<PAGE>
Form 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[x] Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarterly Period Ended September 30, 2000.
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 No.1-7348
DYNAMICS RESEARCH CORPORATION
-----------------------------
(Exact name of registrant as specified in its charter)
Massachusetts 04-2211809
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(State or other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
60 Frontage Road, Andover, Massachusetts 01810-5498
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code (978) 475-9090
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_____.
-------
The number of shares outstanding of the Registrant's Common stock, par value
$.10 per share, at November 7, 2000 was 7,601,019 shares.
<PAGE>
DYNAMICS RESEARCH CORPORATION
INDEX
<TABLE>
<CAPTION>
Page
Number
------
<S> <C>
Part I Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets -
September 30, 2000 and December 31, 1999............................ 3
Consolidated Statements of Operations -
Three Months Ended September 30, 2000 and
September 30, 1999.................................................. 4
Consolidated Statements of Operations -
Nine Months Ended September 30, 2000 and
September 30, 1999.................................................. 5
Consolidated Statements of Cash Flows -
Nine Months Ended September 30, 2000 and
September 30, 1999.................................................. 6
Notes to Consolidated Financial Statements............................ 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................ 13
Part II. Other Information
Item 6. Exhibits and Reports on Form 8-K................................. 17
Signature.................................................................. 18
</TABLE>
<PAGE>
PART I. FINANCIAL INFORMATION
DYNAMICS RESEARCH CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands of dollars except share and per share data)
<TABLE>
<CAPTION>
September 30, 2000 December 31, 1999
------------------ -----------------
(unaudited)
<S> <C> <C>
Assets
CURRENT ASSETS
Cash and cash equivalents $ 528 $ 2,267
Receivables, net of allowances of $1,195 in 2000 and $790 in 1999 37,843 34,917
Unbilled expenditures and fees on contracts in process 17,150 18,609
Inventories 3,046 2,735
Prepaid expenses and other current assets 1,556 1,593
-------- --------
Total current assets 60,123 60,121
Net property, plant and equipment 13,745 15,067
-------- --------
Total assets $ 73,868 $ 75,188
======== ========
Liabilities and Stockholders' Equity
CURRENT LIABILITIES
Notes payable $ 4,696 $ 19,700
Current portion of long term debt 500 -
Accounts payable 8,880 11,641
Accrued payroll and employee benefits 10,912 9,435
Other accrued expenses 6,357 7,840
Current deferred income taxes 3,970 1,575
Net liabilities of discontinued operations 32 273
-------- --------
Total current liabilities 35,347 50,464
-------- --------
Deferred income taxes 937 919
Long term debt 9,375 -
Commitments and contingencies
Stockholders' Equity
Preferred stock, par value, $.10 per share
5,000,000 shares authorized, none issued - -
Common stock, par value, $.10 per share:
Authorized - 30,000,000 shares
Issued - 8,967,145 shares in 2000 and
8,742,750 in 1999 897 874
Treasury stock - 1,379,426 shares in 2000 and 1999 (138) (138)
Capital in excess of par value 28,393 27,560
Accumulated deficit (943) (4,491)
-------- --------
Total stockholders' equity 28,209 23,805
-------- --------
Total liabilities and stockholders' equity $ 73,868 $ 75,188
======== ========
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
3
<PAGE>
DYNAMICS RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands of dollars except share data)
(unaudited)
<TABLE>
<CAPTION>
Three Three
Months Ended Months Ended
September 30, 2000 September 30, 1999
------------------ ------------------
<S> <C> <C>
Contract revenue $ 41,643 $ 41,394
Product sales 6,733 6,847
---------- ----------
Total revenue 48,376 48,241
Costs and expenses
Cost of contract revenue 37,429 38,538
Cost of goods 4,690 5,662
Selling, engineering and administrative expenses 3,556 4,241
---------- ----------
Total operating costs and expenses 45,675 48,441
---------- ----------
Operating income (loss) 2,701 (200)
Interest expense, net 417 591
---------- ----------
Income (loss) from operations before provision
(benefit) for income taxes 2,284 (791)
Provision (benefit) for income taxes 934 (189)
---------- ----------
Net income (loss) $ 1,350 $ (602)
========== ==========
Earnings (loss) per share
-------------------------
Net income (loss) per common share - basic $ 0.18 $ (0.08)
Net income (loss) per common share - diluted $ 0.17 $ (0.08)
Weighted average shares outstanding
-----------------------------------
Weighted average shares outstanding - basic 7,578,859 7,357,179
Dilutive effect of options 270,900 -
---------- ----------
Weighted average shares outstanding - diluted 7,849,759 7,357,179
========== ==========
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
4
<PAGE>
DYNAMICS RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands of dollars except share data)
(unaudited)
<TABLE>
<CAPTION>
Nine Nine
Months Ended Months Ended
September 30, 2000 September 30, 1999
------------------ ------------------
<S> <C> <C>
Contract revenue $ 130,245 $ 123,126
Product sales 20,361 20,474
---------- ----------
Total revenue 150,606 143,600
Costs and expenses
Cost of contract revenue 116,889 121,820
Cost of goods 14,689 16,447
Selling, engineering and administrative expenses 11,834 12,515
---------- ----------
Total operating costs and expenses 143,412 150,782
---------- ----------
Operating income (loss) 7,194 (7,182)
Interest expense, net 1,533 1,668
---------- ----------
Income (loss) from continuing operations
before provision (benefit) for income taxes 5,661 (8,850)
Provision (benefit) for income taxes 2,319 (3,355)
---------- ----------
Income (loss) from continuing operations 3,342 (5,495)
Gain from discontinued operations, net of tax 206 1,362
---------- ----------
Net income (loss) $ 3,548 $ (4,133)
========== ==========
Earnings (loss) per share
-------------------------
Per common share - basic
Income (loss) from continuing operations $ 0.44 $ (0.75)
Gain from discontinued operations 0.03 0.19
---------- ----------
Net income (loss) $ 0.47 $ (0.56)
========== ==========
Per common share - diluted
Income (loss) from continuing operations $ 0.43 $ (0.75)
Gain from discontinued operations 0.03 0.19
---------- ----------
Net income (loss) $ 0.46 $ (0.56)
========== ==========
Weighted average shares outstanding
-----------------------------------
Weighted average shares outstanding - basic 7,523,033 7,359,706
Dilutive effect of options 268,030 -
---------- ----------
Weighted average shares outstanding - diluted 7,791,063 7,359,706
========== ==========
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
5
<PAGE>
DYNAMICS RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands of dollars)
(unaudited)
<TABLE>
<CAPTION>
Nine Nine
Months Ended Months Ended
September 30, 2000 September 30, 1999
------------------ ------------------
<S> <C> <C>
Cash provided by (used for) operations:
Net income (loss) $ 3,548 $ (4,133)
Adjustments to reconcile net income (loss) to cash
provided by (used for) operating activities:
Gain from discontinued operations (206) (1,362)
Non-cash stock compensation expense 114 116
Provision for impairment of investment in Empresa, Inc. - 1,424
Depreciation and amortization 2,921 4,721
Deferred income taxes 2,413 (4,285)
------- --------
8,790 (3,519)
------- --------
Cash provided by (used for) working capital:
Accounts receivable, net (2,926) (5,937)
Unbilled expenditures and fees on contracts in process 1,459 6,188
Inventories (311) 228
Prepaid expenses and other current assets 37 (310)
Accounts payable (2,761) 3,895
Accrued payroll and employee benefits 1,477 1,970
Other accrued expenses (1,483) 6,413
------- --------
(4,508) 12,447
------- --------
Net cash provided by continuing operations 4,282 8,928
Net cash used for discontinued operations (35) (104)
------- --------
Cash provided by operating activities 4,247 8,824
------- --------
Cash used for investing activities:
Additions to property, plant and equipment related to
continuing operations (1,599) (2,267)
Additions to property, plant and equipment related to
discontinued operations - (17)
Investment in Empresa, Inc. - (682)
------- --------
Net cash used for investing activities: (1,599) (2,966)
------- --------
Cash provided by (used for) financing activities:
Net borrowings under revolving credit agreement 4,696 3,500
Repayment of working capital agreement (19,700) -
Proceeds from mortgage agreements 17,500 -
Repayment of interim mortgage (7,500) -
Principal payment under 10-year mortgage (125) -
Proceeds from the exercise of stock options 742 14
Purchase of treasury stock - (59)
------- --------
Net cash provided by (used for) financing activities (4,387) 3,455
------- --------
Net increase (decrease) in cash and cash equivalents (1,739) 9,313
Cash and cash equivalents at the beginning of the year 2,267 97
------- --------
Cash and cash equivalents at the end of the period $ 528 $ 9,410
======= ========
Supplemental information
Cash paid for interest $ 1,785 $ 1,838
Cash paid for taxes $ 253 $ 195
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
6
<PAGE>
DYNAMICS RESEARCH CORPORATION
Notes to Consolidated Financial Statements
Note 1. Significant Accounting Policies
----------------------------------------
Basis of Presentation
---------------------
The accompanying consolidated financial statements include the accounts of the
company and its wholly owned subsidiaries. All material intercompany
transactions and balances have been eliminated in consolidation. Certain prior
period amounts have been reclassified to conform to current period presentation.
Certain information in footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
has been condensed or omitted pursuant to the rules and regulations of the
Securities and Exchange Commission, although the registrant believes that the
disclosures are adequate to make the information presented not misleading. The
accompanying consolidated financial statements have not been audited by
independent public accountants, but in the opinion of the management, such
financial statements include all adjustments, consisting only of normal
recurring adjustments, necessary to fairly present the results of operations.
The results of the three months and nine months ended September 30, 2000 may not
be indicative of the results that may be expected for the fiscal year ended
December 31, 2000.
Risks, Uncertainties and Use of Estimates
-----------------------------------------
The company is subject to certain business risks specific to the industries in
which it operates, including estimates of costs to complete contract
obligations, changes in government policies and procedures, government
contracting issues and risks associated with technological development. The
preparation of financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenue and
expenses during the reported period. Actual results could differ from those
estimates.
Inventories
-----------
Inventories stated at the lower of cost or market (in thousands of dollars):
----------------------------------------------------------------------------
<TABLE>
<CAPTION>
September 30 , 2000 December 31, 1999
------------------- -----------------
<S> <C> <C>
Work in process $ 1,103 $ 630
Raw materials and subassemblies 1,943 2,105
------- -------
Total inventories $ 3,046 $ 2,735
======= =======
</TABLE>
7
<PAGE>
Property, Plant and Equipment
-----------------------------
Property, plant and equipment stated at cost (in thousands of dollars):
------------------------------------------------------------------------
<TABLE>
<CAPTION>
September 30 , 2000 December 31, 1999
------------------- -----------------
<S> <C> <C>
Land $ 1,126 $ 1,126
Building 7,774 7,774
Machinery and equipment 43,615 42,016
Leasehold improvements 2,548 2,548
------- -------
Total property, plant and equipment 55,063 53,464
Less accumulated depreciation and
amortization 41,318 38,397
------- -------
Net property, plant and equipment $13,745 $15,067
======= =======
</TABLE>
New Accounting Pronouncements
-----------------------------
In June 1998, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standard (SFAS) No. 133, Accounting for Derivative
Instruments and Hedging Activities. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts (collectively referred to as
derivatives), and for hedging activities. As issued, SFAS No. 133 is effective
for all fiscal quarters of all fiscal years beginning after June 15, 1999, with
earlier application encouraged. In May 1999, the FASB delayed the effective
date of SFAS No. 133 for one year to fiscal years beginning after June 15, 2000.
The company does not expect the adoption of SFAS No. 133 to have a material
impact on its financial position or results of operations.
In December 1999, the Securities and Exchange Commission released Staff
Accounting Bulletin (SAB) No. 101, Revenue Recognition in Financial Statements.
SAB No. 101 provides interpretative guidance on the recognition, presentation
and disclosure of revenue. SAB No. 101 must be applied no later than the fourth
quarter of 2000. The company is continually evaluating the impact of SAB No.
101, and currently, the implementation of SAB No. 101 does not have a material
impact on the company's results of operations or financial position.
Earnings (Loss) Per Common Share
--------------------------------
Basic earnings (loss) per share is computed by dividing net income (loss) by the
weighted average number of shares of common stock outstanding during the period.
For periods in which earnings are positive, diluted earnings per share is
determined by giving effect to the exercise of stock options using the treasury
stock method.
Due to their antidilutive effect, 62,800 and 82,800 stock options were excluded
from the calculation of earnings per share in the third quarter and first nine
months of 2000, respectively. During the third quarter and first nine months of
1999, all stock options were excluded due to their antidilutive effect.
Note 2. Contract Loss Provision
-------------------------------
In 1998, the company recorded a contract loss provision of $2.6 million on its
fixed-price software development contract with the Colorado Department of Human
Services. During the second quarter of 1999, the company recorded an additional
$11.0 million loss provision. Delays
8
<PAGE>
related to a 1999 customer stop work request, a revised development schedule
together with higher software development costs incurred and estimated costs to
complete resulted in a significantly higher estimate of total contract cost
compared to earlier periods. The losses are included in the results of
operations of the Systems and Services segment as a charge to cost of contract
revenue.
The company passed a major milestone on this project in September 2000 when it
began production pilot testing in two counties selected by the State.
Production rollout of this tested release is scheduled to begin in the fourth
quarter. It is now expected that the project will be completed in early 2001.
While the company believes it has reasonably estimated and provided for the
costs to complete the Colorado contract, there can be no assurances that actual
costs on the project will not differ materially from current estimates.
Note 3. Restructuring
---------------------
In the fourth quarter of 1999, the company adopted a restructuring plan intended
to reduce overhead costs and increase efficiencies. The company recorded a
restructuring charge of $1.2 million to provide for severance and other exit
costs for approximately 100 involuntarily terminated employees, of which $1.0
million was recorded as cost of contract revenue and the remainder as selling,
engineering and administrative expense. During the first nine months of 2000,
the company expended approximately $.7 million related to severance costs and
outplacement services for 50 terminated employees. At September 30, 2000, the
remaining restructuring reserve totaled $.5 million. It is presently expected
that the restructuring plan will be completed by the end of the first quarter of
2001.
Note 4. Discontinued Operations
-------------------------------
In June 1999, the company completed the sale of its previously discontinued
Telecommunications Fraud Control business for $1.7 million. The sale resulted in
a favorable adjustment to the estimated loss on disposal of discontinued
operations recorded in 1998. Accordingly, a pre-tax gain on disposal of
discontinued operations of $2.2 million was recorded in the second quarter of
1999. The sale agreement also provided for royalties of up to $1.8 million over
the three years following the sale. During the first nine months of 2000, the
company received royalty income, which is shown as Gain from discontinued
operations, net of tax on the Consolidated Statements of Operations.
In the third quarter of 2000, no charges were made against the reserve
established at the date the plan of disposal was adopted. During the first nine
months of 2000, $.2 million was charged against the reserve. There was no
revenue from discontinued operations or operating loss of the business in the
third quarter of 2000 or 1999. Revenue from discontinued operations and
operating losses of the business were $.7 and $2.0 million, respectively, for
the first nine months of 1999.
Revenue, costs, expenses, assets and liabilities and cash flows of the
discontinued Telecommunications Fraud Control business have been excluded from
the respective captions in the Consolidated Statements of Operations,
Consolidated Balance Sheets and Consolidated Statements of Cash Flows and have
been reported as Gain from discontinued operations, net of taxes, as Net
liabilities of discontinued operations, and as Net cash used for discontinued
operations for all periods presented. The results of discontinued operations do
not reflect any interest expense or any allocation of corporate general and
administrative expense.
9
<PAGE>
Note 5. Debt
------------
On September 30, 1999, the company entered into an amended agreement with a
syndicate of banks. The amended agreement provided a secured working capital
line of credit of up to $35 million, based on assets consisting primarily of
inventory, receivables and real estate. Interest on the outstanding balance was
at the prime rate plus 2%. The agreement included a fee of 0.375% on the unused
portion of the credit line. At December 31, 1999, the company was not in
compliance with a covenant included in the agreement regarding minimum earnings
before income taxes. The amended agreement expired January 31, 2000. At
December 31, 1999, $19.7 million was outstanding under the agreement.
On February 10, 2000, the company finalized a three year $20 million secured
revolving credit agreement (the "Revolver") and a six-month $7.5 million interim
mortgage loan (the "Interim Mortgage") on the company's real estate. Proceeds
were used to pay off existing debt. The Revolver expires on February 10, 2003.
The Revolver provides for borrowings of up to the lesser of $20 million or 80%
of eligible accounts receivable. Interest on the outstanding balance of the
Revolver and the Interim Mortgage Loan is at the prime rate and is payable
monthly. The agreement includes a fee of 0.375% on the unused portion of the
Revolver. Beginning in 2001, in the event that the company achieves certain
financial milestones, the company may elect an interest rate of LIBOR plus 2%,
and the fee on the unused Revolver will be reduced to 0.25%. At September 30,
2000, $15.3 million was available for the company to borrow and $4.7 million was
outstanding under the Revolver. The interest rate on the Revolver was 9.5% on
September 30, 2000.
On June 12, 2000, the company entered into a $10 million mortgage loan (the
"Mortgage") on the company's real estate with a 10-year term. Proceeds from the
loan were used to repay $7.5 million of interim mortgage financing that was
obtained in February 2000, with the balance used to repay outstanding debt on
the company's revolving credit agreement. Interest on the Mortgage accrues at
the rate of LIBOR plus 2.5%. The agreement requires quarterly principal payments
of $125,000 beginning on August 1, 2000, with a final payment of $5 million in
June 2010. The interest rate on the Mortgage was 9.08% on September 30, 2000.
The Revolver is secured by all assets. The Mortgage loan is secured by the
corporate office facility in Andover, Massachusetts. The company's revolver and
mortgage agreements require the company to meet certain financial covenants
including maintaining a minimum tangible net worth, cash flow and debt coverage
ratios, as well as limit the company's ability to incur additional debt, to pay
dividends, to purchase capital assets, to sell or dispose of assets, to make
additional acquisitions or investments, or to enter into new leases, among other
restrictions. The company was in compliance with all covenants on September 30,
2000.
Note 6. Commitments and Contingencies
--------------------------------------
As a defense contractor, the company is subject to many levels of audit and
review, including the Defense Contract Audit Agency (DCAA), the Inspector
General, the Defense Criminal Investigative Service, the General Accounting
Office, the Department of Justice and Congressional Committees. As a result of
certain DCAA audit findings, the United States Government temporarily deferred a
portion of its payments to the company. In July 2000, the company was notified
that the government discontinued further deferral of payments. At September 30,
2000, $1.4 million remained in deferred accounts receivable. In October 2000,
the government notified the company of a reduction of $.4 million in amounts
deferred.
10
<PAGE>
On October 26, 2000, the United States Attorney's Office announced the
indictment of two former DRC employees for conspiracy to defraud the United
States Air Force. Although the alleged events are historical, occurring between
1997 and January 2000, the government's investigation is ongoing. The United
States Attorney's announcement describes transactions which were not recorded on
DRC's books. The United States Attorney's Office has informed DRC that the
company is not a target of the investigation and has expressed gratitude for the
company's full and complete cooperation. The company does not know, at this
time, what financial effects, if any, may result to DRC from these matters.
Note 7. Segment Information
----------------------------
Identifiable assets by business segment include both assets directly identified
with those operations and an allocable share of jointly used assets.
Financial information by business segment for the three months ended
September 30, 2000 and September 30, 1999 (in thousands of dollars)
-------------------------------------------------------------------
<TABLE>
<CAPTION>
Identifiable
Systems Continuing
And Metri- Operations
Services Encoder graphics Other Corporate Total
---------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
September 30, 2000
Net sales (1) $ 41,643 $ 4,074 $ 2,659 $ - $ - $ 48,376
Operating income $ 1,515 $ 203 $ 983 $ - $ - $ 2,701
Identifiable assets at
September 30, 2000 $ 55,307 $ 5,925 $ 3,257 $ - $ 9,379 $ 73,868
September 30, 1999
Net sales (1) $ 41,394 $ 3,168 $ 3,679 $ - $ - $ 48,241
Operating income (loss) $ (842) $ (309) $ 1,128 $ - $ (177) $ (200)
Identifiable assets at
September 30, 1999 $ 66,197 $ 5,681 $ 2,914 $ - $18,936 $ 93,728
</TABLE>
Financial information by business segment for the nine months ended
September 30, 2000 and September 30, 1999 (in thousands of dollars)
-------------------------------------------------------------------
<TABLE>
<CAPTION>
Identifiable
Systems Continuing
And Metri- Operations
Services Encoder graphics Other Corporate Total
---------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
September 30, 2000
Net sales (1) $130,245 $13,409 $ 6,952 $ - $ - $150,606
Operating income $ 4,130 $ 1,106 $ 1,958 $ - $ - $ 7,194
Identifiable assets at
September 30, 2000 $ 55,307 $ 5,925 $ 3,257 $ - $ 9,379 $ 73,868
September 30, 1999
Net sales (1) $123,126 $ 9,760 $10,714 $ - $ - $143,600
Operating income (loss) $ (8,578) $ (597) $ 3,594 $(1,424) $ (177) $ (7,182)
Identifiable assets at
September 30, 1999 $ 66,197 $ 5,681 $ 2,914 $ - $18,936 $ 93,728
</TABLE>
11
<PAGE>
(1) Net sales and operating profit are presented after the elimination of
intersegment transactions, which are not material.
During the third quarter of 2000 and 1999, revenue from Department of Defense
(DoD) customers represented 74.0% and 69.7% of total revenue from continuing
operations, respectively, and 72.7% and 64.4 % for the first nine months of 2000
and 1999, respectively. Revenue earned from one significant DoD contract
represented 17.6% and 18.0% of total revenue from continuing operations in the
third quarter of 2000 and 1999, respectively, and 15.2% and 12.4% of total
revenue from continuing operations in the first nine months of 2000 and 1999,
respectively.
Note 8. Investment in Empresa, Inc.
-----------------------------------
On December 23, 1998, the company made an investment in Empresa, Inc.
("Empresa"), a privately held company based in Cambridge, Massachusetts, engaged
in electronic commerce services. The company contributed a perpetual license to
the VisualMagic(R) software development environment, the assets of the
VisualMagic segment and cash. The cash contributions were made in December 1998,
February 1999 and May 1999. In the second quarter of 1999, the company wrote off
its investment in Empresa due to uncertainties of the early stage business
resulting in an impairment charge of $1.4 million. Subsequently, Empresa ceased
operations.
12
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of Operations
---------------------
Total revenue was $48.4 million in the third quarter of 2000 up slightly from
$48.2 million in the third quarter of 1999. For the first nine months of 2000,
total revenue increased 4.9%, or $7.0 million, to $150.6 million compared with
$143.6 million for the same period last year.
Contract revenue for the Systems and Services segment was $41.6 million for the
three months ended September 30, 2000 essentially flat compared with $41.4
million in the same period last year. For the first nine months of 2000,
contract revenue for the Systems and Services Division increased 5.8% to
$130.2 million. Revenue growth for the nine-month period of 2000 was aided by an
unusual $4 million purchase and re-sale of equipment to a major customer in the
second quarter of the year. A decline in state services revenue, primarily due
to a decline in information technology contracts, was more than offset by
increases in service revenue from contracts at Wright Patterson and Hanscom Air
Force Bases.
Product sales decreased slightly to $6.7 million and $20.4 million in the third
quarter and first nine months of 2000, respectively, compared with the same
period last year. A decline in Metrigraphics revenue was offset by an increase
in Encoder Division sales.
As expected, Metrigraphics Division sales decreased in the third quarter and
first nine months of 2000 by $1.0 million and $3.8 million, respectively,
compared to the third quarter and first nine months of 1999, due primarily to
lower sales of electroformed inkjet printer nozzle plates to a key customer.
The trend of lower sales to this key customer is expected to continue in the
fourth quarter of 2000 and in the year 2001. As sales to this customer have
declined in the second and third quarters of 2000, sales to other new customers
have been increasing and have exceeded sales to this key customer.
Encoder Division sales increased 28.6% to $4.1 million in the third quarter of
2000 from $3.2 million for the same period in 1999. For the first nine months
of 2000, sales increased by $3.6 million, or 37.4%, compared with the same
period of 1999. Sales of automotive products increased in excess of 100% for
the third quarter and first nine months of 2000 compared with the same periods
last year. This trend is not expected to continue in the fourth quarter of
2000.
Total gross margin was $6.3 million and $4.0 million in the third quarter of
2000 and 1999, respectively, representing 12.9% and 8.4% of total revenue for
the same periods, respectively. In the first nine months of 2000 and 1999, total
gross margin was $19.0 million and $5.3 million, respectively, representing
12.6% and 3.7% of total revenue for the same periods. The increase in the 2000
gross margin primarily resulted from an $11.0 million loss provision recorded in
the second quarter of 1999 on a fixed-price software development contract with
the Colorado Department of Human Services. The company passed a major milestone
on this project in September 2000 when it began production pilot testing in two
counties selected by the State. Production rollout of this tested release is
scheduled to begin in the fourth quarter. It is now expected that the project
will be completed in early 2001. While the company believes it has reasonably
estimated and provided for the costs to complete the Colorado contract, there
can be no assurances that actual costs on the project will not differ materially
from current estimates.
Gross margin on contract revenue was $4.2 million and $2.9 million for the third
quarter of 2000 and 1999, respectively, representing 10.1% and 6.9% of contract
revenue for the third quarter of 2000 and 1999, respectively. For the first
nine months of 2000 and 1999, gross margin on contract revenue was $13.4 million
and $1.3 million, respectively, representing 10.3% and 1.1%
13
<PAGE>
of contract revenue for the first nine months of 2000 and 1999, respectively.
As noted above, gross margin on contract revenue was affected by the loss
provision recorded in the second quarter of 1999.
In the third quarter of 2000 and 1999, gross margin on product sales was
$2.0 million and $1.2 million, respectively, representing 30.3% and 17.3% of
product sales for the third quarter of 2000 and 1999, respectively. For the nine
months ended September 30, 2000 and 1999, gross margin on product sales was
$5.7 million and $4.0 million, respectively, representing 27.9% and 19.7% of
product sales for the first nine months of 2000 and 1999, respectively. For both
the third quarter and the nine-month period ended September 30, 2000, the margin
benefits of volume increases in the Encoder Division more than offset the
somewhat negative impacts of lower Metrigraphics revenue.
Selling, engineering and administrative expenses (S,E&A) were down 16.2% to
$3.6 million in the third quarter of 2000 compared with the same period last
year. For the first nine months of 2000, S,E&A was down 5.4% to $11.8 million.
The decrease in S,E&A expenses was due to reductions in depreciation, research
and development, and marketing expenses and other overhead costs.
In the second quarter of 1999, the company recorded an impairment charge of
$1.4 million to write-off its investment in Empresa, Inc., as discussed in
Note 8 of Notes to the Consolidated Financial Statements
In the third quarter and first nine months of 2000, net interest expense was
$.4 million and $1.5 million, respectively, compared with $.6 million and
$1.7 million in the third quarter and first nine months of 1999, respectively.
Income tax expense was $.9 million in the third quarter of 2000 compared with an
income tax benefit of $.2 million in the same period last year. For the nine-
month period ended September 30, 2000, income tax expense was $2.3 million,
compared with an income tax benefit of $3.4 million for the same period last
year. The income tax benefit for 1999 primarily resulted from the $11.0 million
contract loss provision recorded in the second quarter of 1999.
In June 1999, the company completed the sale of its previously discontinued
Telecommunications Fraud Control business for $1.7 million. The sale resulted in
a favorable adjustment to the estimated loss on disposal of discontinued
operations recorded in 1998. Accordingly, a pre-tax gain on disposal of
discontinued operations of $2.2 million was recorded in the second quarter of
1999. The sale agreement also provided for royalties of up to $1.8 million over
the three years following the sale. During the first nine months of 2000, the
company received royalty income, which is shown as Gain from discontinued
operations, net of tax on the Consolidated Statements of Operations.
In the fourth quarter of 1999, the company adopted a restructuring plan intended
to reduce overhead costs and increase efficiencies. The company recorded a
restructuring charge of $1.2 million to provide for severance and other exit
costs for approximately 100 involuntarily terminated employees, of which
$1.0 million was recorded as cost of contract revenue and the remainder as
selling, engineering and administrative expense. During the first nine months of
2000, the company expended approximately $.7 million related to severance costs
and outplacement services for 50 terminated employees. At September 30, 2000,
the remaining restructuring reserve totaled $.5 million. It is presently
expected that the restructuring plan will be completed by the end of the first
quarter of 2001.
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The company's total employment at September 30, 2000 was 1,507, down from 1,613
at December 31, 1999.
The company's backlog of unfilled orders was $97.1 million at September 30,
2000, up from $92.6 million at September 30, 1999.
Liquidity and Capital Resources
Cash generated from continuing operations in the first nine months of 2000 was
$4.3 million resulting from positive cash earnings, decreased unbilled
expenditures and fees on contracts in progress, and increased deferred income
taxes and accrued payroll and employee benefits, partially offset by decreased
accounts payable and increased accounts receivable. Cash provided by continuing
operations in the first nine months of 1999 was $8.9 million attributable to
decreased unbilled expenditures and fees on contracts in progress, increased
other accrued expenses including loss provisions, accounts payable, and accrued
payroll and employee benefits, partially offset by an operating loss and
increased accounts receivable.
Cash used for investing activities was $1.6 million and $3.0 million in the
first nine months of 2000 and 1999, respectively, primarily related to the
purchase of property, plant and equipment for continuing operations. In
addition, in the first nine months of 1999, the company invested $.7 million in
Empresa, Inc.
Cash used for financing activities in the first nine months of 2000 was
$4.4 million, primarily due the repayment of debt. For the first nine months of
1999, cash generated from financing activities was $3.5 million.
On February 10, 2000, the company finalized a three year $20 million secured
revolving credit agreement (the "Revolver") and a six-month $7.5 million interim
mortgage loan (the "Interim Mortgage") on the company's real estate. Proceeds
were used to pay off existing debt. The Revolver expires on February 10, 2003.
The Revolver provides for borrowings of up to the lesser of $20 million or 80%
of eligible accounts receivable. Interest on the outstanding balance of the
Revolver and the Interim Mortgage Loan is at the prime rate and is payable
monthly. The agreement includes a fee of 0.375% on the unused portion of the
Revolver. Beginning in 2001, in the event that the company achieves certain
financial milestones, the company may elect an interest rate of LIBOR plus 2%,
and the fee on the unused Revolver will be reduced to 0.25%. At September 30,
2000, $15.3 million was available for the company to borrow and $4.7 million was
outstanding under the Revolver. The interest rate on the Revolver was 9.5% on
September 30, 2000.
On June 12, 2000, the company entered into a $10 million mortgage loan (the
"Mortgage") on the company's real estate with a 10-year term. Proceeds from the
loan were used to repay $7.5 million of interim mortgage financing that was
obtained in February 2000, with the balance used to repay outstanding debt on
the company's revolving credit agreement. Interest on the Mortgage accrues at
the rate of LIBOR plus 2.5%. The agreement requires quarterly principal payments
of $125,000 beginning on August 1, 2000, with a final payment of $5 million in
June, 2010. The interest rate on the Mortgage was 9.08 % on September 30, 2000.
The Revolver is secured by all assets. The Mortgage loan is secured by the
corporate office facility in Andover, Massachusetts. The company's revolver and
mortgage agreements require the company to meet certain financial covenants
including maintaining a minimum tangible net
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worth, cash flow and debt coverage ratios, as well as limit the company's
ability to incur additional debt, to pay dividends, to purchase capital assets,
to sell or dispose of assets, to make additional acquisitions or investments, or
to enter into new leases, among other restrictions. The company was in
compliance with all covenants on September 30, 2000.
In the first nine months of 2000, the company realized $.7 million in proceeds
from the exercise of stock options.
On October 26, 2000, the United States Attorney's Office announced the
indictment of two former DRC employees for conspiracy to defraud the United
States Air Force. Although the alleged events are historical, occurring between
1997 and January 2000, the government's investigation is ongoing. The United
States Attorney's announcement describes transactions which were not recorded on
DRC's books. The United States Attorney's Office has informed DRC that the
company is not a target of the investigation and has expressed gratitude for the
company's full and complete cooperation. The company does not know, at this
time, what financial effects, if any, may result to DRC from these matters.
The company's expected cash flows for the year 2000 and beyond are subject to
certain trends, events and uncertainties. The company's requirements for
additional property, plant and equipment for the last quarter of the year are
expected to meet or somewhat exceed the level of expenditures in the third
quarter of the year.
The company's need for, cost of, and access to funds are dependent on future
operating results, as well as conditions external to the company. The company
believes that its current assets, cash flows from operations and available lines
of credit are sufficient to support its normal operations and capital
requirements for the foreseeable future.
Forward-Looking Information
This report includes certain forward-looking statements about the company's
business, including, but not limited to, the effect of the federal budget on the
company's sales, response to the company's product and service offerings, growth
in revenue, costs to complete fixed-price contracts, capital spending,
restructuring spending and the benefits thereof, customer mix and changes in
capital markets. Such forward-looking statements are subject to risk and
uncertainties that could cause actual results to vary materially from those
expected. These risks and uncertainties, discussed in more detail in the
company's Form 10-K for the year ended December 31, 1999, include, but are not
limited to, possible reductions in federal or state funding for the company's
customers, concentration of customers and potential customers in a particular
industry, risk of sustaining existing contracts and orders at the same or
increasing levels and obtaining new contracts, high levels of competition and
difficulties of entering into new markets, government contracting issues
including the outcomes of audits and investigations, costs of completing fixed-
priced contracts, changes in interest rates and capital markets funds
availability, supply difficulties, warranty claims, factors affecting the
business segments in which the company operates and the economy in general.
The company undertakes no obligation to publicly update or revise any forward-
looking statements.
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PART II. OTHER INFORMATION
Item 6. (a) Exhibits
(27.1) Financial Data Schedule
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SIGNATURE
---------
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.
DYNAMICS RESEARCH CORPORATION
(Registrant)
Date: November 13, 2000 By: /s/David Keleher
--------------------------
David Keleher
Vice President of Finance,
Chief Financial Officer
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