<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM 10-Q
[LOGO OF LITRONIC]
(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, 2000,
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
COMMISSION FILE NO. 000-26227
----------------
LITRONIC INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 33-0757190
(STATE OR OTHER JURISDICTION (I.R.S EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
17861 CARTWRIGHT ROAD, IRVINE, CALIFORNIA 92614
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(949) 851-1085
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
----------------
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 May 10, 2000, the registrant had 9,880,802 shares of common stock
outstanding.
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LITRONIC INC.
INDEX
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements..................................................................... 3
Condensed Consolidated Balance Sheets--December 31, 1999 and March 31, 2000.............. 3
Condensed Consolidated Statements of Operations--Three months ended
March 31, 1999 and 2000................................................................ 4
Condensed Consolidated Statements of Cash Flows--Three months ended
March 31, 1999 and 2000................................................................ 5
Notes to Condensed Consolidated Financial Statements..................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations..................................................................10
Item 3. Quantitative and Qualitative Disclosures About Market Risk...............................20
PART II. OTHER INFORMATION.......................................................................21
Item 1. Legal Proceedings........................................................................21
Item 2. Changes in Securities and Use of Proceeds................................................21
Item 3. Defaults upon Senior Securities..........................................................21
Item 4. Submission of Matters to a Vote of Security Holders......................................21
Item 5. Other Information........................................................................21
Item 6. Exhibits and Reports on Form 8-K.........................................................21
</TABLE>
2
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
LITRONIC INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
ASSETS
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 2000
------------ --------
<S> <C> <C>
Current assets:
Cash and cash equivalents ................................... $ 6,441 $ 6,830
Restricted cash ............................................. 612 612
Accounts receivable (net of allowance for doubtful accounts
of $390 and $391 as of December 31, 1999 and March 31,
2000, respectively) ....................................... 7,141 3,941
Inventories ................................................. 796 1,026
Other current assets ........................................ 703 551
Note receivable - related party ............................. 70 70
-------- --------
Total current assets ...................................... 15,763 13,030
Property and equipment, net ................................... 646 656
Goodwill and other intangibles, net ........................... 34,695 33,992
-------- --------
$ 51,104 $ 47,678
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current installments of long-term debt ...................... $ 481 $ --
Accounts payable ............................................ 1,250 1,809
Accrued liabilities ......................................... 1,440 1,386
-------- --------
Total current liabilities ................................. 3,171 3,195
-------- --------
Stockholders' equity:
Preferred stock, $.01 par value; Authorized 5,000,000 shares;
no shares issued or outstanding ........................... -- --
Common stock, $.01 par value
Authorized 25,000,000 shares; issued and outstanding
9,856,944 at December 31, 1999 and 9,871,826 shares
at March 31, 2000 ....................................... 99 99
Additional paid-in capital .................................. 52,812 52,823
Accumulated deficit ......................................... (4,978) (8,439)
-------- --------
Total stockholders' equity ................................ 47,933 44,483
-------- --------
$ 51,104 $ 47,678
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
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LITRONIC INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED
------------------------
MARCH 31, MARCH 31,
1999 2000
--------- ---------
Revenues:
Product ...................................... $ 885 $ 4,351
License and service .......................... 156 371
Research and development ..................... 369 --
------- -------
Total revenues ............................. 1,410 4,722
------- -------
Costs and expenses:
Cost of sales--products ...................... 507 3,619
Cost of sales--license and service ........... 140 168
Selling, general and administrative .......... 871 2,380
Research and development ..................... 765 1,322
Amortization of goodwill and other intangibles -- 703
------- -------
Operating loss ................................. (873) (3,470)
Interest expense (income), net ................. 109 (14)
------- -------
Loss before income taxes ....................... (982) (3,456)
Provision for (benefit from) income taxes ...... (9) 5
------- -------
Net loss ....................................... $ (973) $(3,461)
======= =======
Net loss per share--basic and diluted........... $ (0.25) $ (0.35)
======= =======
Shares used in per share computations--basic
and diluted .................................. 3,871 9,872
======= =======
See accompanying notes to condensed consolidated financial statements.
4
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LITRONIC INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
------------------------
MARCH 31, MARCH 31,
1999 2000
--------- ---------
<S> <C> <C>
Cash flows from operating activities:
Net loss ..................................................... $ (973) $(3,461)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization ............................... 54 832
Changes in assets and liabilities:
Accounts receivable ......................................... 88 3,200
Inventories ................................................. 81 (230)
Other current assets ........................................ (599) 152
Accounts payable ............................................ 455 559
Accrued liabilities ......................................... 28 (54)
------- -------
Net cash provided by (used in) operating activities ....... (866) 998
------- -------
Cash flows used in investing activities:
Purchases of property and equipment .......................... (69) (139)
------- -------
Cash flows from financing activities:
Stock options exercised ...................................... -- 11
Proceeds from revolving note payable to bank ................. 1,142 --
Proceeds from long-term debt ................................. 750 --
Principal payments on revolving line of credit
and long-term notes payable to bank ........................ (1,298) --
Repayment of insurance financing ............................. -- (163)
Principal payments on revolving line of credit ............... -- (318)
------- -------
Net cash provided by (used in) financing activities ........ 594 (470)
------- -------
Net increase (decrease) in cash .............................. (341) 389
Cash and cash equivalents at beginning of period ............... 898 6,441
------- -------
Cash and cash equivalents at end of period ..................... $ 557 $ 6,830
======= =======
Supplemental disclosures of cash flow Information:
Cash paid during the period for:
Interest ................................................... $ 103 $ 64
Income taxes ............................................... 2 5
======= =======
</TABLE>
See accompanying notes to condensed consolidated financial statements.
5
<PAGE> 6
LITRONIC INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1999 AND 2000
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(1) GENERAL INFORMATION:
Condensed Consolidated Financial Statements
In the opinion of the Company, the accompanying unaudited condensed
consolidated financial statements contain all adjustments (which are normal
recurring accruals) necessary to present fairly the financial position as of
March 31, 2000; the results of operations for the three months ended March 31,
1999 and 2000; and the statements of cash flows for the three months ended March
31, 1999 and 2000. Interim results for the three months ended March 31, 2000 are
not necessarily indicative of the results that may be expected for the year
ending December 31, 2000. The interim financial statements should be read in
conjunction with the Company's consolidated financial statements for the year
ended December 31, 1999, included in the Company's Form 10-K, filed in March,
2000.
Goodwill and Other Intangibles
The Company amortizes intangible assets relating to businesses acquired and
costs in excess of the fair value of net assets of businesses acquired
("goodwill and other intangibles") using the straight-line method over the
estimated useful lives of the intangible assets and business acquired.
Amortization of goodwill and other intangibles was $703 for the three months
ended March 31, 2000.
Long-lived assets and certain identifiable intangibles are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability of assets to
be held and used is measured by comparison of the carrying amount of an asset to
future undiscounted net cash flows expected to be generated by the asset. If
such assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceed the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell.
In June 1999 we acquired Pulsar Data Systems ("Pulsar"). All of the
outstanding shares of Pulsar were exchanged for 2,169,938 shares of the
Company's common stock. The acquisition was accounted for using the purchase
method of accounting. Management is in the process of completing the integration
of Pulsar, which it expects to complete in 2000. After the integration is
completed, management plans to fully analyze the recoverability of the goodwill
and other intangibles relating to the acquisition of Pulsar, based upon the cash
flows being generated by Pulsar. Such an analysis could result in the conclusion
that the cash flows of Pulsar will not fully support the recoverability of the
goodwill and other intangibles. If such a conclusion is reached, management
would consider various options regarding the Pulsar operations, including a
restructuring or sale of some or all of Pulsar's operations. In addition, such a
conclusion could possibly result in an impairment charge relating to some or all
of the carrying value of the goodwill and other intangibles.
(2) INVENTORIES
A summary of inventories follows:
DECEMBER 31, MARCH 31,
1999 2000
------------ ---------
Raw materials............................... $190 $182
Work-in-process............................. 136 93
Finished goods.............................. 470 751
---- ------
$796 $1,026
==== ======
(3) LONG TERM DEBT
The Company's $20 million revolving credit agreement contains certain
covenants and restrictions, including maintenance of certain financial ratios
and a restriction on future borrowings. The credit agreement also prohibits the
payment of dividends. As of March 31, 2000, the Company was not in compliance
with certain covenants, and has obtained a waiver of these covenants. The
Company has no debt outstanding under this agreement as of March 31, 2000.
Although the credit facility is for borrowings up to $20.0 million, under the
terms of the agreement the amount of borrowing available to the Company is
subject to a maximum borrowing limitation based on eligible collateral. Eligible
collateral consists of 85% of eligible accounts receivable plus the lesser of
(a) 50% of the value of eligible on-hand inventory or (b) $1.0 million. As a
result, the amount actually available to the Company at any particular time
may be significantly less than the full $20.0 million credit facility due to the
maximum borrowing limitation calculation.
At March 31, 2000, the bank required the Company to maintain a $612 cash
deposit at the bank. For balance sheet presentation purposes, the funds have
been reflected as restricted cash, as the Company has no access to the funds.
6
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LITRONIC INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 1999 AND 2000
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(4) CONCENTRATION OF RISK AND SIGNIFICANT CUSTOMERS
Financial instruments that potentially subject the Company to concentration
of credit risk are trade receivables. Credit risk on trade receivables is
limited as a result of the Company's customer base and their dispersion across
different industries and geographic regions. As of December 31, 1999 and March
31, 2000, accounts receivable included $5,386 and $3,515, respectively, due from
the U.S. Government and related agencies. Sales to federal government agencies
represented 32% and 78% of the Company's revenues for the three months ended
March 31, 1999 and 2000, respectively.
The Company had sales to two customers, which were agencies of the U.S.
Government, that represented 39% and 27%, respectively, of total revenue for the
three months ended March 31, 1999. The Company had sales to three customers,
which were agencies of the U.S. Government, that represented 23%, 16% and 14%,
respectively, of total revenue for the three months ended March 31, 2000. No
other customers accounted for more than 10% of net revenues during the three
months ended March 31, 1999 and 2000. Trade accounts receivable totaled $3,378
and $2,689 from these major customers as of December 31, 1999 and March 31,
2000, respectively.
At March 31, 2000, the Company's investment portfolio consisted of $4.8
million in cash equivalents. The Company does not believe that it has a
concentration of investment risk due to the diversification of the investment
portfolio.
(5) 1999 STOCK OPTION PLAN
During the quarter ended March 31, 2000, the Company granted options to
purchase 20,000 shares at an exercise price of $8.72 per share, the then current
fair market value, under the Company's 1999 Stock Option Plan (the "1999 Plan"),
which was established in April 1999. In addition, an amendment was approved by
the board of directors increasing the number of shares of Common Stock subject
to the 1999 plan from 600,000 to 1,500,000. The amendment will be submitted to
the stockholders for their approval in June 2000.
(6) LOSS PER SHARE
In December 1997, the FASB issued Statement 128, Earnings per Share ("EPS").
Statement 128 replaced the calculation of primary and fully diluted EPS with
basic and diluted EPS. Unlike primary EPS, basic EPS excludes any dilutive
effects of common stock equivalents, such as options and warrants. Diluted EPS
is very similar to the previously reported fully diluted EPS. All EPS amounts
for all periods have been restated to conform to the Statement 128 requirements.
The computation of diluted net loss per share for the three months ended
March 31, 1999 and 2000 excluded the dilutive effect of 276,240 and 308,021,
respectively, of incremental common shares attributable to the exercise of
outstanding common stock options as a result of the antidilutive effect.
(7) CONTINGENT LIABILITIES
As the Company provides engineering and other services to various government
agencies, it is subject to retrospective audits which may result in adjustments
to amounts recognized as revenues, and the Company may be subject to
investigation by governmental entities. Failure to comply with the terms of any
governmental contracts could result in civil and criminal fines and penalties,
as well as suspension from future government contracts. The Company is not aware
of any adjustments, fines or penalties which could have a material adverse
effect on its financial position or results of operations.
The Company has cost reimbursable type contracts with the Federal
Government. Consequently, the Company is reimbursed based upon their direct
expenses attributable to the contract, plus a percentage based upon overhead,
material handling, and general and administrative expenses. The overhead,
material handling, and general and administrative rates are estimates.
Accordingly, if the actual rates as determined by the Defense Contract Audit
7
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LITRONIC INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 1999 AND 2000
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Agency are below the Company's estimates, a refund for the difference would be
due to the Federal Government. It is management's opinion that no material
liability will result from any contract audits.
On January 16, 1998, G2 Resources Inc. filed a complaint against Pulsar in
the Circuit Court, Fifteenth Judicial Circuit, Palm Beach County, Florida. G2
claims that Pulsar breached a contract under which G2 agreed to provide services
related to the monitoring of government contracts available for bid and the
preparation and submission of bids on behalf of Pulsar. The contract provides
that Pulsar pay G2 $500,000 in 30 monthly installments of $16,666 and an
additional fee of 2% of the gross dollar amount generated by awards. In its
complaint, G2 alleged that Pulsar failed to make payments under the contract and
claimed damages in excess of $525,000 plus interest, costs and attorneys fees.
In the course of discovery G2 asserted that its losses/costs arising out of its
claim amount to approximately $10.3 million. Pulsar has asserted that G2 failed
to perform the services required under the contract and Pulsar filed a
counter-claim for compensatory damages, interest and attorneys fees against G2.
Classical Financial Services, LLC intervened in the case. Classical claims that
G2 assigned its accounts receivable to Classical under a financing program and
that Pulsar breached its obligations to Classical by failing to make payments
under the contract with G2. Pulsar has asserted defenses to Classical's claim.
Pulsar believes that the claims of G2 and Classical against Pulsar are without
merit and intends to continue to vigorously defend against the claims. If G2 or
Classical were to prevail in this lawsuit, the Company's business and financial
condition could be materially adversely affected. Management does not believe
that the outcome will have a material impact on its financial statements.
On April 19, 1999, A&T Marketing Inc. filed a complaint against Pulsar in
the Circuit Court for Prince George's County, Maryland. A&T claims that Pulsar
owes A&T $262,000 plus interest and costs, for software that A&T sold to Pulsar
in 1998. Pulsar believes it has defenses to A&T's claim and that A&T's claim is
without merit. Pulsar intends to vigorously defend against the claim. Management
does not believe that the outcome will have a material impact on its financial
statements.
The Company is also involved in various routine legal actions arising in the
normal course of business. After taking into consideration legal counsel's
evaluation of such actions, management is of the opinion that any potential
liability arising from these claims against the Company would be minimal.
As of March 31, 2000, Pulsar had not yet filed the Form 5500 Annual
Return/Report for 1997 and 1998 for its Employee Retirement Plan. The Form 5500,
along with an audit report, was due October 15, 1998 and 1999, respectively. The
Company may be assessed penalties by both the Department of Labor and the
Internal Revenue Service for its late filing. The Company believes the
penalties, to be assessed, if any, will not be material to the consolidated
financial statements.
(8) BUSINESS SEGMENTS AND PRODUCT LINES
Prior to the acquisition of Pulsar in June 1999, the Company operated in
one business segment. Subsequent to the acquisition, the Company operates in two
industry segments, the information security segment and the network solutions
segment. Following are the revenues, cost of sales, and identifiable assets of
these segments for the quarter ended March 31, 2000.
DATA SECURITY NETWORK SOLUTIONS
PRODUCTS & SERVICES MARKET
------------------- -----------------
Revenue................................. $1,420 $ 3,302
Cost of sales........................... 533 3,254
Identifiable assets..................... 963 37,626
====== =======
As the Chief Operating Decision Maker does not review operating expenses by
segment beyond cost of sales or assets, except as identified, additional segment
information is not available.
8
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LITRONIC INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 1999 AND 2000
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The Company has four distinct product lines and services: network
deployment products, data security products, license and services, and electric
security systems. Following is a summary of total products by product line.
MARCH 31, MARCH 31,
1999 2000
--------- ---------
Network deployment products........................ $ -- $3,240
Data security products............................. 885 1,111
License and service................................ 156 309
Electric security systems.......................... -- 62
------ ------
Total net product, license and
service revenues............................. $1,041 $4,722
====== ======
9
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements based on our current
expectations, estimates and projections about our industry, management's beliefs
and certain assumptions we have made. Words such as "anticipates," "expects,"
"intend," "plans," "believes," "may," "will," or similar expressions are
intended to identify forward-looking statements. In addition, any statements
that refer to expectations, projections, forecasts or other predictions
regarding future events or circumstances, including any underlying assumptions,
are forward-looking statements. These statements may include, but are not
limited to, statements concerning projected revenues, expenses and income or
loss, the need for additional capital, Year 2000 compliance, acceptance of our
products, growth of the Internet, our ability to identify and consummate
acquisitions and integrate these operations successfully, our ability to
integrate previously acquired businesses successfully, the status of evolving
technologies and their growth potential, our production capacity, and the
outcome of pending and threatened litigation. These statements are not
guarantees or assurances of future performance and are subject to various risks,
uncertainties, and assumptions that are difficult to predict. Therefore, our
actual results could differ materially and adversely from those expressed in any
forward-looking statements. The section labeled "Risk Factors" set forth in this
Form 10-Q and similar sections in our other Securities and Exchange Commission
("SEC") filings, including our prospectus filed in June 1999, discuss some of
the important risk factors that may affect our business, results of operations
and financial condition. You should carefully consider those risks, in addition
to the other information in this report and in our other SEC filings, before
deciding to buy or sell our Common Stock. We undertake no obligation to revise
or update publicly any forward-looking statements for any reason.
The information contained in this report is not a complete description of
our business or the risks associated with an investment in our Common Stock. You
should carefully review and consider the various disclosures made by us in this
report and in our materials filed with the SEC, including our prospectus filed
in June 1999, that discuss our business in greater detail and that also disclose
various risks, uncertainties and other factors that may affect our business,
results of operations or financial condition.
COMPANY OVERVIEW
Litronic Inc. provides professional Internet data security services and
develops and markets software and microprocessor-based products that serve to
secure electronic commerce and communications over the Internet and other
communications networks based on Internet protocols. Our primary technology
offerings utilize a computer security technology known as public key
infrastructure, or PKI, which is the standard technology for securing
Internet-based commerce and communications. PKI helps ensure the integrity and
privacy of information being transmitted and verifies the identity, authenticity
and authority of the sender and the recipient of that information. In June 1999,
we acquired Pulsar Data Systems, Inc., or Pulsar, a network solutions company
that specializes in deploying large-scale network solutions to organizations
primarily in the government sector.
10
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RESULTS OF OPERATIONS
The following table sets forth the percentage of net revenues represented by
selected items from the unaudited Condensed Consolidated Statements of
Operations. This table should be read in conjunction with the Condensed
Consolidated Financial Statements included elsewhere herein.
PERCENTAGE OF
TOTAL REVENUES
-----------------------
THREE MONTHS ENDED
-----------------------
MARCH 31, MARCH 31,
1999 2000
-------- --------
Revenues:
Product ............................... 62.8% 92.1%
License and service ................... 11.1 7.9
Research and development .............. 26.1 --
----- -----
Total revenues ........................ 100.0 100.0
----- -----
Costs and expenses:
Cost of sales--products ............... 35.9 76.6
Cost of sales--license and service .... 9.9 3.6
Selling, general and administrative ... 61.8 50.4
Research and development .............. 54.3 28.0
Amortization of goodwill and
other intangibles .................... -- 14.9
----- -----
Operating loss .......................... (61.9) (73.5)
Interest expense (income), net .......... 7.7 (0.3)
----- -----
Loss before income taxes ................ (69.6) (73.2)
Provision for (benefit from) income taxes (0.6) 0.1
----- -----
Net loss ................................ (69.0)% (73.3)%
===== =====
RESULTS OF OPERATIONS -- COMPARISON OF THE THREE MONTHS ENDED MARCH 31, 1999
AND 2000
Our revenues and expenses for the quarter ended March 31, 2000 include the
results of Pulsar's operations as a result of our acquisition in June 1999.
Therefore, revenue and expenses are not comparable from period to period.
TOTAL REVENUE. Total revenues increased 235% from $1.4 million during the
three months ended March 31, 1999 to $4.7 million during the three months ended
March 31, 2000. The increase was primarily attributable to sales of products by
Pulsar of $3.2 million.
During the three months ended March 31, 1999, we derived 39% and 27% of our
revenue from sales to Lockheed Martin Corporation and the National Security
Agency ("NSA"), respectively. During the three months ended March 31, 2000, we
derived 23%, 16%, and 14% of our revenue from sales to the U.S. Immigration, NSA
and the National Institute of Health, respectively. Sales to Federal government
agencies accounted for approximately 32% and 78% of our sales during the three
months ended March 31, 1999 and 2000, respectively.
PRODUCT REVENUE. Product revenue increased 392% from $885,000 during the
three months ended March 31, 1999 to $4.4 million during the three months ended
March 31, 2000. The increase was primarily attributable to sales of products by
Pulsar of $3.2 million. In addition, we had previously anticipated that
shipments of our Forte smart card would begin in mid-2000, however, we now
anticipate limited shipments in late 2000 with the volume of shipments
increasing during 2001.
LICENSE AND SERVICE REVENUE. License and service revenue increased 138% from
$156,000 during the three months ended March 31, 1999 to $371,000 during the
three months ended March 31, 2000. The increase was primarily attributable to
a Fortezza service contract with NSA that generated $224,000 during the three
months ended March 31, 2000.
RESEARCH AND DEVELOPMENT REVENUE. Research and Development revenue
represents amounts earned under a contract with the NSA for the design of a
microprocessor meeting minimum specifications established by the NSA. We had
contracted with others to perform aspects of the project. All related project
costs were expensed as research and development was incurred. Regardless of the
results of the development efforts, the amounts received from the NSA are
nonrefundable. The related
11
<PAGE> 12
research and development costs were not separately identifiable. Therefore, the
corresponding costs of the entire development effort were included in research
and development expenses. Research and development revenue was $369,000 during
the three months ended March 31, 1999, whereas, no research and development
revenue was earned during the three months ended March 31, 2000. The contract
that resulted in research and development revenue was completed in 1999 and no
further research and development revenue is currently anticipated under this
contract.
PRODUCT GROSS MARGIN. Product gross margins decreased as a percentage of net
product revenue from 43% during the three months ended March 31, 1999 to 17%
during the three months ended March 31, 2000. The decrease was primarily
attributable to the mix of low-margin products versus high-margin products sold
during the three months ended March 31, 1999 as compared to the three months
ended March 31, 2000. During the three months ended March 31, 1999, data
security products represented 100% of total product revenue. During the three
months ended March 31, 2000, network deployment products, sold by Pulsar,
represented 74% of total product revenue as compared to data security products
that represented 26% of product revenue. Margins from the sale of network
deployment products are significantly lower than margins from the sale of data
security products.
LICENSE AND SERVICE GROSS MARGIN. License and service gross margin increased
as a percentage of license and service revenue from 10% during the three months
ended March 31, 1999 to 55% during the three months ended March 31, 2000. This
increase was primarily attributable to the increase in revenue that resulted in
an increase in the utilization of the fixed labor component assigned to license
and service revenue generating activities.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased 173% from $871,000 during the three months
ended March 31, 1999 to $2.4 million during the three months ended March 31,
2000. The increase was primarily attributable to the additional selling, general
and administrative expenses associated with Pulsar. As a percentage of revenue,
selling, general and administrative expenses decreased from 62% during the three
months ended March 31, 1999 to 50% during the three months ended March 31, 2000.
The percentage decrease was primarily attributable to increased revenues
generated by Pulsar.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased 73% from $765,000 during the three months ended March 31, 1999 to $1.3
million during the three months ended March 31, 2000. The increase was primarily
attributable to increased staffing related to product development, including
development efforts related to the Forte microprocessor, Maestro, ProFile
Manager, NetSign and token reader/writers. As a percentage of revenue, research
and development expenses decreased from 54% during the three months ended March
31, 1999 to 28% during the three months ended March 31, 2000. The percentage
decrease was primarily attributable to revenues generated by Pulsar.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES. The amortization of goodwill
and other intangibles recorded during the three months ended March 31, 2000
was attributable to the acquisition of Pulsar in June 1999.
We are in the process of completing the integration of Pulsar, which we
expect to complete in 2000. After the integration is completed, we plan to fully
analyze the recoverability of the goodwill and other intangibles relating to the
acquisition of Pulsar based on the cash flows being generated by Pulsar. Such an
analysis could result in the conclusion that the cash flows of Pulsar will not
fully support the recoverability of the goodwill and other intangibles. If such
a conclusion is reached, we will consider various options regarding the Pulsar
operations, including a restructuring or sale of some or all of Pulsar's
operations. In addition, such a conclusion could possibly result in an
impairment charge relating to some or all of the carrying value of the goodwill
and other intangibles related to the Pulsar acquisition.
INTEREST EXPENSE (INCOME), NET. Net interest expense changed $123,000 from
$109,000 net interest expense during the three months ended March 31, 1999 to
$14,000 net interest income during the three months ended March 31, 2000. The
change was primarily attributable to the reduction of borrowings which resulted
when proceeds from our initial public offering were used to extinguish
outstanding debt obligations.
INCOME TAXES. Before our initial public offering, Litronic Industries Inc.
had elected to be treated as an S corporation under the provisions of Section
1362 of the Internal Revenue Code of 1986. Accordingly, we did not provide for
Federal income taxes at the corporate level. We were subject to state taxes on
earnings before taxes. The benefit for state income taxes was $9,000 for the
three months ended March 31, 1999. Subsequent to the initial public offering, we
are taxed as a C corporation. Tax expense of $5,000 was recognized during the
three months ended March 31, 2000 and was related to minimum franchise tax
payments paid to the state of California. We have not recognized any tax benefit
from operating losses in the three months ended March 31, 2000.
LIQUIDITY AND CAPITAL RESOURCES
In June 1999, we completed our initial public offering of common stock. The
net proceeds of the offering were $35.3 million.
In June 1999, we also entered into a three-year agreement with Fidelity
Funding permitting borrowings under a new $20.0 million secured revolving line
of credit facility commencing on June 14, 1999. The agreement provides
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for an annual interest rate of prime plus .625%; and a pledge of substantially
all of our personal and real property as collateral. Although the credit
facility is for borrowings up to $20.0 million, under the terms of the agreement
the amount of borrowing available to the Company is subject to a maximum
borrowing limitation based on eligible collateral. Eligible collateral consists
of 85% of eligible accounts receivable plus the lesser of (a) 50% of the value
of eligible on-hand inventory or (b) $1.0 million. As a result, the amount
actually available to the Company at any particular time may be significantly
less than the full $20.0 million credit facility due to the maximum borrowing
limitation calculation.
Our debt facilities contain covenants and restrictions, including
maintenance of minimum tangible net worth and working capital, prohibition of
payment of dividends, and a requirement that net profit for each of the calendar
quarters for 1999 and 2000 shall not exceed a negative $1.5 million, and the net
profit for each calendar quarter thereafter shall equal or exceed $500,000. At
March 31, 2000 we were in compliance with or had waivers for these covenants. It
may be necessary for us to seek waivers from the lender for future covenant
violations that may occur. There is no guarantee that such waivers, if needed,
will be provided.
During the three months ended March 31, 1999 cash used in operations was
$866,000 as compared to cash provided by operations of $998,000 during the three
months ended March 31, 2000. The increase in cash provided by operations was
primarily attributable to:
o a net loss during the three months ended March 31, 1999 of $973,000 as
compared to a net loss of $3.5 million during the three months ended
March 31, 2000. The increase in the loss during the three months ended
March 31, 2000 as compared to the three months ended March 31, 1999 was
primarily attributable to: increased selling, general and administrative
expenses related to Pulsar, increased depreciation and amortization
expense related to the Pulsar acquisition, and increased research and
development expenses related to data security product development.
o a decrease in accounts receivable during the three months ended March 31,
1999 of $88,000 as compared to a decrease in accounts receivable of $3.2
million during the three months ended March 31, 2000. The increase in the
reduction of accounts receivable during the three months ended March 31,
2000 as compared to the three months ended March 31, 1999 was primarily
attributable to collections of accounts receivable related to Pulsar that
were outstanding at December 31, 1999.
o depreciation and amortization expense of $54,000 during the three months
ended March 31, 1999 as compared to depreciation and amortization expense
of $832,000 during the three months ended March 31, 2000. The increase in
depreciation and amortization expense during the three months ended March
31, 2000 as compared to the three months ended March 31, 1999 was
primarily attributable to increased amortization of goodwill and other
intangibles related to the acquisition of Pulsar.
During the three months ended March 31, 2000, cash used in investing
activities was $139,000 attributable to the purchase of equipment. During the
three months ended March 31, 2000, cash used by financing activities was
$470,000 primarily attributable to the repayment of borrowings in the amount of
$481,000.
We believe that existing cash and cash equivalents and the current
availability under our $20.0 million revolving line of credit will be sufficient
to satisfy our contemplated cash requirements for at least the next 12 months,
including planned capital expenditures of approximately $1.2 million and an
increase in rent expense of $400,000 per year for the relocation of our
California headquarters. Our $20.0 million revolving line of credit facility
contains various covenants and restrictions including those noted above. At
March 31, 2000 we were in compliance with or had waivers for these covenants. It
may be necessary for us to seek waivers from the lender for future covenant
violations that may occur. There is no guarantee that such waivers, if needed,
will be provided.
Although we believe that we have sufficient capital to fund our operations
for at least the next 12 months, our future capital requirements may vary
materially from those now planned. The amount of capital that we will need in
the future will depend on many factors including, but not limited, to:
o the market acceptance of our products and services
o the levels of promotion and advertising that will be required to launch
new products and services and attain a competitive position in the market
place
o research and development plans
o levels of inventory and accounts receivable
o technological advances
o competitors' responses to our products and services
o relationships with partners, suppliers and customers
o our projected capital expenditures
In addition, we may require additional capital to accommodate planned
growth, hiring, infrastructure and facility needs or to consummate acquisitions
of other businesses, products or technologies.
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BUSINESS ENVIRONMENT AND RISK FACTORS
FLUCTUATIONS IN QUARTERLY OPERATING RESULTS
Our quarterly operating results may fluctuate significantly as a result of a
variety of factors, many of which are outside our control. These factors
include:
o the length of our customer commitments;
o patterns of information technology spending by customers;
o the timing, size, mix and customer acceptance of our product and service
product offerings and those of our competitors;
o the timing and magnitude of required capital expenditures; and
o the need to use outside contractors to complete some assignments.
WE HAVE A HISTORY OF LOSSES AND MAY INCUR FUTURE LOSSES.
We may not become profitable or significantly increase our revenue. We
incurred net losses of $7.1 million for the year ended December 31, 1999 and
$3.5 million for the three months ended March 31, 2000.
OUR INABILITY TO INTEGRATE, OR IMPLEMENT OUR PLANS FOR, THE OPERATIONS OF PULSAR
MAY ADVERSELY AFFECT OUR BUSINESS.
Our failure to successfully integrate, or implement our plans for, the
operations of Pulsar would significantly diminish the value of the Pulsar
acquisition. Moreover, integration of the Pulsar acquisition may place strain on
our managerial and financial resources, which could, in turn, adversely affect
our business. To achieve the full benefits of the Pulsar acquisition, we will
need to:
o integrate our administrative, financial and engineering resources and
coordinate our marketing and sales efforts;
o roll out our data security products to Pulsar's existing client base;
o successfully complete the implementation of Pulsar's recent shift in
product reselling focus;
o expand Pulsar's professional service offerings; and
o increase sales of Pulsar's products and professional services.
We may not be able to successfully implement any of these plans. If we are not
able to implement these plans we will consider various options regarding the
Pulsar operations, including a restructuring or sale of some or all of Pulsar's
operations.
THE GOODWILL AND OTHER INTANGIBLES ACQUIRED IN THE PULSAR ACQUISITION MAY HAVE
AN ADVERSE IMPACT ON OUR OPERATING RESULTS AND THE MARKET PRICE OF OUR COMMON
STOCK.
Approximately $34.0 million, or 71%, of our consolidated assets as of March
31, 2000, consisted of intangible assets, including goodwill, arising from the
acquisition of Pulsar. This amount, the components of which will be amortized
over 10 to 15 years, constitutes a non-cash, non-tax deductible expense in each
amortization period that will reduce net income or increase net loss for that
period. The reduction in our net earnings or an increase in our net
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loss resulting from the amortization of goodwill and other intangibles may have
an adverse impact on our operating results and the market price of our common
stock. There is also a risk that we may never realize the value of our
intangible assets.
We plan to periodically analyze the recoverability of the goodwill and other
intangibles relating to the acquisition of Pulsar based on the cash flows being
generated by Pulsar. Such an analysis could result in the conclusion that the
cash flows of Pulsar will not fully support the recoverability of the goodwill
and other intangibles. If such a conclusion is reached, we will consider various
options regarding the Pulsar operations, including a restructuring or sale of
some or all of Pulsar's operations. In addition, such a conclusion could
possibly result in an impairment charge relating to some or all of the carrying
value of the goodwill and other intangibles related to the Pulsar acquisition.
A DEFAULT UNDER OUR SECURED CREDIT ARRANGEMENTS COULD RESULT IN A FORECLOSURE OF
OUR ASSETS BY OUR CREDITORS.
All of our assets are pledged as collateral to secure portions of our debt.
This means that if we default on our secured debt obligations our indebtedness
could become immediately due and payable and the lenders could foreclose on our
assets. From time to time we have been in violation of financial covenants under
our existing credit arrangements and have had to negotiate with our lenders for
waivers or forbearance agreements for these violations.
THE TERMS OF OUR LOAN AGREEMENTS COULD LIMIT OUR ABILITY TO IMPLEMENT OUR
BUSINESS STRATEGY.
The terms of our loan agreements with our credit providers could limit our
ability to implement our strategy. In addition to substantially prohibiting us
from incurring additional indebtedness, our loan agreements with these creditors
limit or prohibit us from:
o declaring or paying cash dividends;
o making capital distributions or other payments to stockholders;
o merging or consolidating with another corporation; or
o selling all or substantially all of our assets.
WE DERIVE A SUBSTANTIAL PORTION OF OUR REVENUE FROM A SMALL NUMBER OF CUSTOMERS
AND, THEREFORE, THE LOSS OF EVEN ONE OF THESE CUSTOMERS COULD SIGNIFICANTLY AND
NEGATIVELY IMPACT OUR OPERATING RESULTS.
We depend on a limited number of customers for a substantial portion of our
revenue and many of our contracts with our significant customers are short-term
contracts. The nonrenewal of any significant contract upon expiration, or a
substantial reduction in sales to any of our significant customers, would
adversely affect our business unless we were able to replace the revenue we
received from these customers. During the three months ended March 31, 2000, we
derived 53% of our consolidated revenue from three customers.
DOING BUSINESS WITH THE U.S. GOVERNMENT ENTAILS MANY RISKS WHICH COULD ADVERSELY
AFFECT US.
Sales to U.S. government agencies accounted for 78% of our consolidated
revenue during the three months ended March 31, 2000. Our sales to these
agencies are subject to risks, including:
o early termination of our contracts;
o disallowance of costs upon audit; and
o the necessity to participate in competitive bidding and proposal
processes, which is costly, time consuming and may result in unprofitable
contracts.
In addition, the government may be in a position to obtain greater rights
with respect to our intellectual property than we would grant to other entities.
Government agencies also have the power, based on financial difficulties or
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investigations of its contractors, to deem contractors unsuitable for new
contract awards. Because we engage in the government contracting business, we
have been and will be subject to audits and may be subject to investigation by
governmental entities. Failure to comply with the terms of any of our
governmental contracts could result in substantial civil and criminal fines and
penalties, as well as our suspension from future government contracts for a
significant period of time, any of which could adversely affect our business.
IF USE OF THE INTERNET AND OTHER COMMUNICATIONS NETWORKS BASED ON INTERNET
PROTOCOLS DOES NOT CONTINUE TO GROW, DEMAND FOR OUR PRODUCTS MAY NOT INCREASE.
Increased demand for our products depends in large part on the continued
growth of the Internet and Internet protocol-based networks and the widespread
acceptance and use of these mediums for electronic commerce and communications.
Because electronic commerce and communications over these networks are evolving,
we cannot predict the size of the market and its sustainable growth rate. A
number of factors may affect market size and growth rate, including:
o the use of electronic commerce and communications may not increase, or
may increase more slowly than we expect;
o the Internet infrastructure and communications services to support
electronic commerce may not be able to continue to support the demands
placed on it by continued growth; and
o the growth and reliability of electronic commerce and communications
could be harmed by delays in development or adoption of new standards and
protocols to handle increased levels of activity or by increased
governmental regulation.
IF PKI TECHNOLOGY IS COMPROMISED, OUR BUSINESS WOULD BE ADVERSELY AFFECTED.
Many of our products are based on PKI technology. The security afforded by
this technology depends on the integrity of a user's private key, which depends
in part on the application of algorithms, or advanced mathematical factoring
equations. The occurrence of any of the following could result in a decline in
demand for our data security products:
o any significant advance in techniques for attacking PKI systems,
including the development of an easy factoring method or faster, more
powerful computers;
o publicity of the successful decoding of cryptographic messages or the
misappropriation of private keys; and
o government regulation limiting the use, scope or strength of PKI.
IF WE DO NOT RESPOND TO RAPID TECHNOLOGICAL CHANGES, OUR PRODUCTS AND SERVICE
OFFERINGS COULD BECOME OBSOLETE.
If we are unable to modify existing products and develop new products that
are responsive to changing technology and standards and meet customer needs in a
timely and cost effective manner, our business could be adversely affected. The
markets we serve are characterized by rapidly changing technology, emerging
industry standards and frequent introduction of new products. The introduction
of products embodying new technologies and the emergence of new industry
standards may render our products obsolete or less marketable. The process of
developing our products and services is extremely complex and requires
significant continuing development efforts.
IF WE FAIL TO ESTABLISH AND MAINTAIN STRATEGIC RELATIONSHIPS, OUR ABILITY TO
DEVELOP AND MARKET OUR PRODUCTS WOULD BE ADVERSELY AFFECTED.
The loss of any of our existing strategic relationships, or the inability to
create new strategic relationships in the future, could adversely affect our
ability to develop and market our products. We depend upon our partners to
develop and market products and to fund and perform their obligations as
contemplated by our agreements with them. We do not control the time and
resources devoted by our partners to these activities. These relationships may
not continue or may require us to spend significant financial, personnel and
administrative resources from time to
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time. We may not have the resources available to satisfy our commitments, which
may adversely affect our strategic relationships. Further, our products and
services may compete with the products and services of our strategic partners.
This competition may adversely affect our relationships with our strategic
partners, which could adversely affect our business.
WE DEPEND ON KEY MANAGEMENT PERSONNEL.
Our success will depend largely on the continuing efforts of our executive
officers and senior management. Our business may be adversely affected if the
services of any of our key personnel become unavailable to us. There is a risk
that these individuals will not continue to serve for any particular period of
time. While we have obtained key person life insurance policies on the lives of
our current chief executive officer and president, each in the amount of $3.0
million, these amounts may not be sufficient to offset the loss of their
services.
THERE IS SIGNIFICANT COMPETITION IN OUR INDUSTRY FOR HIGHLY SKILLED EMPLOYEES
AND OUR FAILURE TO ATTRACT AND RETAIN TECHNICAL PERSONNEL WOULD ADVERSELY AFFECT
OUR BUSINESS.
We may not be able to successfully attract or retain highly skilled
employees. Our inability to hire or retain highly qualified individuals may
impede our ability to develop, install, implement and service our software and
hardware systems, customers and potential customers or efficiently conduct our
operations, all of which may adversely affect our business. The data security
and networking solution industries are characterized by a high level of employee
mobility, and the market for highly qualified individuals in the
computer-related fields is intense. This competition means there are fewer
highly qualified employees available to hire and the costs of hiring and
retaining these individuals are high. Even if we are able to hire these
individuals, we may be unable to retain them. Furthermore, there is increasing
pressure to provide technical employees with stock options and other equity
interests, which may dilute earnings per share.
POTENTIAL PRODUCT DEFECTS COULD SUBJECT US TO CLAIMS FROM CUSTOMERS.
Products as complex as the ones we offer may contain undetected errors or
result in failures when first introduced or when new versions are released.
Despite our product testing efforts and testing by current and potential
customers, it is possible that errors will be found in new products or
enhancements after commencement of commercial shipments. The occurrence of
product defects or errors could result in adverse publicity, delay in product
introduction, diversion of resources to remedy defects, loss of or a delay in
market acceptance or claims by customers against us, or could cause us to incur
additional costs, any of which could adversely affect our business.
WE MAY BE EXPOSED TO POTENTIAL LIABILITY FOR ACTUAL OR PERCEIVED FAILURE TO
PROVIDE REQUIRED PRODUCTS OR SERVICES.
Because our customers rely on our products for critical security
applications, we may be exposed to potential liability claims for damage caused
to an enterprise as a result of an actual or perceived failure of our products.
An actual or perceived breach of enterprise network or data security systems of
one of our customers, regardless of whether the breach is attributable to our
products or solutions, could adversely affect our business reputation.
Furthermore, our failure or inability to meet a customer's expectations in
the performance of our services, or to do so in the time frame required by the
customer, regardless of our responsibility for the failure, could:
o result in a claim for substantial damages against us by the customer;
o discourage customers from engaging us for these services; and
o damage our business reputation.
In addition, as a professional services provider, a portion of our business
involves employing people and placing them in the workplace of other businesses.
Therefore, we are also exposed to liability for actions taken by our employees
while on assignment.
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PROBLEMS RELATING TO THE YEAR 2000 ISSUE COULD ADVERSELY AFFECT OUR BUSINESS.
Many currently installed computer systems, software programs, and embedded
data chips are programmed using a 2-digit date field and are therefore unable to
distinguish dates beyond the 20th century. A failure to identify and correct any
mission-critical internal or third party year 2000 processing problem could have
a material adverse operational or financial consequence to us.
Thus far, we have had no significant problems related to year 2000 issues
associated with the computer systems, software, and other property and equipment
we use. In addition, we have not experienced significant year 2000 issues among
our suppliers that have resulted in a negative impact on our business. However,
we cannot guarantee that the year 2000 problem will not adversely affect our
business, operating results or financial condition at some point in the future.
WE FACE INTENSE COMPETITION FROM A NUMBER OF SOURCES.
The markets for our products and services are intensely competitive and, as
a result, we face significant competition from a number of different sources. We
may be unable to compete successfully as many of our competitors are more
established, benefit from greater name recognition and have substantially
greater financial, technical and marketing resources than we have. In addition,
there are several smaller and start-up companies with which we compete from time
to time. We also expect that competition will increase as a result of
consolidation in the information security technology and product reseller
industries.
THIRD PARTIES COULD OBTAIN ACCESS TO OUR PROPRIETARY INFORMATION OR
INDEPENDENTLY DEVELOP SIMILAR TECHNOLOGIES BECAUSE OF THE LIMITED PROTECTION FOR
OUR INTELLECTUAL PROPERTY.
Our business, financial condition and operating results could be adversely
affected if we are unable to protect our intellectual property rights.
Notwithstanding the precautions we take, third parties may copy or obtain and
use our proprietary technologies, ideas, know-how and other proprietary
information without authorization or independently develop technologies similar
or superior to our technologies. In addition, the confidentiality and
non-competition agreements between us and our employees, distributors, and
clients may not provide meaningful protection of our proprietary technologies or
other intellectual property in the event of unauthorized use or disclosure.
Policing unauthorized use of our technologies and other intellectual property is
difficult, particularly because the global nature of the Internet makes it
difficult to control the ultimate destination or security of software or other
data transmitted. Furthermore, the laws of other jurisdictions may afford little
or no effective protection of our intellectual property rights.
WE MAY FACE CLAIMS OF INFRINGEMENT OF PROPRIETARY RIGHTS.
There is a risk that our products infringe the proprietary rights of third
parties. In addition, whether or not our products infringe on proprietary rights
of third parties, infringement or invalidity claims may be asserted or
prosecuted against us and we could incur significant expense in defending them.
If any claims or actions are asserted against us, we may be required to modify
our products or seek licenses for these intellectual property rights. We may not
be able to modify our products or obtain licenses on commercially reasonable
terms, in a timely manner or at all. Our failure to do so could adversely affect
our business.
OUR EFFORTS TO EXPAND INTERNATIONAL OPERATIONS ARE SUBJECT TO A NUMBER OF RISKS.
We are currently seeking to increase our international sales. Our inability
to maintain or to obtain federal or foreign regulatory approvals relating to the
import or export of our products on a timely basis could adversely affect our
ability to expand our international business. Additionally, our international
operations could be subject to a number of risks, any of which could adversely
affect our future international sales, including:
o increased collection risks;
o trade restrictions;
o export duties and tariffs; and
o uncertain political, regulatory and economic developments.
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Our ability to produce the Forte PKI card on a timely and cost-effective
basis depends on the availability of a computer chip from a third-party
supplier, with whom we do not expect to maintain a supply agreement.
Any inability to receive adequate supplies of Atmel Corporation's specially
designed Forte microprocessor would adversely affect our ability to complete and
sell the Forte PKI card. We do not anticipate maintaining a supply agreement
with Atmel Corporation for the Forte microprocessor. If Atmel were unable to
deliver the Forte microprocessor for a lengthy period of time or terminated its
relationship with us, we would be unable to produce the Forte PKI card until we
could design a replacement computer chip for the Forte microprocessor. We
anticipate this would take substantial time and resources to complete.
SMALL NUMBER OF STOCKHOLDERS, INCLUDING OUR OFFICERS AND DIRECTORS, WILL HAVE
THE ABILITY TO CONTROL STOCKHOLDER VOTES.
Kris Shah and members of his family, William W. Davis, Sr. and Lillian A.
Davis presently beneficially own, in the aggregate, approximately 59.5% of our
outstanding common stock. These stockholders, if acting together, would have the
ability to elect our directors and to determine the outcome of corporate actions
requiring stockholder approval, irrespective of how other stockholders may vote.
This concentration of ownership may also have the effect of delaying or
preventing a change in control.
THERE ARE LAWSUITS PENDING AGAINST US WHICH COULD ADVERSELY AFFECT OUR BUSINESS
IF THEY ARE RESOLVED AGAINST PULSAR.
Lawsuits are pending against Pulsar which, if resolved against Pulsar, could
materially and adversely affect our business and financial condition. See "Part
II, Item 1, Legal Proceedings."
OUR STOCK PRICE IS EXTREMELY VOLATILE.
The trading price of our common stock is highly volatile as a result of
factors specific to us or applicable to our market and industry in general.
These factors, include:
o variations in our annual or quarterly financial results or those of our
competitors;
o company issued earnings announcements that vary from consensus analyst
estimates;
o changes by financial research analysts in their recommendations or
estimates of our earnings;
o conditions in the economy in general or in the information technology
service sector in particular;
o announcements of technological innovations or new products or services by
us or our competitors; and
o unfavorable publicity or changes in applicable laws and regulations, or
their judicial or administrative interpretations, affecting us or the
information technology service sectors.
In addition, the stock market has recently been subject to extreme price and
volume fluctuations. This volatility has significantly affected the market
prices of securities issued by many companies for reasons unrelated to the
operating performance of these companies. In the past, following periods of
volatility in the market price of a company's securities, some companies have
been sued by their stockholders. If we were sued, it could result in substantial
costs and a diversion of management's attention and resources, which could
adversely affect our business.
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WE HAVE ANTI-TAKEOVER DEFENSES THAT COULD DELAY OR PREVENT AN ACQUISITION AND
COULD ADVERSELY AFFECT THE PRICE OF OUR COMMON STOCK.
Our certificate of incorporation and bylaws contain provisions that may
deter a takeover or a change in control or prevent an acquisition not approved
by our board of directors, or that may adversely affect the price of our common
stock.
THE NUMBER OF SHARES ELIGIBLE FOR FUTURE SALE AND THE EXISTENCE OF REGISTRATION
RIGHTS COULD DEPRESS THE MARKET FOR OUR COMMON STOCK.
The possibility that a substantial number of additional shares of common
stock may become tradable in the public market in the future may adversely
affect prevailing market prices for our common stock and could impair our
ability to raise capital through the sale of equity securities. The shares that
are restricted from trading, pursuant to agreement with the underwriter in our
initial public offering, will become available for sale in June 2000 and over
succeeding months. We cannot predict the effect, if any, that sales of these
additional securities or the availability of these additional securities for
sale will have on the market prices prevailing from time to time. In addition,
the representatives of the underwriters in our initial public offering have also
been granted registration rights commencing in June 2000 providing for the
registration under the Securities Act of the securities issuable upon exercise
of the representatives' warrants. The exercise of these rights could result in
substantial expense to us. Furthermore, if the representatives exercise their
registration rights, they will be unable to make a market in our securities for
up to nine days before the initial sales of the warrants until the
discontinuation of sales. If the representatives cease making a market, the
market and market prices for the securities may be adversely affected and the
holders of these securities may be unable to sell them.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
INVESTMENT PORTFOLIO
We do not use derivative financial instruments in our held to maturity
investment portfolio. We place our investments in instruments that meet high
credit quality standards, as specified in our investment policy guidelines. The
policy also limits the amount of credit exposure to any one issue, issuer or
type of investment. We do not expect any material loss with respect to our
investment portfolio, and market value approximates cost at March 31, 2000.
At March 31, 2000, our investment portfolio consists of cash equivalents.
Currently the carrying value of these investments approximates market value.
However, the fair market value of these investments is subject to interest rate
risk. If market interest rates were to change 10% from levels existing at March
31, 2000, the change in the fair market value of our investment portfolio would
not be material to the Company's consolidated financial position, results of
operations or liquidity.
INTEREST RATE SENSITIVITY
The Company entered into a three-year agreement with Fidelity Funding
permitting borrowings under a $20 million secured revolving credit facility at
an annual interest rate of prime plus .625%. The Company has no outstanding
indebtedness at March 31, 2000 under the Fidelity Funding Agreement.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are involved from time to time in routine litigation that arises in the
ordinary course of business. We are not currently involved in any litigation
that we believe will have a material impact on our results of operations,
financial condition or liquidity, other than the following:
On January 16, 1998, G2 Resources Inc. filed a complaint against Pulsar in
the Circuit Court, Fifteenth Judicial Circuit, Palm Beach County, Florida. G2
claims that Pulsar breached a contract under which G2 agreed to provide services
related to the monitoring of government contracts available for bid and the
preparation and submission of bids on behalf of Pulsar. The contract provides
that Pulsar pay G2 $500,000 in 30 monthly installments of $16,666 and an
additional fee of 2% of the gross dollar amount generated by awards. In its
complaint, G2 alleged that Pulsar failed to make payments under the contract and
claimed damages in excess of $525,000 plus interest, costs and attorneys fees.
In the course of discovery G2 asserted that its losses/costs arising out of its
claim amount to approximately $10.3 million. Pulsar has asserted that G2 failed
to perform the services required under the contract and Pulsar filed a claim for
compensatory damages, interest and attorneys fees against G2. Classical
Financial Services, LLC intervened in the case. Classical claims that G2
assigned its accounts receivable to Classical under a financing program and that
Pulsar breached its obligations to Classical by failing to make payments under
the contract with G2. Pulsar has asserted defenses to Classical's claim. Pulsar
believes that the claims of G2 and Classical against Pulsar are without merit
and intends to continue to vigorously defend against the claims.
On April 19, 1999, A&T Marketing Inc. filed a complaint against Pulsar in
the Circuit Court for Prince George's County, Maryland. A&T claims that Pulsar
owes A&T $262,000 plus interest and costs, for software that A&T sold Pulsar in
1998. Pulsar believes it has defenses to A&T's claim and that A&T's claim is
without merit. Pulsar intends to vigorously defend against the claim.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
In January, 2000, we issued an option to purchase up to 20,000 shares of
common stock at an exercise price of $8.72 per share to an executive officer
pursuant to the Company's 1999 Stock Option Plan.
Exemption from the registration provisions of the Securities Act of 1933 for
the transaction described above is claimed under Section 4(2) of the Securities
Act of 1933, among others, on the basis that such transaction did not involve
any public offerings and the purchasers were sophisticated with access to the
kind of information registration would provide.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
27.1 Financial Data Schedule.
21
<PAGE> 22
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: May 15, 2000 LITRONIC INC.
By /s/ KRIS SHAH
----------------------------------
Kris Shah
Director, Chairman of the Board
and Chief Executive Officer
By /s/ ROY E. LUNA
----------------------------------
Roy E. Luna
Chief Financial Officer and
Principal Accounting Officer
22
<PAGE> 23
EXHIBIT INDEX
Exhibit
Number Description
------- -----------
27.1 Financial Data Schedule
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-2000
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 6,830
<SECURITIES> 0
<RECEIVABLES> 4,332
<ALLOWANCES> 391
<INVENTORY> 1,026
<CURRENT-ASSETS> 13,030
<PP&E> 1,549
<DEPRECIATION> 893
<TOTAL-ASSETS> 47,678
<CURRENT-LIABILITIES> 3,195
<BONDS> 0
0
0
<COMMON> 99
<OTHER-SE> 44,384
<TOTAL-LIABILITY-AND-EQUITY> 47,678
<SALES> 4,351
<TOTAL-REVENUES> 4,722
<CGS> 3,619
<TOTAL-COSTS> 3,787
<OTHER-EXPENSES> 4,388
<LOSS-PROVISION> 17
<INTEREST-EXPENSE> (14)
<INCOME-PRETAX> (3,456)
<INCOME-TAX> 5
<INCOME-CONTINUING> (3,461)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (3,461)
<EPS-BASIC> (.35)
<EPS-DILUTED> (.35)
</TABLE>
