Measuring-master FARO Technologies (NASDAQ:FARO) was, once upon a time, a two-time recommendation of Motley Fool Hidden Gems. A series of weak quarters, suspect promises, and questionable stock sales by company executives later, it's off the list.
But yesterday, the company showed some signs of why we picked it in the first (and second) place.
Measured against analyst benchmarks of $35.4 million in projected sales and $0.04 per share in anticipated earnings, FARO excelled. Its Q2 sales of $38 million topped the consensus by 7%, and its $0.06 in net profits per diluted share beat expectations by 50%. Nice. Nice enough, in fact, to drive the stock up 5% so far today.
That said, measured against its year-ago performance, FARO's results still leave something to be desired. Gross margins may have stabilized as a result of a change in product mix. Still, as was made clear in the conference call, the product mix "continues to shift each quarter." So until we see a few quarters of consistently upward movement (year over year, please), it remains an open question whether this improvement was a trend or an aberration.
Sales grew 23% year over year for the quarter. Meanwhile, the cost of goods sold rose 24%, and selling, general, and administrative expenses (SG&A) grew 36%. Why did the latter costs increase so much faster than sales? As in so many other things, blame the lawyers. FARO incurred $3.4 million in legal costs this quarter. The lawyers are being kept pretty busy, litigating patents one day, looking into alleged violations of the Foreign Corrupt Practices Act the next. As a result, the $0.06 per share that FARO earned this quarter fell 54% shy of what the company earned last year.
Shelf-space check
Speaking of things that rise faster than sales, in Tuesday's Foolish Forecast, I pointed out that over the two quarters preceding Q2, FARO's inventories had been stacking up much faster than it had been moving goods out the door. Specifically, sales had grown 16%, while inventories were averaging up 43%. Yesterday's news showed a reversal of this trend, with inventory growth of 17% (year over year) being outpaced by sales growth. According to management, this was made possible by the firm's use of fewer raw materials in the production of its goods.
That conversion of excess inventories into cash on the balance sheet also helped to spruce up the company's cash flow statement. Ordinarily, negative free cash flow of $2.5 million (year to date) would be nothing to brag about, but it's a whole lot easier on the eyes than the negative $6.2 million in FCF that FARO had racked up by this time last year.
Foolish takeaway
FARO no longer appears to be the superior performer we thought it was when we first picked it for Hidden Gems back in September 2003. But it does appear to be heading back in the right general direction.
Now that you know FARO has been booted from Hidden Gems, maybe you're curious about who still makes the cut? If so, you're in luck. Take afree trialof the service, and you can see the entire portfolio for, well, free.
Fool contributor Rich Smith does not own shares of FARO Technologies.
