue. As anticipated, we increased revenue by just over $11 million, as seven of our top ten customers increased order levels in the quarter. We also benefited from some newer customers ramping volume. However, our second-quarter margins and earnings were affected by four primary factors. First was the planned manpower rebalancing at our Chihuahua, Mexico facility as we transitioned significant production volume to our China facility in the quarter.

Secondly, revenue at our Enclosure System Division came in lower than expected, resulting in higher labor costs and lower overhead absorption. The third factor was customer and product mix. And finally we incurred higher labor costs at other sites, largely due to higher-than-expected June production to meet customer demand. We also expected to be cash positive in the quarter, and we would have been but for two customers that delayed payments totaling $8 million until after quarter end.

As the quarter progressed, we took immediate steps to address our cost position. We lowered overall manpower levels by 276 full-time and 100 part-time staff, primarily in our Mexico and Boston sites. This resulted in a charge of approximately $800,000 in the quarter. Additionally, we wrote down leasehold improvements at our Boston facility, incurring an impairment charge of $4.9 million. Obviously, these actions will lower future costs.

Operationally, SMTC performed well. Notably, our China facility attainted a full-production run rate in the quarter, producing just over $11 million in revenue and attaining excellent quality and on-time delivery metrics. Although our working capital grew in the quarter, our average debt level and year-over-year interest costs are much lower. In fact, our second-quarter interest expense was less than 50% of the interest incurred in the second quarter of 2007. As a testament to SMTC's strengthening balance sheet and sound prospects, in August, we were able to amend our loan arrangements to provide greater flexibility and to further lower interest rates.

With these initial comments, let me now turn this over to Jane for her comments on the quarter.

Jane Todd

Thanks, John.

Consistent with our forecast in the first-quarter investor call, we had strong revenue growth of 26% over last quarter, despite continued weak end market conditions for two of our long-standing customers and higher deferred revenue due to a bill-and-hold transaction. However, after achieving such a solid top line, we delivered an unsatisfactory bottom line and did not generate cash. I will comment more fully on our results, including a quarterly comparison to Q1 and second quarter of last year.

For the second quarter of 2008, the company reported revenue of $66.3 million compared with $55.1 million last quarter and $66.1 million in the second quarter of 2007. As expected, revenue increased $11.2 million from Q1 of this year, as we received increased demand from the majority of our long-standing customers totaling over $9 million, including record revenue levels for two such customers and over $2 million in growth from our recently announced two new customers.

Revenue for the second quarter of 2008 was consistent with the second quarter of 2007. However, the composition of our revenue has changed. Importantly, the second quarter of 2008, compared with 2007, shows positive growth from newer customers of approximately $2 million, as well as strong growth from several of our long-standing customers, including our largest three. However, this growth continued to be negatively impacted by some demand reductions, primarily from certain long-standing customers experiencing end-market softness, such as in the semiconductor equipment sector, as well as the effect of product lifecycle changes.

Our relationships with our customers are strong, and we have a solid pipeline of new customer opportunities. Revenue distribution for the second quarter did shift somewhat with the Industrial segment increasing to 72% of revenue, from the high 60s in the past several quarters, as the increased revenue noted previously is largely due to industrial customers. Communications and computing and networking declined somewhat to 13% and 16% respectively. In both segments, we experienced reduced demand due to customer end market conditions.

The company continues to have a well-diversified customer base that we believe somewhat reduces variations for the company during challenging economic times. Our top ten customers accounted for 84% of the quarter's total revenue, essentially unchanged with last year and last quarter.

Gross margin for the quarter was $4.5 million or 6.8% of revenue, compared with $4.4 million or 8% last quarter and $5.8 million or 8.8% for Q2, 2007. Margins have been negatively impacted by sales mix, higher labor and overhead costs, in part arising from the ramp of our two new facilities and lower revenues in our Boston Enclosures business. Q1 of this year was favorably impacted by certain recoveries of previously expensed items and a reduction in excess and obsolete inventory reserves.

In the quarter, selling, general and administrative costs were $4.2 million compared to $3.2 million last quarter and $4.1 million for the same period last year. In Q1 of this year, improved accounts receivable collection allowed for reducing allowances. Labor costs have generally increased, partially caused by the increase in the Canadian dollar. However, these costs have been subsequently reduced as a result of the restructuring that I will talk to shortly.

Let me now turn to bottom line. We recorded a net loss in the quarter of $6.3 million. This loss includes $5.7 million in restructuring charges and $300,000 in stock-based compensation. Excluding these amounts, the net loss would be $300,000. Net income in Q1 was $421,000 or $0.03 per share. Net income for the same period a year ago was $110,000. Interest expense decreased significantly from $1.6 million a year ago to $765,000 due to reduced debt levels and lower interest rates.

Despite reduced interest costs, excluding restructuring and stock-based compensation, the company recorded a net loss driven by lower gross profit, as discussed previously, and higher selling, general and admin expenses. The company initiated restructuring plans to rebalance staffing levels and restore profitability. The restructuring charge of $5.7 million consists of a $500,000 severance charge in our Chihuahua facility, a $200,000 severance charge at our Boston facility, a $100,000 severance charge at the corporate level, and a $4.9 million asset-impairment charge.

The company reduced 276 full-time staff and approximately 100 temporary staff, mainly in Mexico, as a result of the planned shift of production to the company’s China facility. The asset-impairment charge was largely related to a write-off of leasehold improvements made in early 2000 in our Boston facility. On an EBITDA basis, we generated $1 million compared with $2.9 million in Q2 of 2007 and $2.6 million in Q1 for the reasons discussed earlier, plus a reduction in depreciation due to the write-off of leasehold improvements in Boston.

Now, let me comment on cash and debt, a continued area of focus for the company. We had generated cash consistently in each of the past five quarters totaling over $25 million. However, cash generation did not meet the expected target in the second quarter, as two of our larger customers withheld payments until after the end of the quarter totaling $8 million. These payments were received in the first week of July. Had these payments been received in the quarter, debt would have been reduced a further $3 million compared with last quarter.

However, net bank debt actually increased by $5 million at the end of the quarter to $24.5 million. Capital investments were managed carefully in the quarter, given our results, with limited spending largely related to our new sites. Year-to-date capital expenditures total $700,000, compared to $1.5 million last year.

Let me now comment on working capital. We will start with inventory, where levels decreased as sales grew in the quarter. Inventory of $38 million was down $900,000 from last quarter. Average inventory for the quarter was $7 million lower than the level set a year ago and essentially unchanged from Q1. Days inventory, at 57 days, improved significantly from Q1 and was essentially the same as last year. Inventory reduction continues to be a focus area for the company.

Accounts receivable was $39.9 million, or 56 days, compared to $34.2 million or 56 days last quarter. Excluding the impact of the $8 million received immediately following quarter end, collection activity has driven the percent past-due to new lows and allowed us to reduce our allowance for doubtful accounts, as previously reserved receivables were collected. Receivables were also positively impacted by bill-and-hold revenues.

Accounts payable was $40.8 million, largely unchanged from $40.4 million last quarter. However, days were reduced from 73 days to 61 days, matching the improvement in inventory. We expect to lower receivable levels in Q3 and generate positive cash, as we plan to continue to generate positive cash each quarter.

Despite challenging credit markets, on August 7, we successfully closed a new amended financing agreement with our long-standing bank, Wachovia, and Export Development Canada. EDC have assumed the position previously held by Monroe and more recently Garrison Investment Group. This new loan arrangement will improve financial flexibility and reduce interest rates. The interest on the LIBOR-based term debt assigned to EDC has been reduced from LIBOR plus 4% to LIBOR plus 3.5%, decreasing at various leverage rates. Covenants were changed and restrictions on certain investments and expenditures were improved.

Let me now turn the call back over to John.

John Caldwell

Thank you, Jane.

Let me now discuss with you our outlook for the rest of 2008. As we stated in our press release, we expect the second half of 2008 to have improved results over the first two quarters of this year. Our third quarter looks solid. Of course, we cannot accurately predict customer order patterns that often involve push-outs or pull-ins towards the end of any quarter. However, we are encouraged by several newer customers expanding order levels with us as they ramp to full production through the balance of the year.

At this point, our visibility into Q4 is somewhat limited, but we are seeing order expansion with certain customers and reduced orders from others. In terms of bottom line, we expect to produce better operating net earnings because of higher revenue and the benefit of the second-quarter restructuring. Finally, absent a delay in customer payments as we experienced in Q2, we expect to further reduce the debt in the second half of the year and increase positive cash generation.

That ends our formal comments. And operator, if you wouldn't mind, we’d like to open the lines for questions please.

Question-and-Answer Session

Operator

Thank you. Ladies and gentlemen, we will now conduct the question-and-answer session. (Operator instructions) Your first question comes from Boyne Malkovich [ph] who is a private investor. Please go ahead.

Boyne Malkovich

Hi, Jane. Hi, John.

Jane Todd

Hi, there. How are you? It’s Boyne, right?

Boyne Malkovich

Yes.

Jane Todd

Hi, Boyne.

Boyne Malkovich

Hi. I was just wondering in light of the fact that there aren't any analysts covering your company and institutional interest seems to be kind of low, I'm wondering if there's any kind of plan in place to increase stock visibility in the industry and the general market?

John Caldwell

I'm not sure exactly what you mean by that, Boyne. Stock visibility?

Boyne Malkovich

Yes, basically that the stock price is continuing at a low compared to its competitors, and there are no analysts covering the company, and I think it would be an improvement for marketability for the company if they could engage with fund managers or analysts or something to –

John Caldwell

Yes, let me address that. I think we would love to have analyst coverage, as you would appreciate it, almost any company would. And it's very difficult, as you might appreciate, at our market cap level to get analyst interest. So although we've been down that road a couple of times, it just frankly just been very difficult to do that. You are also I think accurate in saying that broad institutional interest for a microcap company is also an issue, so for us it gets much more selective in terms of microcap type investors. Dealing with such investors more on a one-on-one basis is more efficient and more practical, and that's what we have been doing and will continue to do.

Boyne Malkovich

Okay. And I was also wondering if you've been engaged at all with Integris, like have you received any proposals from them?

John Caldwell

We have not as yet, but we will be in discussions with them shortly.

Boyne Malkovich

Okay. Thank you.

Operator

Your next question comes from David Sandberg from Red Oak Partners. Please go ahead.

David Sandberg – Red Oak Partners

Hi, John and Jane. Can you hear me okay. I'm actually calling in remotely, I'm off-site.

Jane Todd

Yes, we can hear you fine, David.

John Caldwell

Hi, David.

David Sandberg – Red Oak Partners

Great, okay. Well, I had a couple questions here. Not a superb quarter, but it actually doesn't sound as bad as it initially seemed, and I'd like to confirm a couple of points here. From the earnings report, you cited a change of mix and that the bulk of the charge is in Boston. Is this largely a non-cash charge that frankly could've been taken years ago? Because I know that the Boston site, I believe it was in kind of '05/'06, we lost some of the EMC server business and I thought that Boston was at a reduced level from where it was kind of in the 2002, 2003 and 2004 timeframe.

John Caldwell

David, you are right. We had a big blip a couple of years ago when EMC had a product that was going end-of-life and shifted all that work from a competitor to us, which gave us substantial revenue uptick, and we knew that was not sustainable. In fact, we stated that all through the process. What's happened in Boston subsequently, that EMC – that business has now been reduced.

Secondly, a large customer we have there is in the semiconductor capital equipment business, and that industry is at a very low point right now, which is not unusual in that sector, and so our revenues from that customer is substantially reduced. As a consequence of that, a couple of things. One is that we have now got an overhead cost absorption issue that we have to deal with. And secondly, as we looked at that facility, which would incur substantial leasehold improvements in the early 2000s, we decided it was appropriate that we should address that, and with the concurrence of our Board and auditors, we wrote it down.

David Sandberg – Red Oak Partners

So should we look at this largely as an overdue non-cash charge to reflect a shift in business from Boston towards the newer sites such as China?

John Caldwell

Absolutely right, absolutely right.

David Sandberg – Red Oak Partners

And then the losses in Boston were largely from the continued revenue decline there, but off of the higher employee and fixed cost structure, similar to what occurred in July of last year?

John Caldwell

Yes. And we took action in the second quarter to address that, and we continue to look at and refine what we are doing in Boston.

David Sandberg – Red Oak Partners

Okay. So if we were to look at a cleansed EBITDA, I think you guys provided roughly $1 million number in your earnings report. I would have to guess there were some expense in absorbed costs that were related both to the lower Boston revenues and also to the continued build out in China and other sites. What would a truer more pro forma EBITDA number look like for the quarter if we fed this off of the same $66 million revenue number and similar mix of business but we didn't have the excess headcount and other costs?

John Caldwell

Jane, you may want to answer that.

Jane Todd

Sure, I’ll –

David Sandberg – Red Oak Partners

Would we be looking at potentially hundreds of thousands or $0.5 million or $1 million more, or anything in that ballpark?

Jane Todd

I think your $0.5 million to $1 million is probably a reasonable estimate. I think there's a couple of things. If you look at the $1 million EBITDA for Q2, that's GAAP EBITDA, so it's not adjusted for the stock-based compensation. So adjusted for stock-based, you are looking at $1.3 million, and then I would say, next quarter, you should expect to be $0.5 million to a $1 million better than that.

David Sandberg – Red Oak Partners

Okay, great. Is this a rough EBITDA level that we should look to build off of going forward?

John Caldwell

David, we would be disappointed in anything less than that.

David Sandberg – Red Oak Partners

Okay, great. A couple more things, you guys mentioned the customer order levels look solid. How many new or large customers are coming in? You mentioned that some are ramping through the end of this year and into '09. How many of them are new or large? Can any of them end up being 5% or 10% customers? If so, more so, do you expect them to be?

John Caldwell

David, we've got three that are ramping right now that frankly have taken longer than we expected to ramp. There is at least one customer that would – in fact, all three have the potential to fit into our top ten, and there's one that conceivably could hit our top three or four.

David Sandberg – Red Oak Partners

Okay. In aggregate then, is there a potential for, I don't know, in that incremental 10% in revenue, 15% in revenue?

John Caldwell

I think that's the right range on a full run-rate basis.

David Sandberg – Red Oak Partners

Okay. Is this customer business going towards Markham, San Jose, Mexico, China, Boston? Where is the bulk of this new business going?

John Caldwell

There's going to be quite a shift over the next 12 months in our production profiles. We have one customer now in China, and we are moving part of production from the second customer into China in Q3. We are now in the process, however, of shifting production to Mexico from Markham, and we will also be ramping one customer with additional volumes going into Mexico as well. Our expectation is that we will fill Mexico with newer business as other business move to China. Markham will see a reduction in production, but we then expect to fill that over time.

David Sandberg – Red Oak Partners

Okay, great. And then Jane, you gave a very good detail beyond what was in the earnings report on this call as far as debt facility and some other details on cash flow. You guys mentioned there were favorable terms aside from the rates. What types of terms or restrictions were lifted or changed that could be helpful to us?

Jane Todd

There are a handful of things, David. I mean, our Wachovia – sorry, our facility with Wachovia was increased from $40 million to $45 million, and as you know, there's a borrowing base calculation in terms of availability, and that was improved both on the inventory side and on the accounts receivable side. Plus, in the previous arrangement, we were really restricted from doing any sort of investment whatsoever, and now we have a small bucket, albeit $250,000 to do investments such as China, where it's very little cash and mainly inventory, or buy back shares, etc.

David Sandberg – Red Oak Partners

Okay, great. That was going to be my next question, whether all cash flow was required to go towards debt pay down or if there's a potential for excess cash flow to be used elsewhere.

Jane Todd

Yes.

David Sandberg – Red Oak Partners

And I guess that answers that. And currently it's a small amount, but there is a calculation where if cash flows do come in stronger, we'd potentially have more cash for alternative investment?

Jane Todd

Yes, there is an excess cash flow requirement on the term debt side, 50% of excess cash flow, but certainly we have the ability to approach the banks with any other arrangement we want to make. For instance, both Wachovia and EDC, through this refinancing, have approved the investment in China.

David Sandberg – Red Oak Partners

Okay, great. Sorry, I'm taking up a lot of questions, just two more here. You know, as you guys know, we own a fair amount of stock here and our interest here is always and largely been due to the cash-generating power of the business, which we still view as very strong given the EBITDA less CapEx and the NOLs which shield the taxes, which makes this a pretty good cash cow business, and that's really what it has been. This quarter, there was a negative cash flow, but you guys mentioned the collections and you actually mentioned the amount that you got in the first week or so of $8 million. So should we expect then that Q3 should be a very strong cash flow quarter? Further, should we still expect positive cash flow from this business for debt pay down and other uses in Q4 and beyond into '09?

John Caldwell

Yes, for sure. Q3 should be, by definition, it should be a huge quarter for cash generation. Let's just be blunt here. We've got a couple of customers or public companies, and they have balance-sheet issues like we do. And if the customer doesn't pay the bills, there's not much you can do about it. That's what happened in Q2. I don't think that will happen in Q3. Is it conceivable that it will happen in Q4? Time will tell. We will be very unhappy if it does, but the customer kind of calls the tune there, David. But if you set that aside, I think the overall issue, is this a business capable of continuing to generate positive cash? The short answer to that one is yes.

David Sandberg – Red Oak Partners

Okay. And given that, again, some of the covenants were changed where we can use some excess cash flow, given that we are looking potentially at some pretty strong cash flow in the second half and then as the business builds in '09, we could get some good cash flow. As an investor that's important to us because we do have the potential for some buybacks as well, since we believe the stock is undervalued. Feeding off of that, you guys have had blackout dates; we've expressed in the past we felt they were a little bit too long. Has the Board addressed reducing the blackout dates yet, and if it has not, when might it address this?

John Caldwell

I figure it will be addressed at the next Board meeting, David.

David Sandberg – Red Oak Partners

Okay, good. Well, thank you for putting up with the questions. Appreciate it.

John Caldwell

Thank you, David.

Jane Todd

Thanks, David.

Operator

(Operator instructions) Your next question comes from Boyne Malkovich who is a private investor. Please go ahead.

Boyne Malkovich

Hi, Jane. Not such a bad quarter as originally thought. I had a couple of questions and follow-ups to the previous two, namely regarding new customers. And are you guys working on increasing and adding new customers to the current base that you have, and whether are you planning to actually announce some press releases related to that?

John Caldwell

Let me answer and address that. The short answer is yes, of course, we are always pursuing new customers, and we have a very robust pipeline as we speak. I think everybody who follows this business understands that the point where you are engaged with a customer to getting full ramp production takes a long time. In fact, in some cases, it goes well over a year. It's interesting. We have one customer that we are actually ramping production with that we have not yet even finalized our contract with them. That's in process, and it's not all that unusual. So we are reticent to announce a customer until we have it under contract, but in fact we are ramping production. We've got a couple of other, a number of other new customers in which we have now contractual relationships, but have not reached an order level where we think it's appropriate to announce. Once we hit those thresholds, we will be announcing them.

Boyne Malkovich

The reason I'm saying that is that, I mean, to be fair, if you look at your press releases, I don't think that in a year, there's been one new customer announced.

John Caldwell

No, we announced a couple, a couple of quarters ago. We've committed to do that – here's our issue, a couple of things. One, we need customer approval to do it. Secondly, I think it's important for investors to know that we have a bona fide customer giving us real volume, because it's not unusual in this business to sign a contract with a customer and you never attain a decent level of production volume. Well, that does occur from time to time, and so we think the right thing is to make sure we have a contract, a customer under contract, and that they pass a certain threshold level of volume before we announce.

Boyne Malkovich

How aggressively are you using your sales force or the marketing team in order to generate new customers? And have you set some targets in terms of let's say revenue for the next year that the guys are going out there into the field and trying to get new contracts are targeting?

John Caldwell

Yes, we do. We set internal targets for that. It comes in a couple of different flavors. The objective, of course, is to – we typically target customers in the range of $5 million to $50 million in revenue. That is our sweet spot. We have very specific goals set for each of our sales representatives, and we are very aggressive. It's interesting. If you look at our statistics, you would see, over the course of the last three or four years, we have gained significant revenue from new customers. In fact, if memory serves me right, well over a third of our current revenue today comes from customers we didn't have in 2003. But we are very aggressive on that side and will continue to be.

Boyne Malkovich

I remember that, a couple of years ago, you went into a contract with a company that does video sourcing over the Internet, I believe, and you kind of partnered with them. Correct?

John Caldwell

I'm not sure which customer you are referring to. Jane, does that ring a bell with you?

Jane Todd

Are we talking broadcasting business?

Boyne Malkovich

Yes, broadcasting.

Jane Todd

Harris, I think it's Harris. Previously –

Boyne Malkovich

And you were basically sharing the revenues with them?

John Caldwell

Harris is one of our largest customers, and for their broadcast to vision, we are their primary EMS supplier. Now, Harris has multiple divisions and multiple contract manufacturers, but for the broadcast division, we are the largest contract manufacturer.

Boyne Malkovich

And I mean, what is the possibility of – I mean you say that your sweet spot is customers who do $5 million or $10 million to $50 million in revenue. How realistic is that a year, two years from now, you might be able to tackle on larger customers?

John Caldwell

I think the reality of it is that we typically will start at the lower end of that range and then build that over time. That doesn't happen instantaneously. When you're selected, typically, when you're selected, in most cases, you've got production coming from another contract manufacturer for whatever reason they've disengaged. And customers are quite conservative and typically will start ramping slowly with you. As you build credibility with them, then ideally you move into much higher revenue levels. That quite often takes years to get to that stage. In fact, we've got a number of cases where that exactly happens. I would not want to mislead you to say we can land a $50 million customer today and then in six months we will be at a $50 million run rate. That is not typically the case.

Boyne Malkovich

No, I understand that. I've been an investor for five years. I have some experience with you guys. My question is, is it realistic now that you have been increasing customers, that revenue quarters like the last quarter of $55 million would probably be the low end to expect going forward?

John Caldwell

Well, I sure hope so. I sure hope so.

Boyne Malkovich

A couple of more questions basically, what do you expect the debt level to be at year end approximately? And in terms of the China facility, I believe I heard that it's operating at current capacity of $11 million. And are you guys planning on increasing that capacity, and is that going to cost more money, which should decrease some portion of the revenue going forward?

John Caldwell

I will let Jane answered the debt question. Relative to China, the run rate we have in Q2 is $11 million in revenue. That number will increase as we go forward. As I said earlier in the call to David's question, we are now ramping a second customer into that site, so we will be increasing our capacity utilization in China. We may actually add a line or two in the next couple of quarters, which is not a significant capital investment given our structure with our partner, Alco Electronics. That should not impact our cash generation as we go forward.

Jane, you may want to comment on the debt levels. At this point, folks, it's a bit of a guess because you don't know what the receivable is going to be.

Jane Todd

Well, I think what we saw at the end of this quarter is precisely why it’s so difficult to predict exactly what the debt level is going to be. However, we do expect it to be improved; we do expect to continue to generate cash in each of the quarters. And I think the important thing to distinguish it is what we are also working on is getting our average debt down exactly for the reason we see these little blips at the end of quarter, but it's really important to get that average debt down.

Boyne Malkovich

So you expect that you – is there a possibility that you will hit $10 million at the end of the year?

Jane Todd

That's pretty aggressive.

Boyne Malkovich

Okay. No, I'm just asking.

John Caldwell

We'd sure like to.

Jane Todd

Yes, that would be great, that would be great. And again if everything hits, then it's certainly a possibility, but I would say that's a little aggressive.

Boyne Malkovich

Just one more question with regards to the warrants expiring next year, what will be the effect when those warrants expire and the stock price is below the warrant exercise price?

John Caldwell

Well, again, there's more effect on the investor than on us, because the value of those warrants, you know, they will be out of the money and they will just disappear.

Boyne Malkovich

Okay, and all those –

John Caldwell

I'm a holder, by the way.

Boyne Malkovich

Okay. All right, guys. Thank you so much. I look forward to great results in Q3.

John Caldwell

So do we. Thank you.

Jane Todd

Thanks for your questions.

Operator

Mr. Caldwell, there are no further questions at this time. Please continue.

John Caldwell

Well, thanks, everybody for joining us. I think you're very kind because I would say there wasn't as bad a quarter. We were not happy with that quarter; you should understand that. We are in business to make money for our investors and we were disappointed. That's why we took action. We look forward to better results and a better call in Q3, so thanks for joining us.

Operator

Ladies and gentlemen, this concludes the conference call for today. Thank you for participating. Please disconnect your lines.

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