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 quarter ended April 3, 1999
Commission File Number 23103
APPLIED FILMS CORPORATION
(Exact Name of Registrant as Specified in its Charter)
Colorado
(State or other jurisdiction of incorporation or
organization)
9586 I-25 Frontage Rd., Longmont, Colorado
(Address of principal executive offices)
84-1311581
(IRS Employer Identification No.)
80504
(Zip Code)
Registrant's telephone number, including area code: (303) 774-3200
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 _____
3,484,149 shares of Common Stock were outstanding as of March 31, 1999.
<PAGE>
INDEX
PART I. FINANCIAL INFORMATION Page No.
Item 1. Financial Statements: 3
Consolidated Balance Sheets as of April 3, 1999 and 3
June 27, 1998
Consolidated Statements of Operations for the Three and Nine 4
Months Ended April 3, 1999 and March 28, 1998
Consolidated Statements of Cash Flows for the Nine Months 5
Ended April 3, 1999 and March 28, 1998
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial 12
Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About 18
Market Risk
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K. 19
2
<PAGE>
APPLIED FILMS CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
April 3, 1999 June 27, 1998
--------------- ---------------
ASSETS (unaudited)
<S> <C> <C>
Current Assets:
Cash and cash equivalents $ 455 $ 81
Accounts receivable, net
Coated glass and other 3,322 6,010
Due from affiliate 2,555 -
Income earned, not yet billed - 1,436
Inventories, net 8,191 10,055
Prepaid expenses and other 939 948
Deferred tax asset, net 500 837
-------------- --------------
Total current assets 15,962 19,367
-------------- --------------
Property, Plant and Equipment:
Land 270 270
Building 240 240
Machinery and equipment 14,531 16,477
Office furniture and equipment 432 502
Leasehold improvements 1,295 1,022
Construction-in-progress 1,805 877
-------------- --------------
18,573 19,388
Accumulated depreciation (9,397) (10,129)
-------------- --------------
9,176 9,259
Investment in Joint Venture 3,307 71
Deferred tax asset, long term 190 -
-------------- --------------
Total Assets $ 28,635 $ 28,697
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Trade accounts payable $ 2,124 $ 5,241
Accrued expenses 1,890 2,955
Current portion of deferred gain 56 56
Income taxes payable 37 291
Current portion of long-term debt 173 77
-------------- --------------
Total current liabilities 4,280 8,620
-------------- --------------
Non-Current Liabilities:
Long-term debt, net of current portion 7,683 4,175
Deferred gain, net of current portion 2,163 756
Deferred tax liability, net of current portion - 320
-------------- --------------
Total liabilities 14,126 13,871
Stockholders' Equity:
Common stock, no par value, 10,000,000
shares authorized, 3,479,788 and 3,476,437 shares
issued and outstanding, respectively 9,464 9,424
Comprehensive income 22 (7)
Retained earnings 5,023 5,409
-------------- --------------
Total stockholders' equity 14,509 14,826
-------------- --------------
Total liabilities & stockholders' equity $ 28,635 $ 28,697
============== ==============
</TABLE>
3
<PAGE>
APPLIED FILMS CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(unaudited)
<TABLE>
Three Months Ended Nine Months Ended
------------------ -----------------
April 3, 1999 March 28, 1998 April 3,1999 March 28, 1998
------------- -------------- ------------ --------------
<S> <C> <C> <C> <C>
Net Sales
Non-affiliated $ 5,920 $ 15,312 $ 21,448 $ 39,736
Affiliated 2,296 - 2,296 -
--------- --------- --------- ----------
Total Net Sales $ 8,216 $ 15,312 $ 23,744 $ 39,736
Cost of Goods Sold 6,622 12,356 20,272 31,745
--------- --------- --------- ----------
Gross Profit 1,594 2,956 3,472 7,991
Operating Expenses:
Selling, General and Administrative 911 1,336 3,010 3,431
Research and Development 274 324 747 941
--------- --------- --------- ----------
Income (Loss) from Operations 409 1,296 (285) 3,619
Other (Expense) Income:
(Loss) Gain on foreign currency exchange (36) 69 (52) 102
Interest Expense (167) (103) (419) (360)
Other Income 9 17 26 36
--------- --------- --------- ----------
Income (Loss) before income taxes 215 1,279 (730) 3,397
Income Tax Benefit (Provision) (72) (435) 344 (1,148)
--------- --------- --------- ----------
Net Income (Loss) $ 143 $ 844 $ (386) $ 2,249
Net Income (Loss) Per Share
Basic $ 0.04 $ 0.24 $ (0.11) $ 0.72
Diluted $ 0.04 $ 0.23 $ (0.11) $ 0.68
Weighted Average Common Shares
Outstanding
Basic 3,480 3,473 3,477 3,119
Diluted 3,480 3,695 3,477 3,326
</TABLE>
4
<PAGE>
APPLIED FILMS CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENT OF CASH FLOWS
(In thousands)
(unaudited)
<TABLE>
Nine Months Ended Nine Months Ended
April 3, 1999 March 28, 1998
---------------------- ---------------------
<S> <C> <C>
Cash Flows From Operating Activities
Net (loss) income $ (386) $ 2,249
Depreciation and amortization 1,292 1,301
Amortization of deferred gain on lease (42) -
Unrealized gain on foreign exchange 24 -
Loss (gain) on disposals of property, 1 (4)
plant and equipment
Undistributed earnings of affiliate - (35)
Changes in --
Accounts receivable (net) 2,088 (2,749)
Inventories 1,863 (4,091)
Prepaid expenses and other (500) (382)
Accounts payable (3,116) 4,129
Income received not yet earned - (1,500)
Accrued expenses (993) 1,524
Income taxes payable (327) 310
Deferred gain on equipment sale to joint venture 1,449 -
Deferred income taxes, net (174) (767)
------------------ ---------------------
Net cash flows from operating activities $ 1,179 $ (15)
================== =======================
Cash Flows From Investing Activities
Purchase of machinery and equipment (626) (4,444)
Purchase of office furniture & equipment (21) (35)
Purchase of leasehold improvements (198) (477)
Costs incurred for transfers from construction in progress (359) 409
Proceeds from sale of equipment - 4
Cash received on note receivable from officer - 4
Extension of note receivable (10) -
Investment in joint venture (3,236) -
Proceeds from sale of Longmont purchase option - 834
------------------ ------------------
Net cash flows from investing activities $ (4,450) $ (3,705)
================== =====================
Cash Flows from Financing Activities Proceeds from short term note and revolving
credit
facility 10,988 9,791
Repayment of revolving credit facility (7,382) (11,241)
Net cash received from public stock offering - 5,205
Issuance of common stock 39 -
------------------ --------------------
Net cash flows from financing activities $ 3,645 $ 3,755
================== ====================
Net increase in cash $ 374 $ 35
Cash and cash equivalents, beginning of period $ 81 $ 297
Cash and cash equivalents, end of period $ 455 $ 332
================== ====================
Supplemental cash flow information
Cash paid for interest, net of amounts capitalized $ 735 $ 626
================== ====================
Cash paid (received) for income taxes net of
amounts refunded $ (100) $ 1,603
================== ====================
</TABLE>
5
<PAGE>
APPLIED FILMS CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Company Organization and Operations
Applied Films Corporation, (the "Company"), was originally incorporated in 1992
as a Michigan corporation. In June 1995, the Company reincorporated in Colorado.
The Company's principal line of business is the manufacture and sale of thin
film coated glass for use in flat panel and liquid crystal displays. During
fiscal 1997, the Company began selling its thin film coating equipment to flat
panel display and other manufacturers. The Company experiences risks common to
technology companies, including highly competitive and evolving markets for its
products.
The Company was formed in May 1992 as the result of a merger between Applied
Films, Inc. and a wholly owned subsidiary of Donnelly Corporation, Donnelly
Coated Corporation. On November 26, 1997, Donnelly sold all its shares of
Applied Films stock during the Company's initial public offering.
(2) Significant Accounting Policies
Principles of Consolidation
The accompanying consolidated financial statements include the Company's wholly
owned subsidiary, DAF Export Corporation, which is treated as a Foreign Sales
Corporation for federal income tax purposes. The accounts of the subsidiary have
been consolidated with the accounts of the Company in the accompanying financial
statements. All intercompany accounts and transactions have been eliminated in
the consolidation.
Unaudited Financial Information
The accompanying interim financial information as of April 3, 1999 and for the
quarter and nine month periods ended March 28, 1998 and April 3, 1999 are
unaudited. In the opinion of management, all adjustments (consisting of normal
recurring adjustments) have been included that are necessary to provide a fair
statement of the results of those interim periods presented. The results of
operations for the quarter ended April 3, 1999 are not necessarily indicative of
the results to be expected for the entire year.
Fiscal Year
The Company has adopted a fiscal year ending on the Saturday nearest June 30,
which will result in fiscal years composed of 52 or 53 weeks. Fiscal years 1998
and 1999 include 52 and 53 weeks respectively.
6
<PAGE>
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market.
Inventory items are evaluated periodically for obsolescence and reserved or
written off as appropriate. The Company's provision for slow-moving and
unidentified losses in inventory was $130,000 as of April 3, 1999 and $95,000 at
fiscal year ended June 27, 1998. Inventories at April 3, 1999 and June 27, 1998
consist of the following:
<TABLE>
April 3, 1999 June 27, 1998
------------- -------------
<S> <C> <C>
Raw materials, net................................... $3,697,000 $ 6,555,000
Work-in-process...................................... 15,000 11,000
Materials for manufacturing systems.................. 190,000 302,000
Finished goods....................................... 4,289,000 3,187,000
---------- -----------
$8,191,000 $10,055,000
========== ===========
</TABLE>
Revenue Recognition
Coated glass revenues are recognized upon shipment to the customer. A provision
for estimated sales returns and allowances is recognized in the period of the
sale.
Equipment Sales
Revenues relating to the sales of thin film coating equipment are recognized on
the percentage-of completion method, measured by the percentage of the total
costs incurred and applied to date in relation to the estimated total costs to
be incurred for each contract. Management considers costs incurred and applied
to be the best available measure of progress on these contracts. Contract costs
include all direct material and labor costs and those indirect costs related to
contract performance. General and administrative costs are charged to expense as
incurred. Changes in performance, contract conditions and estimated
profitability, including those arising from contract penalty provisions, and
final contract settlements may result in revisions to costs and income and are
recognized in the period in which the revisions are determined. Income earned,
but not yet billed, which totaled $0 and $1,436,000 at April 3, 1999 and June
27, 1998, respectively, represents revenues earned prior to billing. The Company
offers warranty coverage for equipment sales for a period of 12 months after
final acceptance. The Company estimates the anticipated costs to be incurred
during the warranty period and accrues a reserve as a percentage of revenue as
revenue is recognized. These reserves are evaluated periodically based on actual
experience and anticipated activity. Provisions for anticipated losses on
contracts, if any, will be made in the period they become evident.
Research and Development Costs
Research and development costs are expensed as incurred and consist primarily of
salaries and supplies. The Company incurred approximately $274,000 and $324,000
of research and development costs for the third quarter of fiscal year 1999 and
1998, respectively. The Company incurred approximately $747,000 and $941,000 of
research and development costs for the nine months ended April 3, 1999 and March
28, 1998, respectively.
7
<PAGE>
Foreign Currency Transactions
The Company generated approximately 85% and 78% of its revenues in the first
nine months of fiscal 1999 and for fiscal year 1998, respectively, from sales to
foreign corporations. In addition, many of its raw materials are purchased from
foreign corporations. The majority of the Company's sales and purchases are
denominated in U.S. dollars, with the remainder denominated in Japanese yen. For
those transactions denominated in Japanese yen, the Company records the sale or
purchase at the spot exchange rate in effect on the date of sale. Receivables
from such sales or payables for such purchases are translated to U.S. dollars
using the end of period spot exchange rate. Transaction gains or losses are
charged or credited to income during the period.
Net Income (Loss) Per Share
Net income (loss) per share is computed using the weighted average number of
common and common equivalent shares outstanding for each period. Common
equivalent shares include stock options to purchase the Company's common stock.
8
<PAGE>
Adoption of New Accounting Standards
The Financial Accounting Standards Board ("FASB") recently issued Statement of
Financial Accounting Standards ("SFAS") No. 128 entitled, "Earnings per Share."
SFAS No. 128 replaces primary and fully diluted earnings per share with basic
and diluted earnings per share, respectively. Under SFAS No. 128, basic shares
are calculated as shares outstanding in the market, less any treasury shares,
and diluted shares are calculated using basic shares and including dilutive
common equivalent shares such as stock options. The Company has applied this
accounting principle retroactively. The effect of this accounting change on
previously reported earnings per share was as follows:
<TABLE>
Nine Months Ended
March 28, 1998
-----------------
Fully
Primary Diluted
------- -------
<S> <C> <C>
Primary (loss) earnings per share (as
reported under the prior method) .68
Effect of removal of options issued
within 12 months of IPO in connection
with adoption of SFAS No. 128 --
-------
Basic (loss) earnings per share .68
Fully diluted (loss) earnings per share
(as reported under the prior method) .67
Effect of stock options -
Effect of use of average market price for
options as opposed to end of year price
used under previous method .01
------- -------
Diluted (loss) earnings per share .68 .68
======= =======
</TABLE>
9
<PAGE>
A reconciliation between the number of shares used to calculate basic and
diluted earnings per share is as follows (in thousands of shares):
<TABLE>
Three Months Ended Nine Months Ended
March 28, 1998 March 28, 1998
---------------- ---------------
<S> <C> <C>
Weighted average number of common
shares outstanding (shares used in basic
earnings per share computation) 3,473 3,119
Effect of stock options (treasury stock
method) 222 207
-------- --------
Shares used in diluted earnings per share
computation 3,695 3,326
</TABLE>
The impact for the three and nine month periods ended April 3, 1999 is not shown
as the effect is anti-dilutive.
The Company adopted SFAS No. 130, "Reporting Comprehensive Income" in fiscal
year 1998. Under SFAS No. 130, the Company reports comprehensive income, which
in addition to net income, includes all changes in equity during a period except
those resulting from investments by and distributions to owners. Other
comprehensive income includes amortization of deferred compensation and
unrealized gains and losses on foreign exchange.
(3) Sales by Geographic Region
The breakdown of total sales by geographic region is as follows:
<TABLE>
Three Months Ended Nine Months Ended Fiscal Year Ended
April 3, 1999 April 3, 1999 June 27, 1998
------------------ ----------------- -----------------
(unaudited) (unaudited)
<S> <C> <C> <C>
Asia (other than Japan)......................... $ 5,253,000 $ 14,002,000 $ 32,800,000
Japan........................................... 1,750,000 5,771,000 7,824,000
United States................................... 1,187,000 3,898,000 12,224,000
Europe and Other................................ 287,000 983,000 2,304,000
----------- ------------ ------------
Gross sales..................................... 8,477,000 24,654,000 55,152,000
Less: sales returns and allowances.............. (261,000) (910,000) (2,111,000)
----------- ------------ ------------
Net sales....................................... $ 8,216,000 $ 23,744,000 $ 53,041,000
=========== ============ ============
</TABLE>
10
<PAGE>
(4) Employee Stock Purchase Plan
On September 5, 1997, the board of directors of the Company adopted, and the
shareholders subsequently approved, the Applied Films Corporation Employee Stock
Purchase Plan (the "Purchase Plan"). The Purchase Plan will permit eligible
employees of the Company to purchase shares of common stock through payroll
deductions and/or lump sum payments. Shares will be purchased at 90% of the fair
market value of the common stock on the last trading day in each quarterly
purchase period. Up to 30,000 shares of common stock may be sold under the
Purchase Plan. Shares sold under the Purchase Plan may be newly issued shares or
shares acquired by the Company in the open market. Unless terminated earlier by
the board of directors, the Purchase Plan will terminate when all shares
reserved for issuance have been sold thereunder. The Purchase Plan is intended
to qualify as an "employee stock purchase plan" under Section 423 of the
Internal Revenue Code of 1986, as amended, and will be administered in
accordance with the limitations set forth in Section 423 and the rules and
regulations thereunder.
The Company has granted 10,564 shares to employees under this plan at prices
ranging from $2.42 to $4.84 per share. Of the 10,564 shares granted to date,
2,889 shares were granted during the third quarter of fiscal 1999. During the
nine month period ended April 3, 1999, 8,787 shares were granted under the
Employee Stock Purchase Plan.
(5) Investment in and Transactions with Joint Venture
In June 1998, the Company formed a 50/50 joint venture (the "JV") with Nippon
Sheet Glass Co. ("NSG") to manufacture, process, sell and export certain types
of thin film coated glass. Each party contributed $3.2 million in cash to the
JV. The Company will record 50% of income or loss from operations of the JV and
will eliminate the impact of interentity transactions. There were no operations
of the JV during the quarter ended April 3, 1999. During the quarter ended April
3, 1999, the Company sold refurbished equipment to the JV for use in the process
of thin film coating of glass. The sales price of approximately $4.5 million, as
well as installation revenues of $.5 million, is payable in February, June and
August 1999. The balance sheet reflects a receivable of $2.5 million from the
JV. Because the Company owns 50% of the JV, the Company recorded 50% of the
revenue and related cost of the sale and has deferred 50% of the gross margin,
approximately $1.4 million, (representing the Company's intercompany profit due
to its ownership of the JV), which will be recognized over seven years, the
estimated life of the equipment.
11
<PAGE>
APPLIED FILMS CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATION
The following discussion and analysis of the Company's financial condition
and results of operations should be read in conjunction with the Company's
consolidated financial statements and notes thereto included in this report.
This report contains certain forward-looking statements (within the meaning of
the Private Securities Litigation Reform Act of 1995) that involve substantial
risks and uncertainties, including those described below, the effect of changing
worldwide economic conditions, such as those in Asia, the effect of overall
market conditions, product demand and market acceptance risk, risks associated
with dependencies on suppliers, the impact of competitive products and pricing,
technological and product development risks, and other risk factors. For a
discussion of these and other risks and uncertainties, see the Company's Annual
Report on Form 10-K for the fiscal year ended June 27, 1998, Part I, "Certain
Factors." When used herein, the terms "believe," "anticipate," "intend," "goal,"
"expect," and similar expressions may identify forward-looking statements. The
Company's actual results, performance or achievements may differ materially from
those expressed or implied by such forward-looking statements.
OVERVIEW
The Company's sales historically have been derived primarily from the sale
of thin film coated glass to manufacturers of liquid crystal displays (LCDs).
Most of the Company's LCD manufacturing customers are located in Asia. Sales to
international customers represented approximately 85% of the Company's total
gross sales and 86% of thin film coated glass sales in the first nine months of
fiscal 1999. The Company expects international sales will continue to represent
a significant portion of its net sales. During fiscal 1997, the Company began
selling thin film coating equipment to flat panel display ("FPD") and other
manufacturers, which sales totaled $2.8 million for fiscal year ended 1997.
Sales of thin film coating equipment totaled $13.9 million for fiscal year 1998,
$1.2 million for the first quarter of fiscal 1999, $542,000 for the second
quarter of fiscal 1999 and $2,489,000 for the third quarter fiscal 1999,
including the $2.3 million recorded for the sale of equipment to the Company's
joint venture in China.
Sales and related costs of coated glass sales are recognized when products
are shipped to the customer. Historically, sales have varied substantially from
quarter to quarter, and the Company expects such variations to continue. Because
a significant portion of the Company's overhead is fixed in the short term, the
Company's gross profit and results of operations may be adversely affected by
unexpected fluctuations in sales and prices. The Company is typically able to
ship its thin film coated glass within 30 days of receipt of the order and,
therefore, does not customarily have a significant long-term backlog of coated
glass. Historically, the Company has experienced significant price pressure from
time to time in its thin film coated glass business. During the first nine
months of fiscal 1999, the Company has experienced a decline in selling prices
and demand for coated glass. The Company believes the decrease in selling prices
has resulted from a decrease in demand together with additional production
capacity which has been added by coated glass suppliers. The Company expects
continued downward pressure on its selling prices in the future.
12
<PAGE>
The Company sells most of its thin film coated glass to foreign customers
in U.S. dollars except for sales to certain Japanese customers which are in yen.
Gross sales in yen were approximately $6.0 million, for fiscal 1998 and $5.4
million for the first nine months of fiscal 1999. The Company does not currently
engage in international currency hedging transactions to mitigate its foreign
exchange exposure, however, the Company does purchase raw glass from Japan which
partially offsets foreign currency risks on thin film coated glass sales. The
Company's purchases of raw material denominated in yen were approximately $8.9
million in fiscal 1998 and $5.3 million for the first nine months of fiscal
1999. As of April 3, 1999, accounts receivable denominated in yen were
approximately $532,000 or approximately 9% of total accounts receivable. As of
April 3, 1999, accounts payable denominated in yen were approximately $895,000
or 42% of total accounts payable. The Company is generally paid by its customers
for its yen denominated sales within approximately 15 to 45 days of the date of
sale.
Net sales of thin film coating equipment are recognized on the
percentage-of-completion method, measured by the percentage of the total costs
incurred and applied to date in relation to the estimated total costs to be
incurred for each contract. The lead time for the sale of thin film coating
equipment is generally six to twelve months. To date, the Company has priced its
coating equipment in U.S. dollars.
In June 1998, the Company announced that its financial results were being
impacted by the economic conditions in Asia. These conditions continued to
impact the financial results of the Company during the first six months of
fiscal 1999. In August 1998, the Company announced a restructuring plan that
included a reduction in capacity (shutdown of a production coating system) and a
reduction in work force. On January 27, 1999, the Company announced an
additional reduction in workforce and production output due to the economic
conditions in Asia. In January 1999, the Company also announced that it had
completed the Joint Venture Agreement with Nippon Sheet Glass (NSG) for thin
film coated glass production in Suzhou, China. Production output from the joint
venture is expected to occur during the fourth fiscal quarter of 1999. During
the first nine months of fiscal 1999, the Company has experienced reduced demand
and declining sales prices for its thin film coated glass. Sales of thin film
coated glass to two recent purchasers of the Company's thin film coating
equipment are down significantly in part because these customers now coat glass
formerly supplied to them by the Company. The Company believes these customers
would have purchased thin film coating equipment from a competitor had they not
purchased it from the Company and that sales of thin film coated glass to these
customers would have declined whether or not the equipment was supplied by the
Company. In addition, delays in capital spending by Asian-based flat panel
display manufacturers have adversely impacted sales of thin film coating
equipment by the Company. During fiscal 1998, certain plasma display
manufacturers announced plans to delay commercialization of plasma display
panels which negatively impacts their capital equipment purchases and sale of
equipment by the Company. Purchases of equipment by other FPD manufacturers have
also been negatively affected by the Asian economic conditions. The Company
expects the above conditions to continue to negatively impact both its coated
glass and coating equipment businesses. Recently, the Company has experienced an
increase in volume for its coated glass business. Coating equipment backlog at
the end of the third quarter of fiscal 1999 was $0 versus $950,000 at fiscal
year end 1998 and $4.3 million as of the end of the third quarter of fiscal
1998.
During fiscal 1998, the Company began the relocation of its production
facilities from Boulder, Colorado to its new headquarters and production
facility in Longmont, Colorado. The relocation of its production facilities
adversely impacted results of operations during the latter part of fiscal 1998
as well as during the first quarter of fiscal 1999. The Company completed the
relocation of its facilities during the first quarter of fiscal 1999.
13
<PAGE>
RESULTS OF OPERATIONS
Three Months Ended April 3, 1999 Compared with Three Months Ended March 28, 1998
Net Sales. Net sales decreased 46% to $8.2 million in the third quarter of
fiscal 1999 from $15.3 million in the third quarter of fiscal 1998. The decrease
reflected a weakening demand and declining selling prices for thin film coated
glass and a decline in equipment sales. Thin film coated glass sales decreased
approximately 44% from the third quarter of fiscal 1998 to the third quarter of
fiscal 1999. Equipment sales decreased approximately 51% from the third quarter
of fiscal 1998 to the third quarter of fiscal 1999. Near term, the Company
expects to experience reduced sales of both thin film coated glass and coating
equipment versus fiscal 1998.
Gross Profit. Gross profit decreased to $1.6 million in the third quarter
of fiscal 1999 from $2.9 million in the third quarter of fiscal 1998. As a
percentage of net sales, gross profit margins were 19% in the third quarter of
fiscal 1999 versus 19 % in the third quarter of fiscal 1998. Gross profit
margins for thin film coated glass for the third quarter of fiscal 1999 were
negatively affected by declining sales prices and volumes. Gross profit margins
for coating equipment for the third quarter of fiscal 1999 were favorably
affected by the sale of equipment to the affiliated joint venture in China as
well as warranty reserves which were reduced by $265,000 due to better than
expected claims experience.
Selling, General and Administrative. Selling, general and administrative
expenses decreased 32% to $911,000 in the third quarter of fiscal 1999 from $1.3
million in the third quarter of fiscal 1998 due primarily to lower overall
overhead expenses resulting from cost reduction efforts and lower sales
commissions. As a percentage of net sales, selling, general and administrative
costs were 11% for the third quarter of fiscal 1999 compared to 9% for the third
quarter of fiscal 1998.
Research and Development. Research and development expenses declined 15% to
$274,000 in the third quarter of fiscal 1999 from $324,000 in the third quarter
of fiscal 1998. The decrease was due primarily to reduced salary and material
expenses and a reduction in the number of research and development projects. As
a percentage of net sales, research and development expenses were 3% in the
third quarter of fiscal 1999 and 2% in the third quarter of fiscal 1998.
Interest Expense. Interest expense increased to $167,000 in the third
quarter of fiscal 1999 from $103,000 in the third quarter of fiscal 1998.
Average debt levels were higher during the third quarter of fiscal 1999 compared
to the third quarter of fiscal 1998. During fiscal 1998, the Company had lower
debt levels due to the receipt of IPO proceeds in November 1997.
Other Income (Expense). Other income (expense) was approximately ($27,000)
in the third quarter of fiscal 1999 versus $86,000 the third quarter of fiscal
1998 due primarily to losses on foreign currency exchange. Additional foreign
currency gains and losses may occur in the future due to the fluctuating yen
rate.
Income Tax Benefit (Provision). The Company had an income tax expense of
($72,000) in the third quarter of fiscal 1999 compared to an expense of
($435,000) in the third quarter of 1998. The effective tax rate was
approximately 34% during both the third quarter of fiscal 1999 and third quarter
of fiscal 1998.
14
<PAGE>
Nine Months Ended April 3, 1999 Compared with Nine Months Ended March 28, 1998
Net Sales. Net sales decreased 40% to $23.7 million in the first nine
months of fiscal 1999 from $39.7 million in the first nine months of fiscal
1998. The decrease reflected a weakening demand and declining selling prices for
thin film coated glass and a decline in equipment sales. Thin film coated glass
sales decreased approximately 33% from the first nine months of fiscal 1998 to
the first nine months of fiscal 1999. Equipment sales decreased approximately
60% from the first nine months of fiscal 1998 to the first nine months of fiscal
1999. Near term, the Company expects to experience reduced sales of both thin
film coated glass and coating equipment versus fiscal 1998.
Gross Profit. Gross profit decreased to $3.5 million in the first nine
months of fiscal 1999 from $8.0 million in the first nine months of fiscal 1998.
As a percentage of net sales, gross profit margins decreased to approximately
14.6% in the first nine months of fiscal 1999 from 20% in the first nine months
of fiscal 1998. Gross profit margins for thin film coated glass for the nine
months of fiscal 1999 were negatively affected by declining sales prices and
volumes. Gross profit margins for coating equipment for the first nine months of
fiscal 1999 were favorably affected by the sale of equipment to the Company's
joint venture in China as well as warranty reserves which were reduced by
$679,000 due to better than expected claims experience.
Selling, General and Administrative. Selling, general and administrative
expenses were $3 million for the first nine months of fiscal 1999 versus $3.4
million for the first nine months of fiscal 1998. During fiscal 1999, the
Company incurred severance charges of $259,000 associated with reductions in
work force as well as moving expenses of $167,000 incurred to complete the
relocation of production equipment to the Company's new facility in Longmont,
Colorado. As a percentage of net sales, selling, general and administrative
costs net of one-time charges were 10.9% for the first nine months of fiscal
1999 compared to 8.6% for the first nine months of fiscal 1998.
Research and Development. Research and development expenses declined 20% to
$747,000 in the first nine months of fiscal 1999 from $941,000 in the first nine
months of fiscal 1998. The decrease was due primarily to reduced salary and
material expenses and reduction in the number of research and development
projects. As a percentage of net sales, research and development expenses were
3% in the first six months of fiscal 1999 versus 2.4% in the first nine months
of fiscal 1998.
Interest Expense. Interest expense was $419,000 in the first nine months of
fiscal 1999 versus $360,000 in the first nine months of fiscal 1998. Debt levels
were higher during the first nine months of fiscal 1999 compared to the first
nine months of fiscal 1998.
Other Income (Expense). Other income (expense) was ($26,000) in the first
nine months of fiscal 1999 versus $138,000 the first nine months of fiscal 1998
due primarily to losses on foreign currency exchange. Additional foreign
currency gains and losses may occur in the future due to the fluctuating yen
rate.
Income Tax Provision (Benefit). The Company had an income tax benefit of
$344,000 in the first nine months of fiscal 1999 compared to an expense of
($1,148,000) in the first nine months of 1998 due primarily to operating losses
incurred during the first nine months of fiscal 1999. The effective tax rate was
approximately 47% during the first nine months of fiscal 1999 versus 34% during
the first nine months of fiscal 1998. The increase in the effective tax benefit
rate is due primarily to the benefit of a tax refund which was received and
recognized during the first six months of fiscal 1999.
15
<PAGE>
Liquidity and Capital Resources
The Company has primarily funded its operations with cash generated from
operations, proceeds from an initial public offering of the Company's stock
during fiscal 1998 and with additional debt borrowings. Cash provided by (used
in) operating activities for the first nine months of fiscal 1999 was $1.2
million compared to ($15,000) for the corresponding period in fiscal 1998 due
primarily to changes in accounts receivable/payables, accrued expenses, and
depreciation expense offset partially by net losses incurred during the first
nine months of fiscal 1999. In February 1999, the Company received approximately
$2 million as partial payment for the sale of coating equipment to the joint
venture. As of April 3, 1999, the Company had cash and cash equivalents of
approximately $455,000 and working capital of $11.7 million. As of April 3,
1999, accounts receivable were approximately $5.9 million.
The Company has an $11.5 million credit facility with a commercial bank
which expires June 30, 2000. As of April 3, 1999, the Company had approximately
$7.4 million outstanding on its credit facility. Approximately $10 million of
this facility was available to the Company on April 3, 1999.
Cash used by investing activities for the first nine months of fiscal 1999
was $4.5 million compared to $3.7 million for the first nine months of fiscal
1998. Capital expenditures for the nine months ended April 3, 1999 were
approximately $1.2 million, compared to $4.9 for the nine month period ended
March 28, 1998. Approximately $3.2 million of the cash used by investing
activities in the first nine months of fiscal 1999 related to the funding of the
announced China joint venture with NSG. During January 1999, the Company funded,
through additional debt borrowings, approximately $2.7 million for the joint
venture. During the first nine months of 1998, capital expenditures increased
due to completion of a new thin film production coater as well as improvements
to the new Longmont, Colorado facility. Capital expenditures for the current
fiscal year are expected to be approximately $2.2 million. The Company expects
to receive additional gross cash proceeds of approximately $3.1 million over the
next two quarters from the sale of thin film coating equipment and related spare
parts to the joint venture, which is expected to reduce debt borrowings.
The Company believes that its working capital and capital resource needs
will continue to be met by operations and by additional borrowings under its
credit facility.
Year 2000 Compliance
The Year 2000 issue is the result of computer systems that use two digits
rather than four to define the applicable year, which may prevent such systems
from accurately processing dates ending in the year 2000 and after. This could
result in system failures or in miscalculations causing disruption of
operations, including, but not limited to, an inability to process transactions,
to send and receive electronic data, or to engage in routine business activities
and operations.
The Company has completed its initial assessment of all currently used
computer systems as well as production and coating equipment systems and has
developed a plan to correct those areas that will be affected by the year 2000
issue. The Company has undertaken a corrective action plan including the
replacement or upgrade of certain software and hardware. The Company will
utilize outside vendors to assist in the upgrade of certain systems. The Company
estimates that the implementation phase is approximately 85% complete with
respect to its major systems. The Company's goal is to have these systems
substantially year 2000 compliant by the end of fiscal 1999.
16
<PAGE>
The Company began in late fiscal 1998 evaluating personal computer hardware
and software outside of the Company's IT systems. With respect to personal
computers, the Company has completed the audit phase, and the assessment and
scope phases have been completed. The Company is presently in the process of
testing and implementation, and is upgrading its personal computer hardware and
software to become Year 2000 compliant. The Company's goal is to complete the
remediation of personal computer systems by the end of fiscal 1999.
In addition to reviewing its internal systems, the Company has begun formal
communications with its significant vendors concerning Year 2000 compliance.
There can be no assurance that the systems of other companies that interact with
the Company will be sufficiently Year 2000 compliant so as to avoid an adverse
impact on the Company's operations, financial condition and results of
operations. The Company does not believe that its products involve any material
Year 2000 risks, and does not believe it is subject to any express or implied
warranties related to its products.
The Company does not presently anticipate that the costs to address the
Year 2000 issue will have a material adverse effect on the Company's financial
condition, results of operations or liquidity. Present estimated costs for
remediation are $40,000.
The Company presently anticipates that it will complete its Year 2000
assessment and remediation by the end of fiscal 1999. However, there can be no
assurance that the Company will be successful in implementing its Year 2000
remediation plan according to the anticipated schedule. In addition, the Company
may be adversely affected by the inability of other companies whose systems
interact with the Company to become Year 2000 compliant and by potential
interruptions of utility, communication or transportation systems as a result of
Year 2000 issues.
Although the Company expects its internal systems to be Year 2000 compliant
as described above, the Company intends to prepare a contingency plan specifying
what it intends to do if it, or critical external companies, are not Year 2000
compliant in a timely manner. The Company expects to prepare its contingency
plan by June 30, 1999.
17
<PAGE>
Item 3: Quantitative and Qualitative Disclosures About Market Risk
Market Risk Exposure
Market risk represents the risk of loss that may impact the financial
position, results of operations, or cash flows of the Company due to adverse
changes in financial market prices. The Company is exposed to market risk
through interest rates. This exposure is directly related to its normal funding
and investing activities.
Approximately $7.4 million of the Company's borrowed debt is subject to
changes in interest rates; however, the Company does not use derivatives to
manage this risk. This exposure is linked primarily to the Eurodollar rate, and
secondarily to the prime rate. The Company believes that a moderate change in
either the Eurodollar rate or the prime rate would not materially affect
operating results or financial condition of the Company.
Foreign Exchange Exposure
The Company is exposed to foreign exchange risk associated with its
accounts receivable and payable denominated in foreign currencies, primarily in
Japanese yen. At April 3, 1999, the Company had approximately $532,000 of its
accounts receivable and $895,000 of its accounts payable denominated in yen. At
June 27, 1998, the Company had approximately $839,000 of its accounts receivable
and $2.0 million of its accounts payable denominated in yen.
Notwithstanding the above, actual changes in interest rates and foreign
exchange rates could adversely affect the Company's operating results or
financial condition. The potential impact depends upon the magnitude of the rate
change.
18
<PAGE>
PART II
OTHER INFORMATION
ITEM 6 - Exhibits and Reports on Form 8-K
a. Exhibits
Exhibit No. Description
27 Financial Data Schedule (EDGAR filing only)
19
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on behalf of the undersigned
thereunto duly authorized.
APPLIED FILMS CORPORATION
Date: May 18, 1999 /s/ Thomas T. Edman
Thomas T. Edman
President and Chief Executive Officer
Date: May 18, 1999 /s/ Thomas D. Schmidt
Thomas D. Schmidt
Chief Financial Officer
20
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<FISCAL-YEAR-END> JUL-03-1999
<PERIOD-START> JUN-28-1998
<PERIOD-END> APR-03-1999
<CASH> 455,000
<SECURITIES> 0
<RECEIVABLES> 5,877,000
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<CURRENT-ASSETS> 15,962,000
<PP&E> 18,573,000
<DEPRECIATION> (9,397,000)
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<COMMON> 9,464,000
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