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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended MARCH 31, 1998
------------------------------------------
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-10355
COMMUNICATIONS SYSTEMS, INC.
................................................................................
(Exact name of registrant as specified in its charter)
MINNESOTA 41-0957999
................................................................................
(State or other jurisdiction of (Federal Employer
incorporation or organization) Identification No.)
213 South Main Street, Hector, MN 55342
................................................................................
(Address of principal executive offices) (Zip Code)
(320) 848-6231
................................................................................
Registrant's telephone number, including area code
................................................................................
(Former name, address, and fiscal year, if changed since last report)
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 ___
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. YES ___ NO ___
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the latest practicable date.
CLASS Outstanding at April 30, 1998
Common Stock, par value 9,138,652
$.05 per share
Total Pages (10) Exhibit Index at (NO EXHIBITS)
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<PAGE>
COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
INDEX
Page No.
Part I. Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets 3
Consolidated Statements of Income 4
Consolidated Statements of Stockholders' Equity 5
Consolidated Statements of Cash Flows 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 8
Part II. Other Information 10
2
<PAGE>
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION
COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEETS
(unaudited)
March 31 December 31
Assets: 1998 1997
------------ ------------
Current assets:
<S> <C> <C>
Cash $ 24,237,579 $ 17,942,315
Investments in U.S. Treasury securities 5,249,314
Marketable securities 776,175 802,045
Receivables, net 10,976,891 12,571,511
Inventories - Note 3 19,748,131 18,438,531
Prepaid expenses 398,509 684,221
Deferred income taxes 1,080,000 1,080,000
------------ ------------
Total current assets 57,217,285 56,767,937
Property, plant and equipment 27,737,685 26,682,575
less accumulated depreciation (17,620,729) (17,007,714)
------------ ------------
Net property, plant and equipment 10,116,956 9,674,861
Other assets:
Excess of cost over net assets acquired 2,790,338 2,881,544
Investments in mortgage backed and other securities 2,922,694 3,356,568
Deferred income taxes 114,047 114,047
Notes receivable from sale of assets of
discontinued operations 4,557,767 4,557,767
Other assets 632,558 165,204
------------ ------------
Total other assets 11,017,404 11,075,130
------------ ------------
Total Assets $ 78,351,645 $ 77,517,928
============ ============
Liabilities and Stockholders' Equity:
Current liabilities:
Accounts payable $ 3,076,111 $ 2,770,628
Accrued expenses 3,978,719 3,030,736
Dividends payable 837,419 839,399
Income taxes payable 1,530,980 1,613,469
------------ ------------
Total current liabilities 9,423,229 8,254,232
Stockholders' Equity 68,928,416 69,263,696
------------ ------------
Total Liabilities and Stockholders' Equity $ 78,351,645 $ 77,517,928
============ ============
See notes to consolidated financial statements.
</TABLE>
3
<PAGE>
<TABLE>
<CAPTION>
COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
Three Months Ended March 31
---------------------------------
1998 1997
------------ ------------
<S> <C> <C>
Sales $ 17,486,063 $ 16,816,019
Costs and expenses:
Cost of sales 12,242,094 11,825,031
Selling, general and
administrative expenses 2,958,377 2,623,506
------------ ------------
Total costs and expenses 15,200,471 14,448,537
------------ ------------
Operating income 2,285,592 2,367,482
Other income and (expenses):
Investment income 459,892 376,992
Interest expense (1,261) (935)
------------ ------------
Other income, net 458,631 376,057
Income before income taxes 2,744,223 2,743,539
Income taxes (Note 4) 550,000 575,000
------------ ------------
Net income $ 2,194,223 $ 2,168,539
============ ============
Basic net income per share $ .24 $ .24
============ ============
Diluted net income per share $ .23 $ .24
============ ============
Average shares outstanding:
Weighted average number of common
shares outstanding 9,321,576 9,145,059
Dilutive effect of stock options outstanding after
application of treasury stock method 97,061 62,787
------------ ------------
9,418,637 9,207,846
============ ============
See notes to consolidated financial statements.
</TABLE>
4
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<TABLE>
<CAPTION>
COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(unaudited)
Common Stock Additional Cumulative Stock Option
-------------------- Paid in Retained Translation Notes
Shares Amount Capital Earnings Adjustment Receivable Total
--------- --------- ------------ ------------ ----------- ------------- --------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE at December 31, 1996 9,107,309 $ 455,365 $ 21,454,353 $ 36,856,285 $ 249,475 $ - $ 59,015,478
Net income 10,936,873 10,936,873
Shareholder dividends (3,240,303) (3,240,303)
Issuance of common stock under
Employee Stock Purchase Plan 16,622 831 182,843 183,674
Issuance of common stock to
Employee Stock Ownership Plan 20,870 1,044 298,956 300,000
Issuance of common stock under
Employee Stock Option Plan 181,851 9,093 2,045,715 2,054,808
Tax benefit from non qualified
employee stock options 150,904 150,904
Cumulative translation adjustment (137,738) (137,738)
--------- --------- ------------ ------------ ----------- ------------- --------------
BALANCE at December 31, 1997 9,326,652 466,333 24,132,771 44,552,855 111,737 - 69,263,696
Net income 2,194,223 2,194,223
Shareholder dividends (837,419) (837,419)
Issuance of common stock under
Employee Stock Option Plan 65,000 3,250 661,387 664,637
Issuance of notes receivable
for stock options (338,850) (338,850)
Purchase of Communications
Systems, Inc. common stock (123,900) (6,195) (327,098) (1,767,838) (2,101,131)
Cumulative translation adjustment 83,260 83,260
--------- --------- ------------ ------------ ----------- ------------- --------------
BALANCE at March 31, 1998 9,267,752 $ 463,388 $ 24,467,060 $ 44,141,821 $ 194,997 $ (338,850) $ 68,928,416
========= ========= ============ ============ =========== ============= ==============
See notes to consolidated financial statements.
</TABLE>
5
<PAGE>
<TABLE>
<CAPTION>
COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Three Months Ended March 31
------------------------------
1998 1997
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C>
Net income $ 2,194,223 $ 2,168,539
Adjustments to reconcile net income
to net cash provided by operating activities:
Depreciation and amortization 677,812 627,392
Adjustment to marketable securities reserve 4,554 (20,091)
Changes in assets and liabilities:
Decrease in marketable securities 21,316
Decrease (increase) in accounts receivable 1,621,219 (1,186,292)
Increase in inventory (1,285,723) (1,468,915)
Decrease (increase) in prepaid expenses 287,386 (145,650)
Increase in deferred income taxes (269,310)
Increase in accounts payable 282,969 644,700
Increase in accrued expenses 936,080 618
Increase (decrease) in income taxes payable (85,423) 173,617
------------ ------------
Net cash provided by operating activities 4,654,413 524,608
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (1,005,875) (650,202)
Decrease in mortgage backed and other investment securities 433,874 182,590
Increase in other assets (466,727) (327,166)
Changes in assets and liabilities of discontinued operations 536,679
Decrease in U.S. Treasury securities 5,249,314
Payment for purchase of Austin Taylor Communications, Ltd. (79,947)
------------ ------------
Net cash provided by (used in) investing activities 4,210,586 (338,046)
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends paid (839,399) (728,585)
Proceeds from issuance of common stock 325,787 841,309
Purchases of Communications Systems, Inc. common stock (2,101,131)
------------ ------------
Net cash provided by (used in) financing activities (2,614,743) 112,724
------------ ------------
EFFECT OF FOREIGN EXCHANGE RATE CHANGES ON CASH 45,008 (82,121)
------------ ------------
NET INCREASE IN CASH AND CASH EQUIVALENTS 6,295,264 217,165
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 17,942,315 17,799,398
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 24,237,579 $ 18,016,563
============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Income taxes paid $ 633,340 $ 391,201
Interest paid 1,261 935
See notes to consolidated financial statements.
</TABLE>
6
<PAGE>
COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - CONSOLIDATED FINANCIAL STATEMENTS
The balance sheet and statement of stockholders' equity as of March 31, 1998,
and the statements of income and statements of cash flows for the three month
periods ended March 31, 1998 and 1997, have been prepared by the Company without
audit. In the opinion of management, all adjustments (which include only normal
recurring adjustments) necessary to present fairly the financial position,
results of operations, and cash flows at March 31, 1998 and 1997 have been made.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted. It is suggested these condensed financial
statements be read in conjunction with the financial statements and notes
thereto included in the Company's December 31, 1997 Annual Report to
Shareholders. The results of operations for the periods ended March 31 are not
necessarily indicative of the operating results for the entire year.
Effective January 1, 1998, the Company has adopted the provisions of Financial
Accounting Standards Board Statement No. 130, "Reporting Comprehensive Income"
(SFAS No. 130). This statement establishes standards for reporting and
presenting comprehensive income and its components in the financial statements.
The Company's total comprehensive income for the three month periods ended March
31, 1998 and 1997 was $2,277,483 and $1,928,312, respectively.
In February, 1997 the Company issued 20,870 shares of the Company's common stock
to the Employee Stock Ownership Plan in payment of its 1996 obligation. In a
noncash transaction, the Company recorded additional stockholders' equity of
$300,000 (reflecting the market value of the stock at the time of the
contribution) and reduced accrued expenses by the same amount.
NOTE 2 - INVENTORIES
Inventories summarized below are priced at the lower of first-in, first-out cost
or market:
March 31 December 31
1998 1997
------------ ------------
Finished Goods $ 5,923,706 $ 5,237,907
Raw Materials 13,824,425 13,200,624
------------ ------------
Total $ 19,748,131 $ 18,438,531
============ ============
NOTE 3 - INCOME TAXES
Income taxes are computed based upon the estimated effective rate applicable to
operating results for the full fiscal year. For the periods ended March 31, 1998
and 1997 income taxes do not bear a normal relationship to income before income
taxes, primarily because income from Puerto Rico operations are taxed at rates
lower than the U.S. rate.
NOTE 4 - NET INCOME PER COMMON SHARE
The Financial Accounting Standards Board (FASB) has issued SFAS 128, "Earnings
per Share" which requires public companies to present basic earnings per share
and, if applicable, diluted earnings per share instead of primary and fully
7
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COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
diluted earnings per share. SFAS 128 is effective for interim and annual periods
ending after December 15, 1997. The Company has restated its net income per
share for prior periods to conform with the new standard.
Basic net income per common share is based on the weighted average number of
common shares outstanding during each year. Diluted net income per common share
takes into effect the dilutive effect of potential common shares outstanding.
The Company's only potential common shares outstanding are stock options.
Adoption of the new standard did not have a material effect on the Company's net
income per share.
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Three Months Ended March 31, 1998 Compared to
Three Months Ended March 31, 1997
Sales totaled $17,486,000, an increase of $670,000 or 4% from the 1997 period.
Operating income was $2,286,000, a decrease of $82,000 or 3% from 1997. Sales to
domestic (U.S. and Puerto Rico) customers increased $356,000 or 3%. Sales to
electrical distributors and original equipment manufacturers increased $452,000
or 15%. Sales in Puerto Rico increased $240,000 or 44%. Sales to the Big 6
telephone companies (the five Regional Bell Operating Companies and GTE)
decreased $610,000 or 7%. The decline in sales to this market was due to
purchase pattern adjustments caused by the merger of two RBOCs and inventory
overstocks at a third RBOC. Sales to retailers decreased $15,000 or 1%.
The sales increases were generated by a 28% increase in sales of the Company's
CorroShield line of corrosion resistant connectors. CorroShield product sales
totaled $5,642,000 in the 1998 period compared to $4,400,000 in 1997. Sales of
conventional voice products declined $313,000 or 5%. The Company believes the
sales decline of these products is due to customers converting to the
CorroShield product. Sales of data products decreased $269,000 or 16%. Sales of
fiber optic connector products decreased $169,000 or 17%.
Sales to international customers increased $314,000 or 9%. Sales by Austin
Taylor, the Company's United Kingdom based subsidiary, increased $1,619,000 or
20% due to increased sales of metal street cabinets and cable television
("CATV") customer premise equipment to U.K. based customers. U.S. export sales,
including sales to Canada, increased $135,000 or 26% due to sales of CorroShield
products to Caribbean customers.
Gross margin as a percentage of sales was 30%, unchanged from the 1997 period.
Margin percentages in U.S. plants were 32% in each period. Margins earned on
Austin Taylor products improved to 21% from 19% in the 1997 period.
Selling, general and administrative expenses increased $335,000 or 13% from the
1997 period. The increase was due to increased sales expenses associated with
efforts to increase sales of the Company's data products and develop export
markets for telephone station apparatus products. These increases offset selling
and administrative expense reductions at Austin Taylor.
8
<PAGE>
COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
Investment income, net of interest expense, increased $83,000 from the 1997
period due to higher interest rates earned on investments and increases in
investable cash balances. The Company's effective income tax rate was 20%
compared to 21% in the 1997 period. The Company's tax rate is lower than the
full U.S. rate due to tax exemptions and benefits received by the Company's
Puerto Rico operations. Net income increased $26,000, or 1%.
Liquidity and Capital Commitments
At March 31, 1998, the Company held approximately $24,238,000 of cash compared
to $17,942,000 at December 31, 1997. Working capital was $47,794,000 compared to
$48,514,000 at December 31, 1997. The Company's current ratio was 6.1 to 1
compared to 6.9 to 1 at December 31, 1996. In addition to its cash and working
capital balances, the Company also holds investments in long-term securities and
notes receivable totaling $7,480,000.
Net cash provided by operating activities was $4,654,000 compared to $525,000 in
the first three months of 1997. Cash was utilized during the period to finance
increased inventory levels, purchase new plant and equipment and pay dividends.
The Company's Board of Directors has authorized the purchase and retirement of
up to 500,000 shares of the Company's common stock on the open market or in
privately negotiated transactions consistent with overall market and financial
conditions. At March 31, 1998, the Company had purchased and retired 123,900
shares of stock at a cost of $2,101,000. Subsequent to the end of the quarter,
an additional 109,100 shares have been purchased and retired. The Company
received $326,000 from stock issuances in the 1998 period due to exercise of
employee stock options.
Under provisions of the Small Business Job Protection Act of 1996, the
possessions tax credit, which shelters the Company's Puerto Rico income from
U.S. income tax, was repealed for years after 1995. However, companies like CSI
which currently qualify for the credit, may continue to claim the credit until
2005, subject to certain limitations. As of July 1, 1996, the credit no longer
applied to investment income earned in Puerto Rico. The credit will continue to
apply to business income earned in Puerto Rico through 2001. For the years 2002
to 2005, the amount of Puerto Rico business income eligible for the credit will
be limited to an inflation adjusted amount based on Puerto Rico business income
earned from 1990 to 1994. The possessions tax credit has a materially favorable
effect on the Company's income tax expense. Had the Company incurred income tax
expense on Puerto Rico operations in 1998 at the full U.S. rate, income tax
expense would have increased by approximately $600,000.
The Company's balance sheet remains strong, with stockholders' equity of
$68,928,000 and no long-term debt. The Company has available a $2,000,000 bank
line of credit. Management believes, based on the Company's current financial
position and projected future expenditures, that sufficient funds are available
to meet the Company's anticipated needs.
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Statements regarding the Company's anticipated performance in future periods are
forward looking and involve risks and uncertainties, including but not limited
to: buying patterns of the Regional Bell Operating Companies and other
customers, competitive products, and other factors.
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9
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COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
PART II. OTHER INFORMATION
Items 1 - 6. Not Applicable
............................
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 thereto duly authorized.
Communications Systems, Inc.
By /s/Paul N. Hanson
-----------------------
Paul N. Hanson
Vice President and
Chief Financial Officer
Date: May 14, 1998
10
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<CIK> 0000022701
<NAME> COMMUNICATIONS SYSTEMS, INC.
<MULTIPLIER> 1
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> MAR-31-1998
<EXCHANGE-RATE> 1
<CASH> 24,237,579
<SECURITIES> 776,175
<RECEIVABLES> 11,798,891
<ALLOWANCES> 822,000
<INVENTORY> 19,748,131
<CURRENT-ASSETS> 57,217,285
<PP&E> 27,737,685
<DEPRECIATION> 17,620,729
<TOTAL-ASSETS> 78,351,645
<CURRENT-LIABILITIES> 9,423,229
<BONDS> 0
0
0
<COMMON> 463,388
<OTHER-SE> 68,465,028
<TOTAL-LIABILITY-AND-EQUITY> 78,351,645
<SALES> 17,486,063
<TOTAL-REVENUES> 17,486,063
<CGS> 12,242,094
<TOTAL-COSTS> 12,242,094
<OTHER-EXPENSES> 2,958,377
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,261
<INCOME-PRETAX> 2,744,223
<INCOME-TAX> 550,000
<INCOME-CONTINUING> 2,194,223
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,194,223
<EPS-PRIMARY> 0.24
<EPS-DILUTED> 0.23
</TABLE>
