<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549-1004
----------
Form 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1998
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 0-21681
TRANSCRYPT INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 47-0801192
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
4800 N.W. 1st STREET
LINCOLN, NEBRASKA 68521
(402) 474-4800
(Address, including zip code, and telephone number,
including area code, of registrant's
principal executive office)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 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 [X] NO [ ]
As of June 30, 1998, 12,946,624 shares of the Registrant's Common
Stock were outstanding.
<PAGE> 2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
TRANSCRYPT INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
MARCH 31, 1998 and DECEMBER 31, 1997
(in thousands, except share and per share data)
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1998 1997
--------- ---------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 15,594 $ 15,384
Investments 14,150 15,900
Accounts receivable, net 14,986 16,008
Receivables - other 160 785
Cost in excess of billings on uncompleted contracts 3,144 942
Inventory 19,699 18,363
Income tax recoverable 322 1,065
Prepaid expenses 821 478
Deferred tax assets 3,528 3,523
--------- ---------
Total current assets 72,404 72,448
Property, plant and equipment, net 11,538 11,261
Deferred tax assets 3,775 4,504
Intangible assets, net of accumulated amortization 17,683 18,029
Other assets 785 452
--------- ---------
$ 106,185 $ 106,694
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Revolving line of credit $ 5,759 $ --
Current portion of long-term debt 162 2,545
Accounts payable 7,320 9,305
Billings in excess of cost on uncompleted contracts 5,723 6,696
Deferred revenue 1,504 1,743
Accrued expenses 5,557 7,323
--------- ---------
Total current liabilities 26,025 27,612
Long-term debt, net of current portion 2,595 2,758
Deferred revenue 859 934
--------- ---------
29,479 31,304
--------- ---------
Stockholders' equity:
Common stock 129 129
Additional paid-in capital 90,315 90,315
Accumulated deficit (13,738) (15,054)
--------- ---------
76,706 75,390
--------- ---------
$ 106,185 $ 106,694
========= =========
</TABLE>
See accompanying notes to the condensed consolidated financial statements.
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ITEM 1. FINANCIAL STATEMENTS (continued)
TRANSCRYPT INTERNATIONAL, INC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
For the three months ended MARCH 31, 1998 and 1997 (Unaudited)
(in thousands, except share and per share data)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
March 31,
-------------------------------
1998 1997
------------ ------------
(Restated)
<S> <C> <C>
Revenues $ 21,988 $ 3,512
Cost of sales 12,910 1,272
------------ ------------
Gross profit 9,078 2,240
------------ ------------
Operating expenses
Research and development 2,038 633
Sales and marketing 3,210 942
General and administrative 2,113 572
------------ ------------
Total operating expenses 7,361 2,147
------------ ------------
Income from operations 1,717 93
Other income 16 --
Interest income 394 125
Interest expense (99) (49)
------------ ------------
Income before income taxes 2,028 169
Income tax expense 712 27
------------ ------------
Net income $ 1,316 $ 142
============ ============
Net income per share - Basic $ 0.10 $ 0.02
============ ============
- Diluted $ 0.10 $ 0.02
============ ============
Weighted average common shares - Basic 12,946,624 8,699,745
============ ============
- Diluted 13,621,149 9,281,849
============ ============
</TABLE>
See accompanying notes to the condensed consolidated financial statements.
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ITEM 1. FINANCIAL STATEMENTS (continued)
TRANSCRYPT INTERNATIONAL, INC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
For the three months ended March 31, 1998 and 1997 (Unaudited)
(in thousands, except share and per share data)
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------
1998 1997
-------- --------
(Restated)
<S> <C> <C>
Net cash flow used in operating activities $ (4,006) $ (2,655)
-------- --------
Cash flow from investing activities:
Purchase of fixed assets (747) (688)
Sale of investments 1,750 --
-------- --------
Net cash provided by (used in) investing activities 1,003 (688)
-------- --------
Cash flow from financing activities:
Borrowings on revolving lines of credit 5,759 --
Issuance of industrial development revenue bonds -- 2,850
Payment of industrial development revenue bonds -- (850)
Debt issuance costs of industrial development revenue bonds -- (76)
Payment on term loans, lines of credit and capitalized leases (2,546) (1,879)
Bank overdraft -- (386)
Proceeds from IPO, net -- 17,710
-------- --------
Net cash provided by financing activities 3,213 17,369
Net increase in cash 210 14,026
Cash and cash equivalent, beginning of period 15,384 --
-------- --------
Cash and cash equivalent, end of period $ 15,594 $ 14,026
======== ========
</TABLE>
See accompanying notes to the condensed consolidated financial statements.
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TRANSCRYPT INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(In thousands, except share and per share data)
1. GENERAL
The condensed consolidated balance sheet of Transcrypt International,
Inc. ("Transcrypt" or the "Company") at December 31, 1997 has been taken from
audited consolidated financial statements at that date and condensed. The
condensed consolidated financial statements as of March 31, 1998 and for the
three months ended March 31, 1998 and 1997 are unaudited and reflect all normal
and recurring accruals and adjustments which are, in the opinion of management,
necessary for a fair presentation of the financial position, operating results
and cash flows for the interim periods presented in this quarterly report. The
condensed consolidated financial statements should be read in conjunction with
the consolidated financial statements and notes thereto, together with
management's discussion and analysis of financial condition and results of
operations, contained in the Company's Annual Report on Form 10-K for the year
ended December 31, 1997. The results of operations and cash flows for the three
months ended March 31, 1998 are not necessarily indicative of the results for
the entire fiscal year ending December 31, 1998.
Where appropriate, items within the condensed consolidated financial
statements have been reclassified from the previous periods to conform to the
current year's presentation.
2. ORGANIZATION AND CONSOLIDATION
Transcrypt International, Ltd. (the "Predecessor") was a limited
partnership formed in 1991 composed of the general partner, Transcrypt
International, Inc. (a Nebraska corporation) and various limited partners. One
percent of the profits or losses was allocated to the general partner and the
remaining 99% was allocated to the limited partners based on their respective
units of partnership interest.
Effective June 30, 1996, the assets and liabilities of the partnership
were merged tax-free into a Delaware corporation, Transcrypt International, Inc.
(the "Company"). Each respective partnership unit was converted pro rata into
common shares of the Company.
The Company designs and manufactures information security products
which prevent unauthorized access to sensitive voice and data communications.
These products are based on a wide range of analog scrambling and digital
encryption technologies and are sold mainly to the land mobile radio ("LMR") and
telephony security markets. The Company also manufactures through its
subsidiary, E.F. Johnson Company ("EFJ"), wireless communications products and
systems mainly for the LMR market. Typical end-users of the Company's products
include state, local and foreign governmental agencies, including police and
other public safety departments, and industrial and commercial organizations
such as taxi fleets and railroads, and construction, oil and gas companies.
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The condensed consolidated financial statements for the three months
ended March 31, 1998 and 1997, include the accounts of the Company and its
wholly owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in the consolidation.
3. NET INCOME PER SHARE
The Company has adopted Statement of Financial Accounting Standards No.
128, "Earnings Per Share" ("FAS 128"). FAS 128 requires a basic calculation of
earnings per share ("EPS"), based upon the weighted average number of common
shares outstanding during the period. FAS 128 also requires a diluted EPS
calculation that reflects the potential dilution from common stock equivalents
such as stock options. All current and prior periods' EPS calculations included
herein have been restated under the provisions of FAS 128. Net income per share
- - diluted includes incremental shares for outstanding stock options of 674,525
and 582,104 shares for the three months ended March 31, 1998 and 1997,
respectively.
4. STOCK OFFERINGS
On January 22, 1997, the Company completed an initial public offering
of 2,900,000 shares of common stock at a price of $8.00 per share. Of the
2,900,000 shares offered, 2,500,000 shares were sold by the Company and 400,000
were sold by certain of the Company's stockholders. The Company's net proceeds
from the offering, after underwriting commissions and expenses, were
approximately $17,710.
On October 15, 1997, the Company completed a secondary public offering
of 3,175,000 shares of common stock at a price of $21.00 per share. Of the
3,175,000 shares offered, 2,684,481 shares were sold by the Company and 490,519
were sold by certain of the Company's stockholders. The Company's net proceeds
from the offering, after underwriting commissions and expenses, were
approximately $52,939.
A portion of the Company's net proceeds from the offerings were used to
retire installment notes payable, revolving credit facility and term facility of
EFJ. The remaining net proceeds are being used to finance expansion of the
Company's administrative facilities, and for working capital and general
corporate purposes.
5. INVENTORY
The following is a summary of inventory at March 31, 1998 and December
31, 1997:
<TABLE>
<CAPTION>
March 31, 1998 December 31, 1997
-------------- -----------------
<S> <C> <C>
Raw materials and supplies $ 9,711 $ 7,523
Work in progress 3,158 1,977
Finished goods 6,830 8,863
------- -------
$19,699 $18,363
======= =======
</TABLE>
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6. REVOLVING LINES OF CREDIT
As of March 31, 1998, the Company had a working capital revolving line
of credit not to exceed $10.0 million. The Company had borrowed $5.6 million on
this line as of March 31, 1998. The Company obtained this line of credit as of
December 31, 1997 with U.S. Bank National Association ("U.S. Bank"). The line is
collateralized by substantially all of the assets of the Company. Interest is at
a variable rate and the due date of the credit line is December 31, 1998. The
credit line carries standard restrictive covenants such as limitations on
additional borrowings, capital expenditures, acquisitions and maintenance of
specified financial ratios. On May 21, 1998 the line of credit was amended to
include additional collateral of $10.0 million in time certificates of deposits.
As of June 30, 1998, the Company had $9.1 million in outstanding indebtedness
under the line of credit with U.S. Bank. On July 8, 1998, U.S. Bank agreed to
waive the Company's violations of its bank credit facility arising out of the
Company's failure to timely provide financial statements, meet certain financial
covenants and provide monthly borrowing base certificates to U.S. Bank. U.S.
Bank also agreed to amend the credit facility by reducing the Company's required
tangible net worth amount to $55 million from $70 million.
7. COMMITMENTS AND CONTINGENCIES
The Company has been named as a defendant in thirteen class action
lawsuits that were filed subsequent to the Company's announcement on March 27,
1998 that the filing of its Annual Report on Form 10-K for year ended December
31, 1997 would be delayed and that adjustments would be made to the Company's
previously announced financial results. Between March 31, 1998 and May 27, 1998,
twelve purported class action lawsuits were filed against the Company in the
United States District Court for the District of Nebraska and one complaint was
filed in the District Court of Scotts Bluff County, Nebraska. Certain of the
complaints also name one or more officers of the Company as additional
defendants. The longest class period alleged in any of the class complaints is
the period from January 22, 1997 through April 24, 1998.
The complaints generally allege claims under Sections 10 and 20(a) of
the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, and
relate primarily to allegations of false and misleading financial statements and
representations and material omissions by the Company. The Nebraska action
alleges violations of Nebraska securities laws. The complaints seek unspecified
compensatory damages, punitive damages, attorneys' fees and costs. The federal
actions have recently been consolidated. The Company is not required to answer
or otherwise respond to the federal complaints until after a consolidated
complaint is filed.
The Company may in the future be the subject of additional lawsuits or
claims in connection with the events or facts surrounding its restatement of
previously announced financial results. The Company is unable to predict when or
whether such additional lawsuits or claims may be initiated or the likelihood of
the outcome or range or amount of potential liability that may arise therefrom.
Although the complaints described above do not allege the amount of
damages and other relief that the plaintiffs are seeking, the Company believes
the amount of damages ultimately sought by the plaintiffs will be significant.
In light of the Company's restatement of financial information contained in its
various registration statements and prospectuses, the Company believes that
there
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may be an unfavorable outcome for at least some of the claims asserted in
the lawsuits or which may be asserted in the future against the Company. The
Company believes that the stockholder class actions are more likely to settle
than proceed to trial, judgment and appeal. Given the circumstances of these
cases, the terms of a settlement would be structured in a manner to avoid
causing the Company to seek protection under the federal bankruptcy
reorganization laws. In any circumstances where the Company could not structure
a settlement of all claims within its financial resources, it would vigorously
defend any attempt to establish the amount of liability or to require payment
beyond its resources. The Company has directors' and officers' liability
insurance that may cover a portion of the legal fees incurred and certain of the
damages sought in connection with the class action lawsuits. Many factors will
ultimately affect and determine the results of the litigation however, and the
Company can provide no assurances that the outcome will not have a significant
adverse effect on the Company's business, financial condition, results of
operations and cash flows.
In April 1998, the Securities and Exchange Commission ("SEC") issued a
formal order of investigation to determine whether violations of certain aspects
of the Federal securities laws had occurred in connection with the Company. At
the present time, the Company is unable to predict whether the SEC is likely to
initiate proceedings against the Company or its affiliated parties relating to
these events.
During 1997, on the basis of product orders placed with the Company by
federal personnel within the Maryland Procurement Office ("MPO"), which acts as
the purchasing arm for various federal agencies in the Washington D.C. area, the
Company shipped approximately $2.2 million worth of encrypted radio equipment
and related items to MPO. MPO has taken the position that the person placing the
orders on behalf of MPO was not authorized to do so, and therefore, has refused
payment. In March 1998, the Company filed a certified contract claim for
payment. Alternatively, the Company has requested ratification, by which MPO
would treat the procurement as an authorized commitment. To date, MPO has
rejected ratification. The contract claim is pending, and the Company is unable
to predict whether the likelihood of a favorable final outcome is probable or
remote.
The Company is involved in certain other legal proceedings incidental
to the normal conduct of its business. The Company does not believe that any
liabilities relating to such other legal proceedings are likely to be,
individually or in the aggregate, material to the Company's business, financial
condition, results of operations or cash flows.
The Company is in the process of converting its manufacturing and
financial information system to that currently being utilized by its acquired
subsidiary, EFJ. Once converted, the Company will then upgrade to a newer
version of the same information system or will purchase a separate information
system that will be Year 2000 compliant. The conversion to a Year 2000 compliant
system is anticipated to be completed by mid-year 1999 with the cost estimated
to be between $750,000 and $1.5 million. These expenditures were planned and
budgeted for in an effort to upgrade the quality of the Company's manufacturing
and financial information system and not as a direct remediation of any Year
2000 issues, although that will be a valuable by-product of the upgrade. There
are other computerized systems involved in manufacturing and engineering
systems. A preliminary assessment has been made as to what effect, if any, the
Year 2000 issue will have on these systems and whether or not there will be a
material effect on future financial results. As of June 30, 1998, no conclusions
have been drawn. Furthermore, the Company has not yet initiated formal
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communications with all of its significant suppliers to determine the extent to
which the Company is vulnerable to those third parties' failure to remediate
their own Year 2000 issue.
The Company has entered into contracts for the completion of a new
addition to its Lincoln, Nebraska headquarters facility. Total dollar amount of
the contracts is approximately $2.2 million with the total project cost
estimated at approximately $3.0 million.
8. RECENT EVENTS
On March 27, 1998, the Company issued a press release announcing that
it would not file its 1997 Annual Report on Form 10-K with the SEC on March 31,
1998 because the audit of its 1997 financial statements was not yet completed.
The Company also announced that (i) certain accounting principles relating
primarily to revenue recognition were not yet resolved by the Company's
independent accountants, (ii) the accountants and Company management were
undertaking a review of the Company's accounting policies and (iii) adjustments
would be made to the Company's previously announced financial results.
On April 13, 1998, the Company announced that it would not file its
1997 Form 10-K on or before the extension date of April 15, 1998 due to ongoing
work being performed by the Company and its independent accountants. The Company
also announced that the Audit Committee of the Board of Directors had retained
independent counsel to conduct an investigation.
In April 1998, the SEC issued a formal order of investigation to
determine whether violations of certain aspects of the Federal securities laws
had occurred in connection with the Company.
On April 24, 1998, Coopers & Lybrand, L.L.P. resigned as the Company's
independent accountants. In conjunction with its resignation, Coopers & Lybrand
advised the Company that their reports with respect to the consolidated
financial statements of the Company and its subsidiaries as of and for the years
ended December 31, 1995 and 1996 were withdrawn as of the date of their
resignation.
On April 27, 1998, the Nasdaq National Market ("Nasdaq") effected a
temporary qualification trading halt in the Company's common stock. On May 11,
1998, the common stock was delisted from the Nasdaq National Market. The Company
has appealed the Nasdaq delisting.
On May 6, 1998, the Company announced that it had engaged KPMG Peat
Marwick LLP as its independent auditors for the fiscal years ended December 31,
1997, 1996 and 1995.
On May 18, 1998, the Company disclosed in a filing with the SEC that
its Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1998 will not
be filed within the period prescribed for such report.
Effective May 31, 1998, Jeffery L. Fuller resigned as President, Chief
Executive Officer ("CEO") and Director of the Company. On June 8, 1998, the
Company announced that the Board of Directors had appointed a committee to
identify a CEO of the Company and that John T. Connor, who serves as Chairman of
the Board, had been appointed as interim CEO. Mr. Connor accepted
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such appointment until the earlier of September 8, 1998 or the hiring of a
permanent CEO. Mr. Connor has indicated that if a permanent CEO is not hired by
such date, he will discuss with the Board of Directors the possibility of
staying on for a longer time.
On July 8, 1998, the Company's primary bank lender, U.S. Bank National
Association ("U.S. Bank"), agreed to waive the Company's violations of its bank
credit facility arising out of the Company's failure to timely provide financial
statements, meet certain financial covenants and provide monthly borrowing base
certificates to U.S. Bank. U.S. Bank also agrees to amend the credit facility by
reducing the Company's required tangible net worth amount to $55.0 million from
$70.0 million.
On July 15, 1998, the Company filed with the SEC on Form 8-K its
audited consolidated financial statements for 1997, 1996 (restated) and 1995 and
unaudited consolidated financial results for the first quarter of 1998.
9. RESTATEMENT OF PRIOR PERIOD CONSOLIDATED FINANCIAL STATEMENTS
On February 6, 1998, the Company issued a press release announcing its
consolidated financial results for 1997. Subsequently, it was determined to be
necessary to restate its previously released results for the three months and
year ended December 31, 1997, the Company's financial statements as of and for
the year ended December 31, 1996 and the financial statements as of and for each
of the quarterly periods ended March 31, June 30, September 30 and December 31
during 1997 and 1996.
The restatements relate primarily to: (i) revenue recognition for
certain sales for which collection was determined to not be reasonably assured
or was contingent on a future event; (ii) revenue recognition for certain sales
where a formal written agreement was not received; and (iii) revenue recognized
on sales of certain products which were subsequently returned to the Company.
The summary of the significant changes for the three months ended
March 31, 1997 is as follows:
TRANSCRYPT INTERNATIONAL, INC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(in thousands, except share and per share data)
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
--------------------------
March 31, 1997
--------------------------
As Previously
Reported As Restated
------------- -----------
<S> <C> <C>
Revenues $ 4,728 $ 3,512
Cost of sales 1,632 1,272
---------- ----------
Gross profit 3,096 2,240
Operating expenses
Research and development 633 633
Sales and marketing 1,086 942
General and administrative 478 572
---------- ----------
Total operating expenses 2,197 2,147
---------- ----------
Incoming from operations 899 93
Interest income 125 125
Interest expense (49) (49)
---------- ----------
Incoming before income taxes 975 169
Provision for income taxes 292 27
---------- ----------
Net income $ 683 $ 142
========== ==========
Net income per share - Basic $ 0.08 $ 0.02
========== ==========
- Diluted $ 0.07 $ 0.02
========== ==========
Weighted average common shares - Basic 8,699,744 8,699,745
========== ==========
- Diluted 9,177,989 9,281,849
========== ==========
</TABLE>
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following table sets forth certain Consolidated Statements of
Operations information as a percentage of revenues during the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------------------
1998 1997
----------------------------------------
(Restated)
<S> <C> <C> <C> <C>
Revenues $ 21,988 100.0% $ 3,512 100.0%
Cost of sales 12,910 58.7% 1,272 36.2%
-------- ------------------- -----
Gross profit 9,078 41.3% 2,240 63.8%
Operating expenses:
Research and development 2,038 9.3% 633 18.0%
Sales and marketing 3,210 14.6% 942 26.8%
General and administrative 2,113 9.6% 572 16.3%
-------- ------------------- -----
Total operating expenses 7,361 33.5% 2,147 61.1%
-------- ------------------- -----
Income from operations 1,717 7.8% 93 2.6%
Other Income 16 0.1% -- 0.0%
Interest income 394 1.8% 125 3.6%
Interest expense (99) (0.5)% (49) (1.4)%
-------- ------------------- -----
Income before income taxes 2,028 9.2% 169 4.8%
Provision for income taxes 712 3.2% 27 0.8%
-------- ------------------- -----
Net income $ 1,316 6.0% $ 142 4.0%
======== =================== =====
</TABLE>
Discussions of certain matters contained in this Quarterly Report on
Form 10-Q may constitute forward-looking statements under section 27A of the
Securities Act of 1933, as amended (the Securities Act") and Section 21E of the
Securities Exchange Act of 1934, as amended, (the "Exchange Act"). These
statements may involve risks and uncertainties. These forward-looking statements
relate to, among other things, the outcome of pending class action litigation
involving the Company, the outcome of the pending investigation by the SEC, the
effects of the Company's recent restatement of its financial statements and
other recent events on the Company's product development efforts, future sales
levels and customer confidence, the Company's future financial condition,
liquidity and business prospects generally, perceived opportunities in the
marketplace for the Company's products and its products under development, and
the Company's other business plans for the future. The Company's actual results,
performance and achievements may differ materially from the results, performance
and achievements expressed or implied in such forward-looking statements and
from historical results. For a additional discussion of some of the factors that
might cause such a difference, see "ITEM 1. BUSINESS -- Summary of Business
Considerations and Certain Factors That May Affect Future Results of Operations
and/or Stock Price" contained in the Company's Annual Report on Form 10-K for
the year ended December 31, 1997.
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The following discussion is intended to provide a better understanding
of the significant changes in trends relating to the Company's financial
condition and results of operations. Management's Discussion and Analysis should
be read in conjunction with the accompanying Consolidated Financial Statements
and Notes thereto.
RESTATEMENT AND RECENT EVENTS
On February 6, 1998, the Company issued a press release announcing its
consolidated financial results for 1997. Subsequently, it was determined to be
necessary to restate the Company's previously released results for the three
months and year ended December 31, 1997, the Company's financial statements as
of and for the year ended December 31, 1996 and the financial statements as of
and for each of the quarterly periods ended March 31, June 30, September 30 and
December 31 during 1997 and 1996.
The restatements relate primarily to: (i) revenue recognition for
certain sales for which collection was determined to not be reasonably assured
or was contingent on a future event, (ii) revenue recognition for certain sales
where a formal written agreement was not received, (iii) revenue recognized on
sales of certain products which were subsequently returned to the Company, (iv)
application of the percentage of completion method on system contract sales at
EFJ and (v) the allocation of the purchase price of the acquisition of EFJ. As a
result, the financial statements of the Company have been restated from amounts
previously reported.
A summary of the significant quarterly changes for the three months
ended March 31, 1997 is set forth in Note 9 of Notes to Condensed Consolidated
Financial Statements.
The restatement of the Company's financial statements, class action
lawsuits, SEC investigation and other recent events have had an adverse impact
on the Company's financial condition, results of operations, liquidity and cash
flows. During the quarter ended June 30, 1998, the Company experienced declining
revenues which it is anticipated will be between $13 and $14 million and
incurred substantial costs primarily in connection with the audit of the
financial statements and legal fees relating to the restatements, the class
action lawsuits, the SEC investigation and the previously announced Audit
Committee investigation. As a result primarily of the foregoing, the Company
expects to report a loss of between $3.0 million and $5.0 million in the second
quarter of 1998.
These events have had, to varying degrees, an adverse impact on the
Company's relationships with its vendors and customers. A company that
manufactures radios under contract for the Company has required the Company to
supply a letter of credit before radios are shipped to the Company. The Company
did not enter into any new domestic systems contracts during the second quarter
of 1998. In addition, in connection with the bidding requirements on systems
contracts with governmental agencies, the bidding procedures often include the
posting of bonds. The issuer of the Company's bonds has indicated that it may,
following its review of the Company's restated financial statements, reduce the
maximum amount of bonding coverage available to the Company. On May 21, 1998,
the line of credit with U.S. Bank was amended to include additional collateral
of $10.0 million of time certificates of deposit. On July 8, 1998, U.S. Bank
agreed to waive the Company's violations of the credit facility arising out of
the Company's failure to timely provide financial statements, meet certain
financial covenants and provide monthly borrowing base certificates. U.S. Bank
also agreed to amend the credit line by reducing the Company's required tangible
net worth amount to $55 million from $70 million.
Because of the uncertainties resulting from the restatement and other
recent events the Company is also evaluating all of its product lines, and
looking at various initiatives to reduce operating expenses in order to keep
them in line with revenues. Implementation of any plan resulting from these
initiatives may result at some future date in substantial upfront cost.
The Company can provide no assurance that the restatement of its
financial statements and the ongoing class action lawsuits and SEC
investigation, regardless of their outcomes, will not continue to have a
material adverse effect on the Company's financial condition, results of
operations, liquidity and cash flows.
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Revenues
Revenues are recognized when product is shipped, less an estimate for
an allowance for returns, if applicable, if collection is reasonably assured.
For shipments where collection is not reasonably assured, the Company recognizes
revenue as cash is received. If collection is contingent on a future event, such
as a reseller of product selling the product to the end user, the Company
recognizes revenue when the contingency lapses, generally upon cash collection.
System sales under long-term contracts are accounted for under the
percentage-of- completion method. Under this method, revenues are recognized as
work on a contract progresses. The recognized revenue is that percentage of
estimated total revenue that incurred costs to date bear to estimated total
costs to complete the contract. Revisions in cost and profit estimates are made
when conditions requiring such revisions become known. Anticipated losses on
contracts are recognized in operations as soon as such losses are determined to
be probable and reasonably estimable.
Deferred revenue includes unearned warranty fees on extended product
warranty contracts sold to customers. The Company recognizes the fees based on
the expected warranty repairs to be incurred over the life of the contract.
Deferred revenue also includes an advanced payment received for products to be
sold to a former division of EFJ. The advance payment was negotiated as part of
the sale agreement of the division by EFJ. The advanced payment is recognized as
revenue is earned.
Revenues increased 526.1% to $22.0 million in the first quarter of 1998
from $3.5 million in the first quarter of 1997. This increase was attributable
primarily to revenues derived from the sale of EFJ products subsequent to July
31, 1997. As a result of the uncertainty raised by the restatement and recent
events, sales of products, including LMR systems to governmental agencies, are
expected to be adversely impacted during 1998. Although the Company had revenues
of $22.0 million in the first quarter of 1998, it expects revenues to decline to
between $12 and $13.5 in the second quarter of 1998.
The Company is experiencing problems with the completion of systems
contracts for certain E.F. Johnson projects begun prior to the Company's
acquisition of EFJ. Although the Company is working to correct these system
problems, no assurance can be given that it will be successful. Even if the
Company is successful in correcting these problems, the Company will incur costs
associated with correcting the systems for which there may be no corresponding
revenues. Further, if the customer for the systems contract declares an event of
default under the outstanding bond related to the system contract, the issuer of
the Company's bonds could reduce the maximum amount of bond coverage available
to the Company or impose additional restrictions with respect to the issuance of
bonds on behalf of the Company. A reduction in the amount of bond coverage
available to the Company or any restrictions imposed in connection with the
issuance of bonds would adversely affect the Company's ability to bid on new
system contracts in the future. Further, such an event or the need for the
Company to incur substantial costs to correct
Page 13
<PAGE> 14
the system contract problems being experienced could materially adversely affect
the Company's business, financial condition, results of operations, liquidity
and cash flows.
International sales as a percentage of revenues were approximately
36.2% and 73.0% during the first quarters of 1998 and 1997, respectively. The
decline in the quarter ended March 31, 1998 is primarily due to the inclusion of
EFJ, which has a larger percentage of its sales to domestic markets. As a result
of the troubled Asian economies, the Company expects a decline in revenues from
the region during 1998 as compared to 1997.
Gross Profit
Cost of sales includes materials, labor, depreciation and overhead
costs associated with the production of the Company's products, as well as
shipping, royalty and warranty product costs. Gross profit increased to $9.1
million in the first quarter of 1998 from $2.2 million in the first quarter of
1997. Gross margin decreased to 41.3% in the first quarter of 1998 from 63.8% in
the first quarter of 1997. The decrease in gross margin percentage from the
first quarter of 1997 to the first quarter of 1998 was predominantly due to the
addition of EFJ's revenues, which began in August 1997. EFJ products generally
have a lower gross margin compared to Transcrypt's products. Future gross
margins are likely to vary in the future based predominantly upon the mix of
product sales comprising revenues for that period.
Research and Development
Research and development expenses consist primarily of the costs
associated with research and development personnel, materials and the
depreciation of research and development equipment and facilities. Research and
development expenses increased to $2.0 million in the first quarter of 1998 from
$633,000 in the first quarter of 1997. This increase was primarily due to the
addition of EFJ and an increase in the members of the engineering staff.
However, research and development expenses as a percentage of revenues decreased
to 9.3% in the first quarter of 1998 from 18.0% in the first quarter of 1997.
The Company anticipates that overall research and development expenses will
increase during 1998 relative to 1997.
The information security and wireless communications product markets in
which the Company competes are rapidly evolving and can be expected to further
evolve in the future as a result of changing technology, industry standards and
customer requirements. The Company's ability to compete effectively will depend
upon its ability to anticipate and react to these changes in a timely manner. As
a result of the restatement of its financial statements and recent events, the
Company may not have, either currently or in the future, adequate capital
resources to respond to these changes.
Sales and Marketing
Sales and marketing expenses consist primarily of salaries and related
costs of sales personnel, including sales commissions and travel expenses, and
costs of advertising, public relations, bad debt provisions and trade show
participation. Sales and marketing expenses increased
Page 14
<PAGE> 15
to $3.2 million in the first quarter of 1998 from $942,000 in the first quarter
of 1997, primarily due to the acquisition of EFJ and an increase in the number
of direct sales personnel and associated expenses. Sales and marketing expenses
decreased as a percentage of revenues to 14.6% in the first quarter of 1998 from
26.8% in the first quarter of 1997.
General and Administrative
General and administrative expenses consist primarily of salaries and
other expenses associated with the Company's management, accounting, finance and
administrative functions and amortization of intangible assets. In connection
with Transcrypt's purchase of all of the outstanding shares of capital stock of
EFJ, the Company recorded $18.0 million of goodwill and other intangibles at the
closing of this acquisition. The Company is amortizing this amount on a
straight-line basis over a period of 5 to 15 years. This amortization began in
August 1997. General and administrative expenses increased to $2.1 million in
the first quarter of 1998 from $572,000 in the first quarter of 1997. General
and administrative expenses as a percentage of revenues decreased to 9.6% in the
first quarter of 1998 from 16.3% in the first quarter of 1997. This increase was
attributable primarily to the addition of EFJ and several administrative
employees.
The Company expects that general and administrative expenses will
increase in 1998, in part, as a result of the first full year of amortization of
the intangibles resulting from the acquisition of EFJ. In addition, general and
administrative expenses will increase in the second quarter of 1998 primarily
due to legal and other professional fees relating to the restatement, class
action lawsuits, SEC investigation, and the previously announced Audit Committee
investigation.
Net Interest Income (Expense)
Net interest income consists of interest income earned on cash and
investable funds, net of interest expense related to amounts payable on the
Company's term and installment loans and bank lines of credit. Net interest
income was $295,000 in the first quarter of 1998 as compared to $76,000 in the
first quarter of 1997. With the increase of bank debt in 1998 and the declining
balance of cash and cash equivalents, interest income will decline while
interest expense will increase on a quarterly basis over amounts experienced by
the Company during the first quarter of 1998.
Provision for Income Taxes
The Company's effective tax rate for the first quarter of 1998 was
35.1% compared to 16.0% for the same period in 1997. The 1997 tax rate was lower
because international sales, a portion of which is exempt from taxation through
the Company's foreign sales corporation, represented a greater percentage of
total revenues in 1997 than 1998.
Liquidity and Capital Resources
Since January 1, 1997, the Company has financed its operations and met
its capital requirements primarily through short-term borrowings, long-term debt
and stock offerings completed
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<PAGE> 16
on January 22, 1997 and October 15, 1997.
The Company's operating activities used cash of $4.0 million in the
first quarter of 1998 and $2.7 million in the first quarter of 1997. Cash used
in operating activities in the first quarter of 1998 consisted primarily of an
increase in inventory, a decrease in accounts payable and a decrease in accrued
expenses offset in part by net income plus depreciation and amortization and a
decrease in accounts receivable. Cash used in operating activities in the first
quarter of 1997 consisted primarily of an increase in accounts receivable and
inventory and a decrease in accounts payable offset in part by net income plus
depreciation and an increase in accrued expenses.
The deferred tax assets totaling $7.3 million were 6.9% and 9.5% of
total assets and stockholders' equity, respectively, at March 31, 1998.
Management believes that it is more likely than not that future taxable income
will be sufficient to fully utilize all deferred tax assets recorded, net of
existing valuation allowances.
Cash provided by investing activities of $1.0 million in the first
quarter of 1998 was due to the sale of investments less $747,000 of capital
expenditures. Capital expenditures consisted primarily of manufacturing
equipment, computer equipment and office furniture. Cash used for investing
activities in the first quarter of 1997 of $688,000 was attributable to capital
expenditures. Capital expenditures consisted primarily of computer and
networking equipment, office furniture and manufacturing equipment and
construction at the Company's Lincoln facility in both quarters.
Financing activities provided cash of $3.2 million in the first quarter
of 1998. Financing activities consisted of $5.8 million in borrowings on the
Company's line of credit and payment of long-term debt of $2.5 million. As of
June 30, 1998, the Company had $9.1 million in outstanding indebtedness under
its line of credit with U.S. Bank. On July 8, 1998, U.S. Bank agreed to waive
the Company's violations of its bank credit facility arising out of the
Company's failure to timely provide financial statements, meet certain financial
covenants and provide monthly borrowing base certificates to U.S. Bank. U.S.
Bank also agreed to amend the credit facility by reducing the Company's required
tangible net worth amount to $55 million from $70 million.
The Company had outstanding an IDR totaling $2.8 million at March 31,
1998. The IDR is due in annual principal payments of $140,000 plus interest at a
variable rate (3.5% at March 31, 1997) beginning March 1, 1998 through March 1,
2007, increasing to annual principal payments of $145,000 plus interest at a
variable rate due March 1, 2008 through March 1, 2016, with the remaining
principal and accrued interest due on March 1, 2017. At March 31, 1997, the
remaining net proceeds of $496,000 (net of debt offering costs and the
aforementioned repayments) were held in escrow for the Company pending the
completion of the Company's construction project and related purchases of
certain fixed assets.
The Company intends to retain earnings, if any, and does not anticipate
paying cash dividends in the foreseeable future.
As of June 30, 1998, the Company had approximately $14 million in
unrestricted cash, cash equivalents, and investments, not including the $10.0
million of certificates of deposit securing the U.S. Bank line of credit. The
Company believes that its cash, cash equivalents, investments, and lines of
credit will probably be sufficient to meet anticipated cash needs for working
capital and capital
Page 16
<PAGE> 17
expenditures through 1998. However, if sales continue to decline, vendors
impose stricter payment requirements on the Company, bond coverage is reduced,
or the Company incurs substantial costs to correct the problems being
experienced in connection with completion of systems contracts for certain of
EFJ projects begun prior to the Company's acquisition of EFJ, the Company may be
required to seek additional financing or funding sources. No assurance can be
given that the Company will be able to obtain such additional funding or
financing or be able to obtain it on satisfactory terms. Additionally, see Note
7. COMMITMENTS AND CONTINGENCIES above for a discussion regarding certain
pending litigation the resolution of which could materially adversely affect the
Company's liquidity, future operating results, and financial condition.
Recently Issued Accounting Standards
In June 1997, FASB issued Statement of Financial Accounting Standards
No. 130, Reporting Comprehensive Income ("SFAS 130"). SFAS 130 establishes
standards for reporting and displaying comprehensive income and its components.
Comprehensive income includes net income and several other items that current
accounting standards require to be recognized outside of net income. SFAS 130 is
effective for years beginning after December 15, 1997. The Company currently has
no items that would cause a differentiation between net income and comprehensive
income.
In June 1997, FASB issued Statement of Financial Accounting Standards
No. 131, Disclosures about Segments of an Enterprise and Related Information
("SFAS 131"). SFAS 131 requires publicly-held enterprises to report certain
information about their operating segments, to report certain enterprise-wide
information about their products and services, their activities in different
geographic areas, and their reliance on major customers, and to also disclose
certain segment information in their interim financial statements. The basis for
determining an enterprise's operating segments is the manner in which management
operates the business. SFAS 131 is effective for financial statements for
periods beginning after December 31, 1997, however implementation is not
required for interim periods in the first year. The Company is continuing to
assess its reporting requirements under SFAS 131 as to whether or not the
Company has more than one operating segment.
Impact of the Year 2000 Issue
The Year 2000 issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Any of the
Company's computer programs that have date-sensitive software may recognize a
date using "00" as the year 1900 rather than the year 2000. This could result in
a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions or
engage in similar normal business activities.
In order to correct any problems expected to arise as a result of the
Year 2000 issue, the Company has supplied software updates for all of its
products. All products currently being shipped by the Company are Year 2000
compliant. Should a customer use the Company's software with a personal computer
that is not compliant with the year 2000, at that time, the customer may
experience erroneous dates on reports, but should not experience any operational
issues.
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<PAGE> 18
The Company is in the process of converting its manufacturing and
financial information system to that currently being utilized by its acquired
subsidiary, EFJ. Once converted, the Company will then upgrade to a newer
version of the same information system or will purchase a separate information
system that will be Year 2000 compliant. The conversion to a Year 2000 compliant
system is anticipated to be completed by mid-year 1999 with the cost estimated
to be between $750,000 and $1.5 million. These expenditures were planned and
budgeted for in an effort to upgrade the quality of the Company's manufacturing
and financial information system and not as a direct remediation of any Year
2000 issues, although that will be a valuable by-product of the upgrade. There
are other computerized systems involved in manufacturing and engineering
systems. A preliminary assessment has been made as to what effect, if any, the
Year 2000 issue will have on these systems and whether or not there will be a
material effect on future financial results. As of June 30, 1998, no conclusions
have been drawn. Furthermore, the Company has not yet initiated formal
communications with all of its significant suppliers to determine the extent to
which the Company is vulnerable to those third parties' failure to remediate
their own Year 2000 issue.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Not applicable.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
For a description of pending litigation, see "ITEM 3. LEGAL
PROCEEDINGS" contained in the Annual Report Form 10-K for the year ended
December 31, 1997.
ITEMS 2 - 4.
Inapplicable.
ITEM 5. OTHER INFORMATION
The date of the Company's 1998 Annual Meeting of Stockholders has been
delayed more than 30 days from the date of the previous year's Annual Meeting
which was held on May 6, 1997. The proxy materials for the Company's 1997 Annual
Meeting originally indicated that proposals of stockholders must be received by
the Company by December 5, 1997 in order to be included in proxy materials for
the 1998 Annual Meeting. However, because of the delay in the convening of the
1998 Annual Meeting, the Company will accept stockholder proposals after
December 5, 1997. At this time, the Company anticipates that the Annual Meeting
will be held on October 22, 1998. As a result, in accordance with the rules and
regulations promulgated under the Exchange Act, stockholder proposals intended
to be included in the proxy materials for the 1998 Annual Meeting must be
received by the Company a reasonable time before the Company begins to print and
mail its proxy materials for the 1998 Annual Meeting. In addition, in the event
a stockholder proposal is not submitted to the Company in a reasonable time
before the Company begins to print and mail proxy
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<PAGE> 19
materials, the proxy to be solicited by the Board of Directors for the 1998
Annual Meeting will confer authority on the holders of the proxy to vote shares
in accordance with their best judgement and discretion if the proposal is
presented at the 1998 Annual Meeting without any discussion of the proposal in
the proxy statement for such meeting.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The following exhibits are being filed herewith:
<TABLE>
<CAPTION>
Exhibit No. Description
----------- -----------
<S> <C>
11 Computation of net income per share.
27 Financial Data Schedule
</TABLE>
(B) REPORTS ON FORM 8-K
The registrant filed no reports on Form 8-K during the quarter ended
March 31, 1998.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
TRANSCRYPT INTERNATIONAL, INC.
Date: July 28, 1998 By: /s/ Craig J. Huffaker
------------------------------------
Craig J. Huffaker
Chief Financial Officer
(Principal Financial and Accounting
Officer)
Page 19
<PAGE> 1
EXHIBIT 11
TRANSCRYPT INTERNATIONAL, INC AND SUBSIDIARIES
COMPUTATION OF NET INCOME PER SHARE
(in thousands, except share and per share data) (Unaudited)
<TABLE>
<CAPTION>
Three Months Ended
----------------------------------
March 31, 1998 March 31, 1997
---------------- --------------
(restated)
<S> <C> <C>
Net Income $ 1,316 $ 142
=========== ===========
NET INCOME PER SHARE - BASIC
Weighted average common shares - Basic 12,946,624 8,699,745
=========== ===========
Net income per share - Basic $ 0.10 $ 0.02
=========== ===========
NET INCOME PER SHARE - DILUTED
Shares used in this computation:
Weighted average common shares - Basic 12,946,624 8,699,745
Dilutive effect of shares under employee stock plans 674,525 582,104
----------- -----------
Weighted average common shares - Diluted 13,621,149 9,281,849
=========== ===========
Net income per share - Diluted $ 0.10 $ 0.02
=========== ===========
</TABLE>
Page 20
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM TRANSCRYPT
INTERNATIONAL, INC.'S CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND
CONSOLIDATED CONDENSED BALANCE SHEETS AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> MAR-31-1998
<CASH> 15,594
<SECURITIES> 14,150
<RECEIVABLES> 15,146
<ALLOWANCES> 0
<INVENTORY> 19,699
<CURRENT-ASSETS> 72,404
<PP&E> 11,538
<DEPRECIATION> 0
<TOTAL-ASSETS> 106,185
<CURRENT-LIABILITIES> 26,025
<BONDS> 2,595
0
0
<COMMON> 129
<OTHER-SE> 76,577
<TOTAL-LIABILITY-AND-EQUITY> 106,185
<SALES> 21,988
<TOTAL-REVENUES> 21,988
<CGS> 12,910
<TOTAL-COSTS> 12,910
<OTHER-EXPENSES> 7,361
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (295)<F1>
<INCOME-PRETAX> 2,028
<INCOME-TAX> 712
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,316
<EPS-PRIMARY> $.10
<EPS-DILUTED> $.10
<FN>
<F1>INTEREST EXPENSE IS NET OF $394 OF INTEREST INCOME LESS $99 OF INTEREST
EXPENSE.
</FN>
</TABLE>
