techknow final mda v7

TechKnow

Executive Briefing – Quarter ended December 31, 2014

Nick Heim – Chief Executive Officer

Andrew Mills – Chief Financial Officer

Chris Askounis – Chief Operating Officer

Myia Franklin – Chief Marketing Officer

Nikki Bynes – Chief Sales Officer

TechKnow Quarter 12 Executive Briefing 2

Table of Contents

Overview .................................................................................................................................... 3 Results of Operations ............................................................................................................. 4 Operating Revenues ............................................................................................................... 7 Revenue Mix Analysis ...................................................................................................................... 7

Research and Development Expenses .............................................................................. 8 Traveler Segment ............................................................................................................................................ 9 Mercedes Segment ....................................................................................................................................... 12 Innovator Segment ...................................................................................................................................... 15 CostCutter Segment ..................................................................................................................................... 18 Work Horse Segment .................................................................................................................................. 21

Marketing and Selling Expenses ....................................................................................... 24 Advertising ....................................................................................................................................... 24 Marketing Research ...................................................................................................................... 24 Sales Force Expenses ..................................................................................................................... 24 Sales Offices and Web Centers ................................................................................................... 24 Web Marketing Expenses ............................................................................................................ 24

Cost of Production ................................................................................................................. 25 Materials Components & Costs .................................................................................................. 26 Traveler ............................................................................................................................................................ 26 Mercedes .......................................................................................................................................................... 26 Innovator ......................................................................................................................................................... 27 Cost Cutter ....................................................................................................................................................... 27 Work Horse ..................................................................................................................................................... 27

Labor ................................................................................................................................................... 27 Changeover ....................................................................................................................................... 27

Operations Overhead Expenses ........................................................................................ 28 Excess Capacity ............................................................................................................................... 28 Inventory Holding .......................................................................................................................... 28

Financial Position .................................................................................................................. 29 Breakeven Analysis .............................................................................................................. 30 Liquidity and Capital Resources ....................................................................................... 31 Business Outlook ................................................................................................................... 32 DCF Valuation .................................................................................................................................. 33


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Disclaimer: This Management’s Discussion and Analysis of Financial Conditions and Results of Operations contain forward-‐looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995 that involve risks and uncertainties. Forward-‐looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. Forward-‐looking statements can also be identified by words such as “future,” “anticipates,” “believes,” “estimates,” “expects,” “intends,” “plans,” “predicts,” “will,” “would,” “could,” “can,” “may,” and similar terms. Forward-‐looking statements are not guarantees of future performance and the Company’s actual results may differ significantly from the results discussed in the forward-‐looking statements. A discussion of factors that might cause such differences is discussed within the MD&A. The Company assumes no obligation to revise or update any forward-‐looking statements for any reason, except as required by law.

Overview TechKnow’s innovative high performance computers provide peace of mind with unmatched security software and a user-‐friendly interface. Our computers serve the needs of any professional ranging from web, graphic, and business designers as well as engineers and statistical analysts for the CostCutter, Innovator, Work Horse, Mercedes, and Traveler markets. TechKnow operates internationally in Los Angeles, Chicago, New York, Atlanta, Toronto, Montreal, Calgary, Vancouver, Paris, Rome, Berlin, London, Curitiba, Rio de Janeiro, Sao Paulo, Belo Horizonte, Shanghai, Tianjin, Guangzhou, and Beijing.

During Quarter 12, the Company implemented a two-‐phase strategy. First, we chose to compete on the basis of greater value for equal or lower price in the price sensitive market segments, which are CostCutter and Work Horse. Second, we chose to compete on the basis of greater value at equal or greater price in the less price sensitive markets, which are Traveler, Innovator, and Mercedes. The Company sold one product per segment in all five of the markets.

TechKnow’s primary competitor in the industry is Rush Industries; secondary competitors consist of SkyDock Industries and Excellicore. TechKnow comprises 60% of the total market share, with 104,000 units demanded in Quarter 12. The Company has a majority presence in all 5 markets, as demonstrated below:

• Traveler (67%)

• Mercedes (67%)

• Innovator (45%)

• Work Horse (43%)

• CostCutter (87%)


During the first three years of business operations, TechKnow has established strong competitive advantages through the use of debt and equity capital to fund: • Aggressive investments, relative to the competition, in research and development of

new product features

• Aggressive investments, relative to the competition, in operating capacity, changeover, and quality costs

• Aggressive investments, relative to the competition, in sales force and sales offices expansion globally

Respectively, the aggressive investment strategies listed above have created the following competitive advantages for the Company: • Superior brand judgments, relative to the competition, in four of the five market

segments

• Superior production capabilities, relative to the competition, in the areas of production volume and costs

• Superior global market presence, relative to the competition, in the areas of sales force and sales offices

Results of Operations During Quarter 12, net income was $69,221,512 compared to net income of $39,459,619 in Quarter 11, an increase of $29,761,893 or 75.4%. The two primary contributors to the change in our bottom line for Quarter 12 are:

1. An increase in gross sales of $77,840,794 or 52.8% 2. A 10.7% spread between the increase in net revenues of 52.8% compared to the

increase in COGS of 42.1%. The ability to lower costs is due to the Company achieving a $55 average reduction in variable cost per unit. Lower cost of goods sold enabled the Company to increase gross margin by 11.3% more than the aforementioned increase in gross sales.

The following page displays a comparison of TechKnow’s Quarter 12 Statement of Income compared to Quarter 11. The key drivers of the 75.4% increase in net income referenced above are highlighted in yellow on the Statement of Income.


Chart 1 displays the three-‐year growth of net revenue and net income; Chart 2 displays earnings per share growth for the same period of time. During year three the Company realized consistent growth in net revenue and net income, this is due to the continual increase in gross sales combined with the continual decrease in COGS. Gross sales grew as a result of the Company’s strategy to aggressively invest in new feature development, providing a brand judgment advantage. Also, aggressive investing in operating capacity, changeover, and quality costs provided a production cost advantage.


Chart 1: Three-‐Year Growth of Net Revenue and Net Income

Chart 2: Three-‐Year Growth of Earnings per Share

Net revenues in Quarter 12 were $225,316,990 compared to $143,059,600 in Quarter 11, an increase of $82,257,390 or 57.5%. The change in net revenues was $47,462 as a result of price changes, $65,638,734 due to changes in units sold, and $16,571,194 due to changes in the mix of products sold. Net revenues fell short of projections by $21,818,010.

Q3 Q4 Q5 Q6 Q7 Q8 Q9 Q10 Q11 Q12 Net Revenue 0.83 2.10 2.40 24.00 28.50 45.60 44.00 93.40 147.40 225.30 Net Income -‐0.61 -‐0.78 -‐6.30 6.30 3.20 -‐3.00 7.00 16.50 39.40 69.20

-‐50.00

0.00

50.00

100.00

150.00

200.00

250.00

$ Millions

Net Revenue & Net Income

Q1 Q2 Q3 Q4 Q5 Q6 Q7 Q8 Q9 Q10 Q11 Q12 Earnings per Share -‐9 -‐28 -‐20 -‐20 -‐97 96 49 -‐19 44 103 244 429

-‐200 -‐100

0 100 200 300 400 500

$ EPS

Earnings per Share


Operating Revenues Revenue Mix Analysis Figure 1

Figure 2

Revenue change due to price was the result of an increase in the price of the Traveler product, TechKnoGo2. Revenue change due to volume was the result of an increase in production capacity of 400 units per day. This allowed the Company to increase the number of units sold in the Traveler, Mercedes, Innovator, and Work Horse segments. Revenue change due to sales mix was the result of sales shifting from the Cost Cutter to the Work Horse and Mercedes segments. The goal for TechKnow was to control at least 60% of all markets. The overall strategy for the Traveler, Mercedes, and Innovator segments was to compete on the basis of greater value at an equal or greater price. Strategy for the CostCutter and Work Horse segments was to compete on the basis of greater value at an equal or lower price. To achieve this we aggressively invested in production capabilities in order to keep cost lower than those of our competitors. As of Quarter 12 TechKnow has 67% of the Traveler market share, 67% of the Mercedes market share, 45% of the Innovator market share, 87% or the CostCutter market share, 43% of Work Horse market share, and an overall market share of 60%.


Research and Development Expenses In Quarter 12, research and development expense totaled $1,100,000 compared to $1,300,000 a decrease of $200,000 or 15%. As of Quarter 11 the Company had all available research and development features with the exception of high-‐speed wireless network connection, with a material cost of over $1,000 this feature was not worth the investment because price would have to be raised an enormous $2,000 to maintain margins. TechKnow’s strategy to aggressively invest in new product features, relative to its competitors, is evident in Chart 3. Chart 3 demonstrates the Companies competitive advantage in product features for Quarters 3-‐12. This competitive advantage will be evident throughout the discussion of product segments and their relative brand judgments. Chart 3:

The following five sections labeled Traveler, Mercedes, Innovator, CostCutter, and Work Horse contain the Company’s detailed revenue analysis of each segment in order of profitability for the Company.


Traveler Segment Figure 3

The 13.1% increase in net revenues and 8.6% increase in cost of goods sold were the result of a surge in volume sold. We were able to achieve the volume increase with investments in operating capacity. The price increase allowed revenues to pass cost of goods sold by 4.5%, increasing gross margin. We have achieved competitive advantage in the Traveler segment on the basis of brand judgment and number of units demanded as demonstrated in Figure 4 and Chart 4 respectively. In the Traveler segment our TechKnoGo2 competes against Rush Industries' Horizon 6.0 and SkyDock Industries' Sky Traveler 2.


Figure 4: Traveler Brand Judgment

We have been able to achieve superior brand judgment through heavy investments in Research and Development features faster than our competition as demonstrated in the new product feature development chart. The Traveler segment was Rush’s primary target segment for the first two years, when TechKnow initially entered this market segment in Quarter 9 it was able to capture 66% of the market. Chart 5: Traveler Demand

We have been able to achieve an advantage in demand for our Traveler product with strategic advertising, trained sales force, and a global presence, which SkyDock has not reached. The product itself also allows us to create demand with a brand judgment of 100; the product features of our TechKnoGo2 are displayed in Figure 5.


Figure 5: Traveler Components Cost

In the Traveler segment our material costs were higher than that of our competitors due to offering more features. These extra features earned TechKnoGo2 the highest attainable brand judgment of 100. The features also allow us to charge a higher price than our competition. In Quarter 12, the price of TechKnoGo2 fell between the average and high prices of the segment, keeping in the strategy of greater value at equal or greater price. Regional and local ads for the TechKnoGo2 successfully created an average of 247 units of demand per ad as compared to 137 units of demand by Rush, and 12 units by SkyDock. We were able to create the most demand per ad by developing an advertising plan that allows local ads to be continuous but not annoying to customers. Regional ads were placed in media publications with a preference rating of 100 or above. Additionally, our cost of units demanded is lower than our competitors. The average cost per unit of demand, for local and regional ad placements, for the TechKnoGo2 was $25 as compared to $39 by Rush, and $638 by SkyDock. We were able to keep costs low on a per unit basis by creating so many units of demand with each ad. Our Company was also more effective with our sales force than our competitors. On average TechKnow’s Traveler sales people created 829 units of demand as compared to 486 units of demand by Rush’s sales people, and 15 units by SkyDock. The difference in generated units of demand is the result of having a well-‐trained sales force, as we provide Professional Training Programs and Demonstration Kits to sales people that cost $1,500 each. Rush provides the same to their employees in the amount of $1,000 and $300, respectively. SkyDock provides the same tools for $500 and $100. The cost of units demanded was lower than our competitors. The average cost of unit demanded per salesperson, for the TechKnoGo2 was $59 as compared to $100 by Rush and $3,600 by


SkyDock. We were able to keep costs low by having an effective sales force that creates an ample amount of demand. In conclusion, TechKnow created more demand for less money. This advantage enables the Company to cut prices if it becomes necessary to maintain or grow market share. Mercedes Segment Figure 6

As a result of a rise in volume sold net revenues increased 392.8% and cost of goods sold increased 337.8%. We were able to achieve this with increased operating capacity and by changing the production and sale priority in Quarter 12 to second as compared to fourth in Quarter 11. The improved capacity and priority change allowed us to serve more of the segment demand and decrease stock outs by 91.4%. The fulfillment of more demand resulted in an increase of 55% in gross margin. The increase in segment profit is the result of significantly higher units sold, leading to costs being lowered on a percentages basis, relative to revenues.


We have achieved competitive advantage in the Mercedes segment on the basis of brand judgment, number of units demanded, and the cost of those demanded units. In the Mercedes segment our TechKnoBenz2 competes against Rush Industries' Surge 5.0. Figure 7: Mercedes Brand Judgment

We have been able to achieve this judgment through heavy investments in research and development features sooner than our competition, as well as early brand loyalty when an earlier Innovator product straddled the Innovator and Mercedes segments. Figure 8: Mercedes Components Costs

TechKnow component costs in the Mercedes segment were lower than that of our competitor. While overall we offer only one more feature than Rush, Rush invested in a research and development feature that adds an additional $1,050 to each product. Rush's


Surge 5.0 is also pricier than the TechKnoBenz2, meaning their margins are more condensed than ours and they cannot compete with us if a price war were ever to occur. Chart 6 demonstrates how the brand judgment advantage combined with strategic advertising and trained sales force has yielded the company significantly more units demanded than Rush. Chart 6:

Regional and local ads for the TechKnoBenz2 successfully created an average of 179 units of demand per ad compared to 49 units of demand by Rush. We were able to create the most demand per ad by running local inserts in a way that allowed them to be constant without being superfluous and irritating viewers. We also ran regional ads in media publications with a preference rating of 100 or above. The cost of units demanded through advertising is lower than our competitor's. The average cost per unit of demand for the TechKnoBenz2 was $33 compared to $106 by Rush. Costs are able to remain low because of the amount of demand each ad generates. Our Company was also more efficient with our sales force than our competitor. On average TechKnow's Mercedes sales people created 467 units of demand compared to 196 units of demand Rush sales people created. The sales force efficiency is the result of well trained sales people, as we provide professional training programs and demonstration kits in the amount of $1,500 each. Rush provides the same tools for $1,000 and $300, respectively. The cost of units demanded was also lower than our competitor. The average cost of unit demanded per salesperson, for the TechKnoBenz2 was $105 compared to $247 per Rush salesperson. To summarize, the cost efficiency employed by our Company provides us the ability to lower prices and compete with a new entrant should they attempt to compete with a low price strategy.


Innovator Segment Figure 9: Innovator Probilability

The 41.6% increase in net revenues and 31.6% increase in cost of goods sold were the result of an increase in volume sold. The volume escalation is the result of increasing production capacity in Quarter 12, decreasing stock outs by 69.5%. The increase in gross margin is the effect of revenues outgrowing cost of goods sold by about 10%. This spread was achieved through material cost discounts from suppliers due to purchasing in bulk. We have achieved a competitive advantage in the Innovator segment on the basis of brand judgment, number of units demanded, and the cost of those demanded units. In the Innovator segment, our TechKnoVator5 competes against Rush Industries' Volt 2.0 and Surge 5.0, SkyDock Industries' Sky Innovator 2, and Excellicore's Aurum S and Accelerator X2S.


Figure 10: Innovator Brand Judgment

We have been able to achieve the highest brand judgment through substantial investments in research and development features throughout the last two years. Towards the end of the third year investment opportunities in new product features were fewer, allowing Rush to gain ground in features by Quarter 12. Product features for the respective companies are displayed in Figure 11. Figure 11: Innovator Material Components

TechKnow component costs in the Innovator segment were higher than those of our competitors because we provided Research and Development features that the other companies could not. The extra features earned the TechKnoVator5 a brand judgment of 100. The features also allow us to charge a price higher than most of our competition. The price of the TechKnoVator5 generally falls between the average and low prices of the segment prices. We are able to provide these lower prices because of discounted


manufacturing costs due to buying materials in bulk. The price strategy was successful as the segment provided gross margins of 40.6%. Chart 7: Innovator Demand

We have been able to achieve these units with strategic advertising, trained sales force, and a global presence, which is only also achieved by Rush. The product itself allows us to create substantial demand with a perfect brand judgment of 100. Regional and local ads for the TechKnoVator5 successfully created an average of 142 units of demand per ad as compared to 54 units of demand by Rush, 29 units demanded by SkyDock, and 34 units by Excellicore. We were able to create the most demand per ad by having a consistent, but not redundant, local presence as well as regional ad placements in media publications with an Innovator preference rating of 100 or above. The average cost per unit of demand for the TechKnoVator5 was $43 compared to $102 for Rush, $207 for SkyDock, and $193 for Excellicore. We were able to keep costs low on a per unit basis by creating so many units of demand with each ad. Our Company was also more efficient with our sales force than our competitors. On average, a TechKnow Innovator sales person created 408 units of demand compared to 288 units by a Rush sales person, 62 units by a SkyDock sales person, and 218 for an Excellicore sales person. Demand per sales person was the result of having a better trained sales force, as we provided Professional Training Program and Demonstration Kits in the amount of $1,500 each as compared to $1,000 and $300, respectively, by Rush, $500 and $100, respectively, by SkyDock, and $1,100 and $250, respectively, by Excellicore. The Company’s cost of units demanded were lower than that our competitors. The average cost of unit demanded per sales person, for the TechKnoVator5 was $115 compared to $168 for Rush, $1,192 for SkyDock, and $276 for Excelliocore.


Again, the cost structure of TechKnow's marketing and selling expenses, relative to its competition, is important because it enables us to be in a position to slash prices, should such an occasion ever arise. CostCutter Segment In Quarter 12 we sold 8,583 CostCutter units, which accounted for $16,150,200 in sales revenue. Total demand units were 10,664, a decrease of 2,618 units from Quarter 11. The strategy for the CostCutter segment is to provide greater quality at lower price. We have kept our price for the CostCutter below the average price to allow us to honor our strategy. Figure 12

TechKnow’s brand judgment for the CostCutter segment ranges from 70-‐72 with our competitor Rush behind with a brand judgment of 56-‐58. This jump in judgment can be attributed to adding newly developed features that our competition does not have.


Figure 13

Figure 14 demonstrates total component cost for the four companies who compete in the CostCutter market. Figure 14

The Company’s CostCutter segment pricing is effectively the lowest in every region; empire undercut us by $1 in the United States, Canada, and China. With a superior product for the lowest price the Company effectively implemented its strategy to offer our consumers greater value at a lower price.


Figure 15

TechKnow had the highest demand in the CostCutter segment in every quarter for both Years 2 and Years 3. TechKnow entered the CostCutter segment at the start of the game, creating a demand of 695 units with the TechKnoEase. Since then we have released four different versions of the Cost Cutter product. We recently launched the TechKnoEase4 in Quarter 11 with new and improved features that meet the needs of our consumers, which you can see in the figure below the positive direction that took the Company’s ending Quarter 12 with a demand of 12,208 units. Chart 8:

Cost Cutter Segment Pricing for Quarter 12United States Europe Canada Brazil China

TechKnoEase4TechKnow Price 2,000$ 2,000$ 1,700$ 2,000$ 1,700$ TechKnow Rebate -$ -$ -$ -$ -$ High Price 3,169$ 3,169$ 3,099$ 2,879$ 2,739$ Average Price 2,584$ 2,585$ 2,399$ 2,440$ 2,169$ Low Price 1,999$ 2,000$ 1,699$ 2,000$ 1,599$


Work Horse Segment In Quarter 12, TechKnow continued to produce and sell the TechknoEase4 in the Work Horse segment. In Quarter 11 we discontinued the TechKnoHorse3 and introduced the TechKnoHorse4 which included five new features: digital video disk (DVD), extremely high capacity, office software-‐word, spreadsheets-‐new release, UPS (uninterruptible power supply), and the plug and play design. With the new brand we saw an increase in total demand by 3377 units for Quarter 11 and a continued increase of 701 units for Quarter 12 in Figure 17. Market share for the Work Horse segment decreased by 3% in Quarter 12 from Quarter 11, the TechKnoHorse4 brand accounted for 5.95% of the Company’s sales revenues in Quarter 12. Due to the lack of capacity we did not produce any products in the Work Horse segment in Quarter 11, therefore net revenues had a 100% increase in Quarter 12 from Quarter 11. Figure 16


The Company’s component cost for our TechKnoHorse4 brand was $1,369, which was the higher than comparable products produced by our competitors. This is because we have more research and development than our competitors. And despite material cost per unit in the Work Horse segment being that we have the highest cost we actual achieved the lowest component cost due to production volume discounts. Which allows us to remain aligned with our strategy of providing greater value at lower price. Figure 17

The Company did not receive as high of a brand judgment rating as Rush’s brand. Rush’s brand received the higher brand judgment due to the fact that they met the needs of their customers by offering their brand with luxury features such as a stylish desktop design and a high comfort keyboard with wrist rest, a feature that we did not see fit for the Work Horse segment. The following table shows the industry’s Work Horse brand judgment for Quarter 12. Figure 18

Work Horse Brand Judgment by Geographic RegionTechKnow Rush

United States 79 81Canada 79 81Europe 79 81Brazil 80 82China 80 82


The Company’s Work Horse segment pricing is not the lowest nor is it the highest priced. Our competitor, Excellicore offers the lowest price in all regions excluding Canada and China; of those two regions we offer the lowest price. Rush is the competitor with is the highest pricing across the board in all regions. However, TechKnow’s pricing is below the average compared to the competition (Figure 20). The Company’s pricing for this brand was consistent with our strategy to provide greater value at lower price. Figure 19

TechKnow had the highest demand in the Work Horse segment in every quarter excluding Quarter 5 in Years 2 and in every quarter for Years 3. We entered the Work Horse segment in Quarter 6 with the introduction of the TechKnoHorse. Every quarter from then on we focused on making sure we met the needs of our customers to create a high demand for our product. We became more competitive in the Work Horse segment in Quarter 9 with the launch of the TechKnoHorse3. The following figure shows the industry market growth for Year 2 and 3 in the Work Horse segment. Chart 9:


Marketing and Selling Expenses Total marketing and selling expenses in Quarter 12 were $9,807,778 compared to $8,152,507 in Quarter 11, an increase of $1,655,271 or 20.3%. As of Quarter 12, TechKnow operates globally in all regions and in every city.

Advertising Advertising expenses in Quarter 12 were $3,672,067 as compared to $2,935,688 in Quarter 11, an increase of $736,379 or 25.1%. Expense increase was the result of the addition of one more local insert in every city. The Quarter 12 strategy was not as effective as Quarter 11 as units demanded per ad decreased by -‐4.4% and cost per unit demanded increased by 3.1%. Marketing Research In Quarter 12 TechKnow purchased all available market research. Moving forward the company will increase its investment in marketing research in order to find new available markets to expand into. Sales Force Expenses Sales force expenses in Quarter 12 were $4,961,711 compared to $4,042,819 in Quarter 11, an increase of $918,892 or 22.7%. The increase in Sales Force expense was the result of the hiring of 36 new salespersons and increasing compensation in all cities. Compensation increase was produced positive results as productivity relative to potential increased in all regions but Europe. Sales Offices and Web Centers Sales offices and web centers expenses in Quarter 12 were $ 1,059,000 compared to $1,059,000 in Quarter 11, no change. This is the result of not opening new offices in Quarter 12, as offices in were opened in all cities were opened in Quarter 7. Therefore in Quarter 12 the expenses were due to Quarterly lease costs, which are constant costs. Web Marketing Expenses As of Quarter 12 TechKnow has not entered the web sales market, and to date has incurred no web marketing expenses. This is a result of the Company not seeing a substantial enough amount of demand for a web market.


Cost of Production In Quarter 12 TechKnow produced 74,902 units compared to Quarter 11 production of 50,341 units, an increase of 24,561 units or 32.8%. As a result of the production increase, Quarter 12 total production costs were $107,948,181 compared to Quarter 11 production costs of $75,956,438, an increase of $31,991,743 or 29.6%. TechKnow’s change in production cost per unit is displayed in Figure 21. Figure 20

Figure 21


Materials Components & Costs The Company has achieved more than a 50% decrease in cost due to production volume discounts, as demonstrated in chart 10. In Quarter 12 TechKnow produced 1,217 units a day compared to Rush’s production of 445 units per day. We achieved this through our strategy to aggressively invest in production capabilities, relative to the competition, which enabled us to produce 772 more units a day than our closest competitor. Chart 10:

Traveler In Quarter 12 total production costs for the Traveler were $33,085,176 compared to $31,617,282, an increase of $1,467,894 or 4.4%. This increase is primarily due to an increase in the number of units produced. In Quarter 12 the Company produced 27,298 units compared to 25,539 in Quarter 11, an increase of 1,759 units or 6.4%. In Quarter 12 the total material cost per unit was $1,016 per unit compared to $1,059 in Quarter 11, a decrease of $43 or 4.2%. Mercedes In Quarter 12 total production costs for the Mercedes were $33,310,179 compared to $6,904,768 in Quarter 11, an increase of $26,405,411 or 79.2%. This increase is primarily due to increasing production priority as well as producing more units. In Quarter 12 the company produced 16,597 units compared to producing 3,088 units in Quarter 11, an increase of 13,509 units or 81.3%. In Quarter 12 the total material cost was $1,811 per unit compared to $2,056 in Quarter 11, a decrease of $245 or 13.5%.


Innovator In Quarter 12 total production costs for the Innovator were $28,245,486 compared to $22,880,788 in Quarter 11, an increase of $5,364,680 or 18.9%. This increase is primarily due to an increase in demand and producing more units. In Quarter 12 the company produced 14,316 units compared to 10,906 units in Quarter 11, an increase of 3,410 units or 23.8%. In Quarter 12 the total material cost was $1,778 per unit compared to $1,920 in Quarter 11, a decrease of $142 or 7.9%. CostCutter In Quarter 12, TechKnow’s total production costs for the CostCutter were $8,936,274 compared to $10,256,792 in Quarter 11, a decrease of $1,320,518 or 14.8%. This decrease is primarily due to reducing the production priority as well as producing fewer units. In Quarter 12 the company produced 9,548 units compared to producing 10,808 units in Quarter 11. In Quarter 12 the total material cost was $738 per unit compared to $746 in Quarter 11, a decrease of $8 or 1%. Work Horse In Quarter 12 total production costs for the Work Horse were $8,657,316 compared to $0 in Quarter 11. This increase is due to having the fixed capacity to produce these units in Quarter 12 whereas the Company did not have the capacity in Quarter 11. In Quarter 12 the company produced 7,143 units and the total material cost per unit was $1,016. Labor The labor cost per unit in Quarter 12 was $167 compared to Quarter 11 labor cost of $168. There was no change in total compensation between Quarter 12 and Quarter 11. Productivity relative to potential was 100%; no change between Quarter 12 and Quarter 11. Changeover The Company’s average changeover cost for producing five products in Quarter 12 was $4.40 compared to Quarter 11 producing four products with an average changeover cost of $11.25, a savings of $6.85 or 155.7%. The reduction in changeover is primarily due to a $1.1 million investment in research and development to improve changeover. This investment gave the Company a 52.9% reduction in time and a 35.26% reduction in cost. Refer to Chart 11 on the following page.


Chart 11:

Operations Overhead Expenses

Excess Capacity Excess capacity in Quarter 12 is $464,830 compared to no excess capacity expense in Quarter 11. The reason for excess capacity, despite having product stock outs in Quarter 12, is due to having production days at the end of the quarter in which the simulation does not allow you to sell units as they are produced. Inventory Holding Inventory holding expense in Quarter 12 is $617,819 compared to Quarter 11 inventory holding expense of $191,749, an increase of $426,070 or 68.9%. This increase is primarily due to production days at the end of the quarter as well as production priority. This expense was undesired because there was unmet demand in the current quarter of 11,556 units. Moving forward the company desires ending inventory equal to the initial demand during the first ten days of production cycles in the following quarter. Quality In Quarter 12, the Company invested $1,183,928 in improving quality costs compared to Quarter 11 investment of $1,342,100, a decrease of $158,172 or 11.8%. Over the past three quarters, the Company has reduced quality cost investment because we achieved a high reliability judgment of 96%. This judgment represents the success of TechKnow’s strategy to aggressively invest in quality cost improvements resulting in a 9% higher reliability judgment than our closest competitor.


Shipping Quarter 12 shipping costs were $2,832,086 compared to Quarter 11 shipping costs of $2,046,974, an increase of $785,112 or 27.7%. In Quarter 12, the cost per unit shipped was $39.50 compared to Quarter 11 cost per unit shipped of $41.66, a decrease of $2.16 or 5.5%. This decrease is primarily due to shipping more units. In Quarter 12 the Company shipped 71,685 units compared to shipping 49,139 in Quarter 11, an increase of 22,546 units or 31.5%.

Financial Position In Quarter 12 net income was $69,221,512 compared to net income of $39,459,619 in Quarter 11, an increase of $29,761,893 or 75.4%. This increase is due to a 400 unit per day increase in operating capacity that was effectively utilized to increase net sales revenues 52.8%. Of the 52.8%, or $77,840,794, increase in net revenue, $65,638,734 is due to an increase in volume and $16,571,194 is due to a change in sales mix. In Quarter 12 assets totaled $160,818,056 compared to $91,596,544 in Quarter 11, an increase of $69,644,975 or 136.2%. This change is primarily due to an increase in cash on hand, but an increase in finished goods inventory also contributed. Cash on hand in Quarter 12 totaled $113,846,529 compared to $48,201,554 in Quarter 11, an increase of $65,644,975 or 136.2%. TechKnow has amassed this sum of cash to conduct a share repurchase from Guido, who was given shares of common stock in exchange for an emergency loan the Company received in Quarter 5. In Quarter 12 liabilities totaled $21,400,000, which was the same total in Quarter 11. This total reflects the long-‐term loans leveraged by TechKnow to engage in aggressive investments to improve product features, production cost, and sales force capabilities. The company currently pays into a quarterly sinking fund in accordance with our capital provider; long-‐term debt will be paid in full when required. In Quarter 12 total equity was $139,418,056 compared to $70,196,544 in Quarter 11, an increase of $69,221,512 or 98.6%. This figure was directly impacted by an increase in retained earnings or net income. In Quarter 12 retained earnings were $130,418,061 compared to retained earnings of $61,196,544 in Quarter 11, an increase of $69,221,512 or 113%. Earnings per share in Quarter 12 were $429 compared to earnings per share of $244 in Quarter 11, an increase of $185 per share or 75.8%.


Breakeven Analysis The table below shows the breakeven analysis for Quarters 12 and 11. In Quarter 12 TechKnow surpassed the breakeven point by 59,887 units or $188,232,610 compared to 38,549 units or $115,692,953 in Quarter 11. The increase in units produced beyond the breakeven point is due to the 400 units per day increase in operating capacity. TechKnow will continue to increase operating capacity until the company can fully meet demand. The company anticipates it will exceed the Quarter 12 units beyond breakeven point by a similar percent change of 500%. In Quarter 12 TechKnow’s average cost per unit was $1480 compared to $1520 in Quarter 11, a decrease of $40 per unit or 2.6%. TechKnow will continue to improve upon efficiency and limit other costs of production, such as changeover to continue to see favorable margins. TechKnow will push for efficiency in advertising and sales force to increase demand while maintaining a gross margin per unit of 45-‐55%. Gross margin per unit in Quarter 12 was 52.9% compared to 49.4% in Quarter 11, an improvement of 3.5%.


Figure 22

Liquidity and Capital Resources As discussed earlier, in Quarter 12 TechKnow ended with cash of $113,846,529 compared to $48,201,554 in Quarter 11, an increase of $65,644,975 or 136.2%. In Quarter 12 the company had an unused borrowing capacity of $118,993,088 with a total debt capacity of $140,393,088. These figures produced a liquidity position of $232,839,617 in Quarter 12 compared to $88,275,404 in Quarter 11, a change of $144,564,213 or 164%. TechKnow is confident the company is in a strong capital position and will be able to pursue our strategy moving forward.


Business Outlook Moving forward TechKnow will continue to heavily invest operating profits into the following components in order to maintain the competitive advantages we have achieved: • Aggressive investments, relative to the competition, in research and development of

new product features

• Aggressive investments, relative to the competition, in operating capacity, changeover, and quality costs

• Aggressive investments, relative to the competition, in sales force and sales offices expansion globally

Computer technology and hardware is a rapidly growing industry. We believe it will continue to grow at a substantial rate over the next five years. To capitalize on this growth the Company has to rapidly expand its sales force, production capacity, marketing plan, research and development facilities, and overall brand image. These assumptions are


reflected in the companies discounted cash flow valuation (“DCF) for the next five years of operations.

DCF Valuation The Company has made the following assumptions in the DCF. The Company believes now is the time to enter new markets. We believe we can utilize the advantages we have established to profitably enter smaller markets (relative to the current markets). As of Quarter 12, the Company has a physical presence in the 4 largest cities in the United States; we will seek new markets to enter in the U.S such as Houston, Dallas, Minneapolis, Charlotte or any other city we determine may be a profitable market. We will look to expand our presence globally in Asia, Europe, Africa, and Brazil. The Company believes the industry is in a rapid growth phase and to capitalize on this we need to rapidly expand in the following areas:

1. Research & Development-‐ The Company will increase R&D expense by 1400% in year four in order to invest 10% of gross sales annually (which is average for a tech company).

2. Market Research-‐ To effectively locate and establish new markets the company increases marketing research by 200% in years 4 & 5, with a 100% increase in the years following that.

3. Production Capacity-‐ TechKnow will invest an average of $35 million annually to increase operating capacity by 1000 units a day every year in order to meet expected growth in demand.

4. Marketing Plan-‐ TechKnow assumes it needs to grow advertising at the same rate of expected sales growth to aid in the stimulation of this anticipated demand.

5. The Company will begin developing an online sales platform in year four. Online sales will allow us to reach markets where we do not have a physical presence and also benefit us in researching and discovering unknown markets.

6. Other assumptions are made but less pertinent to the overall outcome of the DCF valuation.


Figure 23

techknow final mda v7

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