The Quarterly
SMIT Q3 2016 10-Q

Schmitt Industries Inc (SMIT) SEC Quarterly Report (10-Q) for Q4 2016

SMIT Q1 2017 10-Q
SMIT Q3 2016 10-Q SMIT Q1 2017 10-Q
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: November 30, 2016

Or

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from: To:

Commission File Number: 000-23996

SCHMITT INDUSTRIES, INC.

(Exact name of registrant as specified in its charter)

Oregon 93-1151989

(State or other jurisdiction of

incorporation or organization)

(IRS Employer Identification Number)

2765 NW Nicolai Street, Portland, Oregon 97210-1818

(Address of principal executive offices) (Zip Code)

(503) 227-7908

(Registrant's telephone number, including area code)

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

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of "accelerated filer," "large accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (check one):

Large accelerated filer Accelerated filer
Non-accelerated filer Smaller reporting company

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

The number of shares of each class of common stock outstanding as of December 31, 2016

Common stock, no par value

2,995,910
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SCHMITT INDUSTRIES, INC.

INDEX TO FORM 10-Q

Page
Part I - FINANCIAL INFORMATION
Item 1.

Financial Statements:

Consolidated Balance Sheets:

November 30, 2016 and May 31, 2016 (unaudited)

3

Consolidated Statements of Operations and Comprehensive Loss:

For the Three and Six Months Ended November 30, 2016 and 2015 (unaudited)

4

Consolidated Statements of Cash Flows:

For the Six Months Ended November 30, 2016 and 2015 (unaudited)

5

Consolidated Statement of Changes in Stockholders' Equity:

For the Six Months Ended November, 2016 (unaudited)

6

Notes to Consolidated Interim Financial Statements

7
Item 2.

Management's Discussion and Analysis of Financial Condition and Results of Operations

13
Item 3.

Quantitative and Qualitative Disclosures About Market Risk

18
Item 4.

Controls and Procedures

18
Part II - OTHER INFORMATION
Item 6.

Exhibits

19
Signatures 20
Certifications

Page 2

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PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

SCHMITT INDUSTRIES, INC.

CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

November 30,
2016
May 31,
2016

ASSETS

Current assets

Cash and cash equivalents

$ 543,207 $ 988,686

Accounts receivable, net

1,825,101 2,099,082

Inventories

4,465,801 4,727,977

Prepaid expenses

146,350 132,230

Income taxes receivable

1,879 8,432

6,982,338 7,956,407

Property and equipment, net

952,182 965,452

Other assets

Intangible assets, net

657,116 712,881

TOTAL ASSETS

$ 8,591,636 $ 9,634,740

LIABILITIES & STOCKHOLDERS' EQUITY

Current liabilities

Accounts payable

$ 486,963 $ 877,167

Accrued commissions

253,666 273,147

Accrued payroll liabilities

96,585 148,823

Other accrued liabilities

306,715 331,563

Total current liabilities

1,143,929 1,630,700

Stockholders' equity

Common stock, no par value, 20,000,000 shares authorized, 2,995,910 shares issued and outstanding at November 30, 2016 and May 31, 2016

10,584,990 10,569,522

Accumulated other comprehensive loss

(458,220 (394,518

Accumulated deficit

(2,679,063 (2,170,964

Total stockholders' equity

7,447,707 8,004,040

TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY

$ 8,591,636 $ 9,634,740

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

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SCHMITT INDUSTRIES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

FOR THE THREE AND SIX MONTHS ENDED NOVEMBER 30, 2016 AND 2015

(UNAUDITED)

Three Months Ended
November 30,
Six Months Ended
November 30,
2016 2015 2016 2015

Net sales

$ 2,655,561 $ 3,073,769 $ 5,548,093 $ 6,178,153

Cost of sales

1,623,151 1,797,359 3,139,934 3,459,251

Gross profit

1,032,410 1,276,410 2,408,159 2,718,902

Operating expenses:

General, administration and sales

1,324,675 1,581,635 2,737,344 3,119,517

Research and development

60,277 72,500 139,124 159,412

Total operating expenses

1,384,952 1,654,135 2,876,468 3,278,929

Operating loss

(352,542 (377,725 (468,309 (560,027

Other expense, net

(23,578 (19,091 (25,411 (25,011

Loss before income taxes

(376,120 (396,816 (493,720 (585,038

Provision for income taxes

6,350 6,971 14,379 13,811

Net loss

$ (382,470 $ (403,787 $ (508,099 $ (598,849

Net loss per common share:

Basic

$ (0.13 $ (0.13 $ (0.17 $ (0.20

Weighted average number of common shares, basic

2,995,910 2,995,910 2,995,910 2,995,910

Diluted

$ (0.13 $ (0.13 $ (0.17 $ (0.20

Weighted average number of common shares, diluted

2,995,910 2,995,910 2,995,910 2,995,910

Comprehensive loss

Net loss

$ (382,470 $ (403,787 $ (508,099 $ (598,849

Foreign currency translation adjustment

(19,185 (15,673 (63,702 (9,314

Total comprehensive loss

$ (401,655 $ (419,460 $ (571,801 $ (608,163

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

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SCHMITT INDUSTRIES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED NOVEMBER 30, 2016 AND 2015

(UNAUDITED)

Six Months Ended
November 30,
2016 2015

Cash flows relating to operating activities

Net loss

$ (508,099 $ (598,849

Adjustments to reconcile net loss to net cash used in operating activities:

Depreciation and amortization

110,437 127,198

Gain on disposal of property and equipment

(16,899 (299

Stock based compensation

15,468 37,953

(Increase) decrease in:

Accounts receivable

238,684 115,949

Inventories

206,624 (90,216

Prepaid expenses

(16,747 17,605

Income taxes receivable

6,553 (812

Increase (decrease) in:

Accounts payable

(382,255 (240,883

Accrued liabilities and customer deposits

(87,440 87,286

Net cash used in operating activities

(433,674 (545,068

Cash flows relating to investing activities

Purchases of property and equipment

(44,587 0

Proceeds from the sale of property and equipment

20,085 14,950

Net cash provided by (used in) investing activities

(24,502 14,950

Effect of foreign exchange translation on cash

12,697 (1,969

Decrease in cash and cash equivalents

(445,479 (532,087

Cash and cash equivalents, beginning of period

988,686 1,795,654

Cash and cash equivalents, end of period

$ 543,207 $ 1,263,567

Supplemental disclosure of cash flow information

Cash paid during the period for income taxes

$ 7,826 $ 14,623

Cash paid during the period for interest

$ 1,726 $ 1,384

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

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SCHMITT INDUSTRIES, INC.

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY

FOR THE SIX MONTHS ENDED NOVEMBER 30, 2016

(UNAUDITED)

Shares Amount Accumulated
other
comprehensive
loss
Accumulated
deficit
Total

Balance, May 31, 2016

2,995,910 $ 10,569,522 $ (394,518 $ (2,170,964 $ 8,004,040

Stock-based compensation

0 15,468 0 0 15,468

Net loss

0 0 0 (508,099 (508,099

Other comprehensive loss

0 0 (63,702 0 (63,702

Balance, November 30, 2016

2,995,910 $ 10,584,990 $ (458,220 $ (2,679,063 $ 7,447,707

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

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SCHMITT INDUSTRIES, INC.

NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS

NOTE 1:

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The consolidated financial information included herein has been prepared by Schmitt Industries, Inc. (the Company or Schmitt) and its wholly owned subsidiaries. In the opinion of management, the accompanying unaudited Consolidated Financial Statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission and contain all adjustments, consisting only of normal recurring adjustments, necessary to present fairly its financial position as of November 30, 2016 and its results of operations and its cash flows for the periods presented. The consolidated balance sheet at May 31, 2016 has been derived from the Annual Report on Form 10-K for the fiscal year ended May 31, 2016. The accompanying unaudited financial statements and related notes should be read in conjunction with the audited financial statements included in our Annual Report on Form 10-K for the fiscal year ended May 31, 2016. Operating results for the interim periods presented are not necessarily indicative of the results that may be experienced for the fiscal year ending May 31, 2017.

Revenue Recognition

The Company recognizes revenue for sales and billing for freight charges upon delivery of the product to the customer at a fixed and determinable price with a reasonable assurance of collection, passage of title to the customer as indicated by shipping terms and fulfilment of all significant obligations, pursuant to the guidance provided by Accounting Standards Codification ("ASC") Topic 605. For sales to all customers, including manufacturer representatives, distributors or their third-party customers, these criteria are met at the time product is shipped. When other significant obligations remain after products are delivered, revenue is recognized only after such obligations are fulfilled. In addition, judgments are required in evaluating the credit worthiness of our customers. Credit is not extended to customers and revenue is not recognized until we have determined that collectability is reasonably assured. The Company estimates customer product returns based on historical return patterns and reduces sales and cost of sales accordingly.

Financial Instruments

The carrying value of all other financial instruments potentially subject to valuation risk (principally consisting of cash and cash equivalents, accounts receivable and accounts payable) also approximates fair value because of their short-term maturities.

Accounts Receivable

The Company maintains credit limits for all customers based upon several factors, including but not limited to financial condition and stability, payment history, published credit reports and use of credit references. Management performs various analyses to evaluate accounts receivable balances to ensure recorded amounts reflect estimated net realizable value. This review includes using accounts receivable agings, other operating trends and relevant business conditions, including general economic factors, as they relate to each of the Company's domestic and international customers. If these analyses lead management to the conclusion that potential significant accounts are uncollectible, a reserve is provided. The allowance for doubtful accounts was $44,523 and $42,387 as of November 30, 2016 and May 31, 2016, respectively.

Inventories

Inventories are valued at the lower of cost or market with cost determined on the average cost basis. Costs included in inventories consist of materials, labor and manufacturing overhead, which are related to the purchase or production of inventories. Write-downs, when required, are made to reduce excess inventories to their net realizable values. Such estimates are based on assumptions regarding future demand and market conditions. If actual conditions become less favorable than the assumptions used, an additional inventory write-down may be required. As of November 30, 2016 and May 31, 2016, inventories consisted of:

November 30,
2016
May 31,
2016

Raw materials

$ 1,855,948 $ 2,030,655

Work-in-process

995,124 1,059,864

Finished goods

1,614,729 1,637,458

$ 4,465,801 $ 4,727,977

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Property and Equipment

Property and equipment are stated at cost. Depreciation is computed using the straight-line method over estimated useful lives of three to seven years for furniture, fixtures and equipment; three years for vehicles; and twenty-five years for buildings and improvements. As of November 30, 2016 and May 31, 2016, property and equipment consisted of:

November 30,
2016
May 31,
2016

Land

$ 299,000 $ 299,000

Buildings and improvements

1,814,524 1,814,524

Furniture, fixtures and equipment

1,239,862 1,344,343

Vehicles

89,291 96,587

3,442,677 3,554,454

Less accumulated depreciation

(2,490,495 (2,589,002

$ 952,182 $ 965,452

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2014-09, "Revenue from Contracts with Customers (Topic 606)." ASU 2014-09 affects any entity using U.S. GAAP that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (e.g., insurance contracts or lease contracts). ASU 2014-09 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016.

In August 2015, the FASB issued ASU 2015-14, which defers the effective date of ASU 2014-09 by one year. The new guidance is effective for interim and annual reporting periods beginning after December 15, 2017. Early adoption is permitted as of the date of the original effective date, for interim and annual reporting periods beginning after December 15, 2016.

In July 2015, the FASB issued ASU 2015-11, "Simplifying the Measurement of Inventory." ASU 2015-11 requires an entity to measure in-scope inventory at the lower of cost and net realizable value. Net realizable value is defined as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The amendments in ASU 2015-11 are effective on a prospective basis for public entities for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Early application is permitted as of the beginning of an interim or annual reporting period.

The Company is currently evaluating the provisions of ASU 2014-09, ASU 2015-14 and ASU 2015-11.

NOTE 2:

STOCK OPTIONS AND STOCK-BASED COMPENSATION

Stock-based compensation includes expense charges for all stock-based awards to employees and directors granted under the Company's stock option plan. Stock-based compensation recognized during the period is based on the portion of the grant date fair value of the stock-based award that will vest during the period, adjusted for expected forfeitures. Compensation cost for all stock-based awards is recognized using the straight-line method. The Company uses the Black-Scholes option pricing model as its method of valuation for stock-based awards. The Black-Scholes option pricing model requires the input of highly subjective assumptions, and other reasonable assumptions could provide differing results. These variables include, but are not limited to:

Risk-Free Interest Rate. The Company bases the risk-free interest rate on the implied yield currently available on U.S. Treasury issues with an equivalent remaining term approximately equal to the expected life of the award.

Expected Life. The expected life of awards granted represents the period of time that they are expected to be outstanding. The Company determines the expected life based on historical experience with similar awards, giving consideration to the contractual terms, vesting schedules and pre-vesting and post-vesting forfeitures.

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Expected Volatility. The Company estimates the volatility of its common stock at the date of grant based on the historical volatility of its common stock. The volatility factor the Company uses is based on its historical stock prices over the most recent period commensurate with the estimated expected life of the award. These historical periods may exclude portions of time when unusual transactions occurred.

Expected Dividend Yield. The Company does not anticipate paying any cash dividends in the foreseeable future. Consequently, the Company uses an expected dividend yield of 0.

Expected Forfeitures. The Company uses relevant historical data to estimate pre-vesting option forfeitures. The Company records stock-based compensation only for those awards that are expected to vest.

To determine stock-based compensation expense recognized for those options granted during the six months ended November 30, 2016 and 2015, the Company has computed the value of all stock options granted using the Black-Scholes option pricing model. No options were issued during the six months ended November 30, 2016 and 2015.

At November 30, 2016, the Company had a total of 147,500 outstanding stock options (130,000 vested and exercisable and 17,500 non-vested) with a weighted average exercise price of $3.11. The Company estimates that $11,232 will be recorded as additional stock-based compensation expense over a weighted-average period of 1.0 years for all options that were outstanding as of November 30, 2016, but which were not yet vested.

Outstanding Options Exercisable Options
Number
of Shares
Weighted
Average
Exercise Price
Weighted
Average
Remaining
Contractual
Life (yrs)
Number of
Shares
Weighted
Average
Exercise Price
  15,000 $2.53 6.8   15,000 $2.53
  77,500   2.85 7.4   60,000   2.85
  55,000   3.65 4.5   55,000   3.65

147,500   3.11 6.3 130,000   3.15

Options granted, exercised, and forfeited or canceled under the Company's stock option plan during the three and six months ended November 30, 2016 are summarized as follows:

Three Months Ended
November 30, 2016
Six Months Ended
November 30, 2016
Number
of Shares
Weighted
Average
Exercise
Price
Number
of Shares
Weighted
Average
Exercise
Price

Options outstanding - beginning of period

147,500 $ 3.11 147,500 $ 3.11

Options granted

0 0 0 0

Options exercised

0 0 0 0

Options forfeited/canceled

0 0 0 0

Options outstanding - end of period

147,500 3.11 147,500 3.11

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NOTE 3:

EPS RECONCILIATION

Three Months Ended
November 30,
Six Months Ended
November 30,
2016 2015 2016 2015

Weighted average shares (basic)

2,995,910 2,995,910 2,995,910 2,995,910

Effect of dilutive stock options

0 0 0 0

Weighted average shares (diluted)

2,995,910 2,995,910 2,995,910 2,995,910

Basic earnings (loss) per share is computed using the weighted average number of common shares outstanding. Diluted earnings (loss) per share is computed using the weighted average number of common shares outstanding, adjusted for dilutive incremental shares attributed to outstanding options to purchase common stock. Common stock equivalents for stock options are computed using the treasury stock method. In periods in which a net loss is incurred, no common stock equivalents are included since they are antidilutive and as such all stock options outstanding are excluded from the computation of diluted net loss in those periods.

NOTE 4:

INCOME TAXES

The Company accounts for income taxes using the asset and liability method. This approach requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the carrying amounts and the tax basis of assets and liabilities. Deferred tax assets are reduced by a valuation allowance if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Management continues to review the level of the valuation allowance on a quarterly basis. There can be no assurance that the Company's future operations will produce sufficient earnings to that the deferred tax asset can be fully utilized. The Company currently maintains a full valuation allowance against net deferred tax assets.

Each year the Company files income tax returns in the various national, state and local income taxing jurisdictions in which it operates. These tax returns are subject to examination and possible challenge by the taxing authorities. Positions challenged by the taxing authorities may be settled or appealed by the Company. As a result, there is an uncertainty in income taxes recognized in the Company's financial statements in accordance with ASC Topic 740. The Company applies this guidance by defining criteria that an individual income tax position must meet for any part of the benefit of that position to be recognized in an enterprise's financial statements and provides guidance on measurement, de-recognition, classification, accounting for interest and penalties, accounting in interim periods, disclosure, and transition.

Other long-term liabilities related to tax contingencies were $0 as of both November 30, 2016 and May 31, 2016. Interest and penalties associated with uncertain tax positions are recognized as components of the "Provision for income taxes." The liability for payment of interest and penalties was $0 as of November 30, 2016 and May 31, 2016.

Several tax years are subject to examination by major tax jurisdictions. In the United States, federal tax years for Fiscal 2012 and after are subject to examination. In the United Kingdom, tax years for Fiscal 2012 and after are subject to examination. In Canada, tax years for Fiscal 2005 and after are subject to examination.

Effective Tax Rate

The effective tax rate on consolidated net loss was 2.9% for the six months ended November 30, 2016. The effective tax rate on consolidated net loss differs from the federal statutory tax rate primarily due to changes in the deferred tax valuation allowance and certain expenses not being deductible for income tax reporting purposes. Management believes the effective tax rate for Fiscal 2017 will be approximately 8.1% due to the items noted above.

NOTE 5:

SEGMENTS OF BUSINESS

The Company has two reportable business segments: dynamic balancing and process control systems for the machine tool industry (Balancer) and laser-based test and measurement systems and ultrasonic measurement products (Measurement). The Company operates in three principal geographic markets: North America, Europe and Asia.

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Segment Information

Three Months Ended November 30,
2016 2015
Balancer Measurement Balancer Measurement

Gross sales

$ 1,612,330 $ 1,261,863 $ 2,192,878 $ 1,187,847

Intercompany sales

(214,664 (3,968 (312,149 5,193

Net sales

$ 1,397,666 $ 1,257,895 $ 1,880,729 $ 1,193,040

Operating loss

$ (273,715 $ (78,827 $ (203,149 $ (174,576

Depreciation expense

$ 19,018 $ 9,390 $ 24,236 $ 9,832

Amortization expense

$ 0 $ 27,882 $ 0 $ 27,883

Capital expenditures

$ 0 $ 0 $ 0 $ 0

Six Months Ended November 30,
2016 2015
Balancer Measurement Balancer Measurement

Gross sales

$ 3,440,380 $ 2,605,917 $ 4,419,124 $ 2,373,911

Intercompany sales

(481,838 (16,366 (610,900 (3,982

Net sales

$ 2,958,542 $ 2,589,551 $ 3,808,224 $ 2,369,929

Operating income (loss)

$ (486,926 $ 18,617 $ (336,643 $ (223,384

Depreciation expense

$ 35,805 $ 18,867 $ 51,046 $ 20,387

Amortization expense

$ 0 $ 55,765 $ 0 $ 55,765

Capital expenditures

$ 44,587 $ 0 $ 0 $ 0

Geographic Information – Net Sales by Geographic Area

Three Months Ended
November 30,
Six Months Ended
November 30,
2016 2015 2016 2015

North America

$ 1,788,495 $ 2,082,607 $ 3,742,857 $ 4,167,922

Europe

327,494 432,412 650,906 684,722

Asia

449,859 531,287 948,479 1,220,556

Other markets

89,713 27,463 205,851 104,953

Total net sales

$ 2,655,561 $ 3,073,769 $ 5,548,093 $ 6,178,153

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Three Months Ended November 30,
2016 2015
United
States
Europe United
States
Europe

Operating loss

$ (311,302 (41,240 $ (374,243 $ (3,482

Depreciation expense

$ 28,408 $ 0 $ 34,068 $ 0

Amortization expense

$ 27,882 $ 0 $ 27,883 $ 0

Capital expenditures

$ 0 $ 0 $ 0 $ 0

Six Months Ended November 30,
2016 2015
United
States
Europe United
States
Europe

Operating loss

$ (405,467 (62,842 $ (499,742 $ (60,285

Depreciation expense

$ 54,672 $ 0 $ 71,433 $ 0

Amortization expense

$ 55,765 $ 0 $ 55,765 $ 0

Capital expenditures

$ 44,587 $ 0 $ 0 $ 0

Note – – Europe is defined as the European subsidiary, Schmitt Europe, Ltd.

Segment and Geographic Assets

November 30,
2016
May 31,
2016

Segment assets to total assets

Balancer

$ 4,586,321 $ 4,727,490

Measurement

3,460,229 3,910,132

Corporate assets

545,086 997,118

Total assets

$ 8,591,636 $ 9,634,740

Geographic assets to long-lived assets

United States

$ 952,182 $ 965,452

Europe

0 0

Total long-lived assets

$ 952,182 $ 965,452

Geographic assets to total assets

United States

$ 7,856,098 $ 8,772,666

Europe

735,538 862,074

Total assets

$ 8,591,636 $ 9,634,740

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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This Quarterly Report filed with the SEC on Form 10-Q (the "Report"), including "Management's Discussion and Analysis of Financial Condition and Results of Operations" in this Item 2, contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 regarding future events and the future results of Schmitt Industries, Inc. and its consolidated subsidiaries (the "Company") that are based on management's current expectations, estimates, projections and assumptions about the Company's business. Words such as "expects," "anticipates," "intends," "plans," "believes," "sees," "estimates" and variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and involve risks, uncertainties and assumptions that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements due to numerous factors, including, but not limited to, those discussed in the "Risk Factors," "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere in this Report as well as those discussed from time to time in the Company's other Securities and Exchange Commission filings and reports. In addition, such statements could be affected by general industry and market conditions. Such forward-looking statements speak only as of the date of this Report or, in the case of any document incorporated by reference, the date of that document, and we do not undertake any obligation to update any forward-looking statement to reflect events or circumstances after the date of this Report. If we update or correct one or more forward-looking statements, investors and others should not conclude that we will make additional updates or corrections with respect to other forward-looking statements.

RESULTS OF OPERATIONS

Overview

Schmitt Industries, Inc. designs, manufactures and markets computer-controlled vibration detection, balancing and process control equipment (the Balancer segment) to the worldwide machine tool industry and through its wholly owned subsidiary, Schmitt Measurement Systems, Inc., designs, manufactures and markets precision laser-based surface measurement products, laser-based distance measurement products and ultrasonic measurement systems (the Measurement segment) for a variety of industrial applications worldwide. The Company sells and markets its products in Europe through its wholly owned subsidiary, Schmitt Europe Ltd. (SEL), located in the United Kingdom. The Company is organized into two operating segments: the Balancer segment and the Measurement segment. The accompanying unaudited financial information should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended May 31, 2016.

"SBS," "SMS," "Acuity," "Xact", "Lasercheck" and "AccuProfile" are registered trademarks owned by the Company.

For the three months ended November 30, 2016, total sales decreased $418,208, or 13.6%, to $2,655,561 from $3,073,769 in the three months ended November 30, 2015. For the six months ended November 30, 2016, total sales decreased $630,060, or 10.2%, to $5,548,093 from $6,178,153 in the six months ended November 30, 2015.

Balancer segment sales focus throughout the world on end-users, rebuilders and original equipment manufacturers of grinding machines with the target geographic markets in North America, South America, Asia and Europe. Balancer segment sales decreased $483,063, or 25.7%, to $1,397,666 for the three months ended November 30, 2016 compared to $1,880,729 for the three months ended November 30, 2015, primarily due to weaker sales in North America, Europe, and Asia. Balancer segment sales decreased $849,682, or 22.3%, to $2,958,542 for the six months ended November 30, 2016 compared to $3,808,224 for the six months ended November 30, 2015, primarily due to weaker sales in North America and Asia.

The Measurement segment product line consists of laser-based light-scatter, distance measurement and dimensional sizing products and ultrasonic-based remote tank monitoring products for propane and diesel tanks. Total Measurement segment sales increased $64,855, or 5.4%, to $1,257,895 for the three months ended November 30, 2016 compared to $1,193,040 for the three months ended November 30, 2015, primarily due to increases in sales of our Xact remote tank monitoring products and related revenues from monitoring services offset by decreases in sales associated with the other product lines in the Measurement segment. Total Measurement segment sales increased $219,622, or 9.3%, to $2,589,551 for the six months ended November 30, 2016 compared to $2,369,929 for the six months ended November 30, 2015, primarily due to increases in sales of our Xact remote tank monitoring products and related revenues from monitoring services offset by decreases in sales associated with the other product lines in the Measurement segment.

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Operating expenses decreased $269,183, or 16.3%, to $1,384,952 for the three months ended November 30, 2016 from $1,654,135 for the three months ended November 30, 2015. General, administration and sales expenses decreased $256,960, or 16.2%, to $1,324,675 for the three months ended November 30, 2016 from $1,581,635 for the same period in the prior year. Operating expenses decreased $402,461, or 12.3%, to $2,876,468 for the six months ended November 30, 2016 from $3,278,929 for the six months ended November 30, 2015. General, administration and sales expenses decreased $382,173, or 12.3%, to $2,737,344 for the six months ended November 30, 2016 from $3,119,517 for the same period in the prior year.

Net loss was $382,470, or $(0.13) per fully diluted share, for the three months ended November 30, 2016 as compared to net loss of $403,787, or $(0.13) per fully diluted share, for the three months ended November 30, 2015. For the six months ended November 30, 2016, net loss was $508,099, or $(0.17) per fully diluted share, as compared to net loss of $598,849, or $(0.20) per fully diluted share for the six months ended November 30, 2015.

Critical Accounting Policies

There were no material changes in our critical accounting policies as disclosed in our Annual Report on Form 10-K for the year ended May 31, 2016.

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Discussion of Operating Results

Three Months Ended November 30,
2016 2015

Balancer sales

$ 1,397,666 52.6 $ 1,880,729 61.2

Measurement sales

1,257,895 47.4 1,193,040 38.8

Total sales

2,655,561 100.0 3,073,769 100.0

Cost of sales

1,623,151 61.1 1,797,359 58.5

Gross profit

1,032,410 38.9 1,276,410 41.5

Operating expenses:

General, administration and sales

1,324,675 49.9 1,581,635 51.5

Research and development

60,277 2.3 72,500 2.4

Total operating expenses

1,384,952 52.2 1,654,135 53.8

Operating loss

(352,542 -13.3 (377,725 -12.3

Other loss, net

(23,578 -0.9 (19,091 -0.6

Loss before income taxes

(376,120 -14.2 (396,816 -12.9

Provision for income taxes

6,350 0.2 6,971 0.2

Net loss

$ (382,470 -14.4 $ (403,787 -13.1

Six Months Ended November 30,
2016 2015

Balancer sales

$ 2,958,542 53.3 $ 3,808,224 61.6

Measurement sales

2,589,551 46.7 2,369,929 38.4

Total sales

5,548,093 100.0 6,178,153 100.0

Cost of sales

3,139,934 56.6 3,459,251 56.0

Gross profit

2,408,159 43.4 2,718,902 44.0

Operating expenses:

General, administration and sales

2,737,344 49.3 3,119,517 50.5

Research and development

139,124 2.5 159,412 2.6

Total operating expenses

2,876,468 51.8 3,278,929 53.1

Operating loss

(468,309 -8.4 (560,027 -9.1

Other income (loss)

(25,411 -0.5 (25,011 -0.4

Loss before income taxes

(493,720 -8.9 (585,038 -9.5

Provision for income taxes

14,379 0.3 13,811 0.2

Net loss

$ (508,099 -9.2 $ (598,849 -9.7

Sales – Sales in the Balancer segment decreased $483,063, or 25.7%, to $1,397,666 for the three months ended November 30, 2016 as compared to $1,880,729 for the three months ended November 30, 2015. This decrease is primarily attributed to weaker sales in our North America, Asia and Europe markets. Sales in North America decreased $322,719, or 30.9%, sales in Asia decreased $92,876, or 18.0%, and sales in Europe decreased $83,169, or 26.2%, for the three months ended November 30, 2016 as compared to the same period in the prior year. Sales in other regions of the world increased $15,701 for the three months ended November 30, 2016 as compared to the same quarter in the prior year.

Sales in the Balancer segment decreased $849,682, or 22.3%, to $2,958,542 for the six months ended November 30, 2016 as compared to $3,808,224 for the six months ended November 30, 2015. This decrease is primarily

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attributed to weaker sales in our North America, Asia and Europe markets. Sales in North America decreased $548,246, or 26.5%, sales in Asia decreased $304,793, or 26.1%, and sales in Europe decreased $49,715, or 9.4%, for the six months ended November 30, 2016 as compared to the same period in the prior year. Sales in other regions of the world increased $53,072 for the six months ended November 30, 2016 as compared to the same quarter in the prior year.

Sales in the Measurement segment increased $64,855, or 5.4%, to $1,257,895 for the three months ended November 30, 2016 compared to $1,193,040 for the three months ended November 30, 2015. Sales of Xact remote tank monitoring products and related revenues from monitoring services increased $320,829, or 94.3%, during the quarter ended November 30, 2016 as compared to the same period in the prior year. Sales of our Lasercheck products increased $1,800, or 3.7%, during the second quarter of fiscal 2017 as compared to the same period in the prior year. These increases were offset by decreases in sales of our Acuity laser-based distance measurement and dimensional-sizing products, which decreased $184,167, or 27.4%, in the second quarter ended November 30, 2016 as compared to the same quarter in the prior year. In addition, sales of our SMS laser-based surface measurement products decreased by $73,607, or 55.8%, for the three months ended November 30, 2016 as compared to the same period in the prior year.

Sales in the Measurement segment increased $219,622, or 9.3%, to $2,589,551 for the six months ended November 30, 2016 compared to $2,369,929 for the six months ended November 30, 2015. Sales of Xact remote tank monitoring products and related revenues from monitoring services increased $536,475, or 73.8%, during the six months ended November 30, 2016 as compared to the same period in the prior year. This increase was offset by decreases in sales of our Acuity laser-based distance measurement and dimensional-sizing products which decreased $198,411, or 15.1%, in the six months ended November 30, 2016 as compared to the six months ended November 30, 2015. In addition, sales of our SMS laser-based surface measurement products decreased by $61,234, or 31.8%, for the six months ended November 30, 2016 as compared to the same period in the prior year. Sales of our Lasercheck products decreased $57,208, or 43.1%, during the first six months of fiscal 2017 as compared to the same period in the prior year.

Gross margin – Gross margin for the three months ended November 30, 2016 decreased to 38.9% as compared to 41.5% for the three months ended November 30, 2015. Gross margin for the six months ended November 30, 2016 decreased to 43.4% as compared to 44.0% for the six months ended November 30, 2015. The fluctuations in gross margin in the three and six month periods ended November 30, 2016 as compared to the same three and six month periods in the prior fiscal year are primarily influenced by shifts in the product sales mix from our five product lines.

Operating expenses – Operating expenses decreased $269,183, or 16.3%, to $1,384,952 for the three months ended November 30, 2016 as compared to $1,654,135 for the three months ended November 30, 2015. General, administrative and selling expenses decreased $256,960, or 16.2%, for the three months ended November 30, 2016 as compared to the same period in the prior year. These decreases are primarily due to a reduction in sales commissions, travel and entertainment expense and personnel expenses.

Operating expenses decreased $402,461, or 12.3%, to $2,876,468 for the six months ended November 30, 2016 as compared to $3,278,929 for the six months ended November 30, 2015. General, administrative and selling expenses decreased $382,173, or 12.3%, for the six months ended November 30, 2016 as compared to the same period in the prior year. These decreases are primarily due to a reduction in sales commissions, travel and entertainment expense and personnel expenses.

Other income – Other income consists of interest income (expense), foreign currency exchange gain (loss) and other income (expense). Interest income (expense), net was $26 and $(483) for the three months ended November 30, 2016 and 2015, respectively. Foreign currency exchange gains (losses) were $(23,007) and $(18,916) for the three months ended November 30, 2016 and 2015, respectively. The shifts in the foreign currency exchange are related to fluctuations of foreign currencies against the U.S. dollar during the current period. Other income (expense) was $(597) for the second quarter of fiscal 2017 as compared to $308 for the same period in the prior year.

Other income consists of interest income (expense), foreign currency exchange gain (loss) and other income (expense). Interest income (expense), net was $(330) and $(1,033) for the six months ended November 30, 2016 and 2015, respectively. Foreign currency exchange gains (losses) were $(42,006) and $(24,295) for the six months ended November 30, 2016 and 2015, respectively. The shifts in the foreign currency exchange are related to fluctuations of foreign currencies against the U.S. dollar during the current period. Other income (expense) was $16,925 for the first six months of fiscal 2017 as compared to $317 for the same period in the prior year. Other income in the six month period ended November 30, 2016 was primarily related to gains on disposals of two vehicles during the period.

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Income taxes – The Company's effective tax rate on consolidated net loss was 2.9% for the six months ended November 30, 2016. The effective tax rate on consolidated net loss differs from the federal statutory tax rate primarily due to the amount of income from foreign jurisdictions, changes in the deferred tax valuation allowance and certain expenses not being deductible for income tax reporting purposes. Management believes the effective tax rate for Fiscal 2017 will be approximately 8.1% due to the items noted above.

Net income (loss) – Net loss was $382,470, or $(0.13) per fully diluted share, for the three months ended November 30, 2016 as compared to net loss of $403,787, or $(0.13) per fully diluted share, for the three months ended November 30, 2015. For the six months ended November 30, 2016, net loss was $508,099, or $(0.17) per fully diluted share, as compared to net loss of $598,849, or $(0.20) per fully diluted share for the six months ended November 30, 2015.

LIQUIDITY AND CAPITAL RESOURCES

The Company's working capital decreased to $5,838,409 as of November 30, 2016 as compared to $6,325,707 as of May 31, 2016. Cash and cash equivalents decreased $445,479 to $543,207 as of November 30, 2016 from $988,686 as of May 31, 2016.

Cash used in operating activities totaled $433,674 for the six months ended November 30, 2016 as compared to cash used in operating activities of $545,068 for the six months ended November 30, 2015. The change in cash used in operating activities was impacted, in part, by the difference in net loss of $508,099 for the six months ended November 30, 2016 as compared to net loss of $598,849 for the same period in the prior year. Changes in accounts receivable, inventories, accounts payable and other accrued liabilities also impacted the total cash used in operating activities, with the result of the changes directly related to the timing of receipts and payments and the management of inventory levels across our product lines.

At November 30, 2016, the Company had accounts receivable of $1,825,101 as compared to $2,099,082 at May 31, 2016. The decrease in accounts receivable of $273,981 was due to timing of receipts. Inventories decreased $262,176 to $4,465,801 as of November 30, 2016 as compared to $4,727,977 at May 31, 2016, which is due primarily to the timing of purchases across our product lines and reductions of inventories in our SMS product line. At November 30, 2016, total current liabilities decreased $486,771 to $1,143,929 as compared to $1,630,700 at May 31, 2016. The decrease in accounts payable and other accrued expenses is primarily due to the timing of payments to our vendors and the decrease in accrued commissions.

We believe that our existing cash and cash equivalents combined with the cash we anticipate to generate from operating activities will be sufficient to meet our cash requirements for the foreseeable future. We do not have any significant commitments nor are we aware of any significant events or conditions that are likely to have a material impact on our liquidity or capital resources.

Risk Factors

Please refer to the risk factors disclosed in Part I, Item 1A of our Annual Report on Form 10-K for the fiscal year ended May 31, 2016 for a listing of factors that could cause actual results or events to differ materially from those contained in any forward-looking statements made by or on behalf of the Company.

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

There have been no material changes from the information previously reported under Item 7A of our Annual Report on Form 10-K for the fiscal year ended May 31, 2016.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

As of November 30, 2016, the Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and the Company's Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures, as such term is defined in Rule 13a-15(e) of the Securities Exchange Act of 1934 (the "Exchange Act"). Based on the evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this Report, the Company's disclosure controls and procedures are effective to ensure that information required to be disclosed in the Company's Exchange Act reports is (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to the Company's management, including the Company's Chief Executive Officer and the Company's Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives, and management necessarily is required to use its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Changes in Internal Control Over Financial Reporting

There has been no change in the Company's internal control over financial reporting that occurred during the Company's fiscal quarter ended November 30, 2016 that has materially affected, or is reasonably likely to materially affect, such internal control over financial reporting.

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PART II - OTHER INFORMATION

Item 6. Exhibits

Exhibit Description
3.1

Second Restated Articles of Incorporation of Schmitt Industries, Inc.

[Form 10-K for the fiscal year ended May 31, 1999, Exhibit 3(i)].

3.2

Second Restated Bylaws of Schmitt Industries, Inc.

[Form 10-K for the fiscal year ended May 31, 1999, Exhibit 3(ii)].

4.1 See Exhibits 3.1 and 3.2 for provisions of the Articles of Incorporation and Bylaws defining the rights of security holders.
31.1 Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS XBRL Instance Document.
101.SCH XBRL Taxonomy Extension Schema Document.
101.CAL XBRL Taxonomy Extension Calculation Linkbase Document.
101.LAB XBRL Taxonomy Extension Label Linkbase Document.
101.PRE XBRL Taxonomy Extension Presentation Linkbase Document.
101.DEF XBRL Taxonomy Extension Definition Linkbase Document.

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SIGNATURES

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

SCHMITT INDUSTRIES, INC.

                (Registrant)

Date: January 12, 2017 /s/ Ann M. Ferguson
Ann M. Ferguson, Chief Financial Officer and Treasurer

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