<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 June 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
------------------------------------------------------------
(State or other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
60 Frontage Road, Andover, Massachusetts 01810-5498
--------------------------------------------------------------------
(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 August 7, 2000 was 7,569,999 shares.
<PAGE>
DYNAMICS RESEARCH CORPORATION
INDEX
Page
Number
------
Part I Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets -
June 30, 2000 and December 31, 1999............... 3
Consolidated Statements of Operations -
Three Months Ended June 30, 2000 and
June 30, 1999..................................... 4
Consolidated Statements of Operations -
Six Months Ended June 30, 2000 and
June 30, 1999..................................... 5
Consolidated Statements of Cash Flows -
Six Months Ended June 30, 2000 and
June 30, 1999..................................... 6
Notes to Consolidated Financial Statements.......... 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations....... 12
Part II. Other Information
Item 6. Exhibits and Reports on Form 8-K............... 15
Signature................................................ 16
2
<PAGE>
PART I. FINANCIAL INFORMATION
DYNAMICS RESEARCH CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands of dollars except share and per share data)
<TABLE>
<CAPTION>
(unaudited)
June 30, 2000 December 31, 1999
------------- -----------------
<S> <C> <C>
Assets
Current assets
Cash and cash equivalents $ 204 $ 2,267
Receivables, net of allowances of $965 in 2000 and $790 in 1999 43,811 34,917
Unbilled expenditures and fees on contracts in process 22,355 18,609
Inventories 2,798 2,735
Prepaid expenses and other current assets 1,136 1,593
-------- --------
Total current assets 70,304 60,121
Net property, plant and equipment 14,043 15,067
-------- --------
Total assets $ 84,347 $ 75,188
======== ========
Liabilities and Stockholders' Equity
Current liabilities
Notes payable $ 15,634 $ 19,700
Current portion of long term debt 500 --
Accounts payable 7,809 11,641
Accrued payroll and employee benefits 11,975 9,435
Other accrued expenses 7,957 7,840
Current deferred income taxes 3,201 1,575
Net liabilities of discontinued operations 32 273
-------- --------
Total current liabilities 47,108 50,464
-------- --------
Deferred income taxes 937 919
Long term debt 9,500 --
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 - 8,949,425 shares in 2000 and
8,742,750 in 1999 895 874
Treasury stock - 1,379,426 shares in 2000 and
1,379,426 shares in 1999, at par value (138) (138)
Capital in excess of par value 28,338 27,560
Accumulated deficit (2,293) (4,491)
-------- --------
Total stockholders' equity 26,802 23,805
-------- --------
Total liabilities and stockholders' equity $ 84,347 $ 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
June 30, 2000 June 30, 1999
------------- -------------
<S> <C> <C>
Contract revenue $ 47,430 $ 41,973
Product sales 7,010 6,837
----------- -----------
Total revenue 54,440 48,810
Costs and expenses
Cost of contract revenue 42,131 48,162
Cost of goods 5,094 6,015
Selling, engineering and administrative expenses 4,234 4,178
----------- -----------
Total operating costs and expenses 51,459 58,355
----------- -----------
Operating income (loss) 2,981 (9,545)
Interest expense, net 547 551
----------- -----------
Income (loss) from continuing operations before provision
(benefit) for income taxes 2,434 (10,096)
Provision (benefit) for income taxes 998 (4,021)
----------- -----------
Income (loss) from continuing operations 1,436 (6,075)
Gain from discontinued operations, net of tax 35 1,362
----------- -----------
Net income (loss) $ 1,471 $ (4,713)
=========== ===========
Earnings (loss) per share
-------------------------
Per common share - basic
Income (loss) from continuing operations $ 0.19 $ (0.83)
Gain from discontinued operations -- 0.19
----------- -----------
Net income (loss) $ 0.19 $ (0.64)
=========== ===========
Per common share - diluted
Income (loss) from continuing operations $ 0.19 $ (0.83)
Gain from discontinued operations -- 0.19
----------- -----------
Net income (loss) $ 0.19 $ (0.64)
=========== ===========
Weighted average shares outstanding
-----------------------------------
Weighted average shares outstanding - basic 7,554,880 7,353,590
Dilutive effect of options 268,591 --
----------- -----------
Weighted average shares outstanding - diluted 7,823,471 7,353,590
=========== ===========
</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>
Six Six
Months Ended Months Ended
June 30, 2000 June 30, 1999
------------- -------------
<S> <C> <C>
Contract revenue $ 88,602 $ 81,732
Product sales 13,628 13,627
----------- -----------
Total revenue 102,230 95,359
Costs and expenses
Cost of contract revenue 79,460 83,282
Cost of goods 9,999 10,785
Selling, engineering and administrative expenses 8,278 8,274
----------- -----------
Total operating costs and expenses 97,737 102,341
----------- -----------
Operating income (loss) 4,493 (6,982)
Interest expense, net 1,116 1,077
----------- -----------
Income (loss) from continuing operations before provision
(benefit) for income taxes 3,377 (8,059)
Provision (benefit) for income taxes 1,385 (3,166)
----------- -----------
Income (loss) from continuing operations 1,992 (4,893)
Gain from discontinued operations, net of tax 206 1,362
----------- -----------
Net income (loss) $ 2,198 $ (3,531)
=========== ===========
Earnings (loss) per share
-------------------------
Per common share - basic
Income (loss) from continuing operations $ 0.26 $ (0.66)
Gain from discontinued operations 0.03 0.18
----------- -----------
Net income (loss) $ 0.29 $ (0.48)
=========== ===========
Per common share - diluted
Income (loss) from continuing operations $ 0.26 $ (0.66)
Gain from discontinued operations 0.02 0.18
----------- -----------
Net income (loss) $ 0.28 $ (0.48)
=========== ===========
Weighted average shares outstanding
-----------------------------------
Weighted average shares outstanding - basic 7,497,842 7,360,276
Dilutive effect of options 263,565 --
----------- -----------
Weighted average shares outstanding - diluted 7,761,407 7,360,276
=========== ===========
</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>
Six Six
Months Ended Months Ended
June 30, 2000 June 30, 1999
------------- -------------
<S> <C> <C>
Cash provided by (used for) operations:
Net income (loss) $ 2,198 $ (3,531)
Adjustments to reconcile net income (loss) to cash
provided by (used for) operating activities:
(Gain) loss from discontinued operations (206) (1,362)
Non-cash stock compensation expense 114 --
Provision for impairment of investment in Empresa, Inc. -- 1,424
Depreciation and amortization 2,132 3,145
Deferred income taxes 1,644 (4,725)
Provision for receivable reserves 176 15
-------- --------
6,058 (5,034)
-------- --------
Cash provided by (used for) working capital:
Accounts receivables (9,070) (4,089)
Unbilled expenditures and fees on contracts in process (3,746) (2,135)
Inventories (63) 159
Prepaid expenses and other current assets 457 (73)
Accounts payable (3,832) 19
Accrued payroll and employee benefits 2,540 2,626
Other accrued expenses 117 10,905
-------- --------
(13,597) 7,412
-------- --------
Net cash provided by (used for) continuing operations (7,539) 2,378
Net cash provided by (used for) discontinued operations (35) 1,492
-------- --------
Cash provided by (used for) operating activities (7,574) 3,870
-------- --------
Cash used for investing activities:
Additions to property, plant and equipment related to
continuing operations (1,108) (1,307)
Additions to property, plant and equipment related to
discontinued operations -- (17)
Investment in Empresa, Inc. -- (682)
-------- --------
Net cash used for investing activities: (1,108) (2,006)
-------- --------
Cash provided by (used for) financing activities:
Net borrowings under revolving credit agreement 15,634 150
Repayment of working capital agreement (19,700) --
Proceeds from mortgage agreements 17,500 --
Repayment of interim mortgage (7,500) --
Proceeds from the exercise of stock options 685 --
Purchase of treasury shares -- (59)
-------- --------
Net cash provided by (used for) financing activities 6,619 91
-------- --------
Net increase (decrease) in cash and cash equivalents (2,063) 1,955
Cash and cash equivalents at the beginning of the year 2,267 97
-------- --------
Cash and cash equivalents at the end of the period $ 204 $ 2,052
======== ========
Supplemental information
Cash paid for interest $ 1,245 $ 1,019
Cash paid for taxes $ 94 $ 166
</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 six months ended June 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):
----------------------------------------------------------------------------
June 30 , 2000 December 31, 1999
-------------- -----------------
Work in process $ 955 $ 630
Raw materials and subassemblies 1,843 2,105
------- -------
Total inventories $ 2,798 $ 2,735
======= =======
Property, Plant and Equipment
-----------------------------
Property, plant and equipment stated at cost (in thousands of dollars):
--------------------------------------------------------------------------------
June 30, 2000 December 31, 1999
------------- -----------------
Land $ 1,126 $ 1,126
Building 7,774 7,774
Machinery and equipment 43,124 42,016
Leasehold improvements 2,548 2,548
---------- ----------
Total property, plant and equipment 54,572 53,464
Less accumulated depreciation and
amortization 40,529 38,397
---------- ----------
Net property, plant and equipment $14,043 $15,067
========== ==========
7
<PAGE>
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 currently have derivative instruments and 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 101 provides interpretative guidance on the recognition, presentation and
disclosure of revenue. SAB 101 must be applied no later than the fourth quarter
of 2000. Although the company believes that SAB 101 will not have a material
effect on the company's results of operations or financial position, the company
is continuing to evaluate the potential effects as additional guidance becomes
available.
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, 82,800 stock options were excluded in the
second quarter and first six months of 2000. During the second quarter and
first six months of 1999, 697,270 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 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.
In June 2000, the company completed systems integration testing on this project
twelve weeks later than expected. User acceptance testing began in July 2000,
and the pilot rollout is expected to begin in the third quarter of 2000. 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, including the schedule change, 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 six months of 2000, the
company expended approximately $.4 million related to severance costs and
outplacement services for 30 terminated employees. At June 30, 2000, the
remaining restructuring reserve totaled $.8 million. It is presently expected
that the restructuring plan will be completed by the end of 2000.
8
<PAGE>
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 six months of 2000, the
company received and recognized $.2 million of royalty income. The royalties are
shown as Gain from discontinued operations, net of tax, on the Consolidated
Statements of Operations.
In the second quarter of 2000, no charges were made against the reserve
established at the date the plan of disposal was adopted. During the first six
months of 2000, $.2 million was charged against the reserve. Revenues from
discontinued operations were $.3 million and $.7 million in the second quarter
and first six months of 1999, respectively. Operating losses of the business
were $1.3 million and $2.0 million in the second quarter and first six months of
1999, respectively.
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 provided by (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.
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 June 30, 2000,
$20 million was available for the company to borrow and $15.6 million was
outstanding under the Revolver. The interest rate on the Revolver was 9.5% on
June 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 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
9
<PAGE>
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 June 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 US Government temporarily deferred a portion of
its payments to the company. At the end of the second quarter of 2000,
approximately $1.6 million of accounts receivable was being deferred. In July
2000, the company was notified that the government discontinued partial deferral
of payment of new accounts receivable. The company is currently in discussion
with the government regarding the schedule for repayment of the currently
outstanding deferrals.
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 June 30,
2000 and June 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>
June 30, 2000
Net sales (1) $47,430 $4,842 $2,168 $ - $ - $ 54,440
Operating income $ 1,953 $ 526 $ 502 $ - $ - $ 2,981
Identifiable assets at
June 30, 2000 $65,768 $6,329 $2,691 $ - $ 9,559 $ 84,347
June 30, 1999
Net sales (1) $41,973 $3,102 $3,735 $ - $ - $ 48,810
Operating income (loss) $(9,169) $ (228) $1,276 $(1,424) $ - $ (9,545)
Identifiable assets at
June 30, 1999 $74,115 $5,358 $4,200 $ - $12,205 $ 95,878
</TABLE>
Financial information by business segment for the six months ended June 30, 2000
and June 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>
June 30, 2000
Net sales (1) $88,602 $9,335 $4,293 $ - $ - $102,230
Operating income $ 2,615 $ 903 $ 975 $ - $ - $ 4,493
Identifiable assets at
June 30, 2000 $65,768 $6,329 $2,691 $ - $ 9,559 $ 84,347
June 30, 1999
Net sales (1) $81,732 $6,592 $7,035 $ - $ - $ 95,359
Operating income (loss) $(7,736) $ (269) $2,447 $(1,424) $ - $ (6,982)
Identifiable assets at
June 30, 1999 $74,115 $5,358 $4,200 $ - $12,205 $ 95,878
</TABLE>
10
<PAGE>
(1) Net sales and operating profit are presented after the elimination of
intersegment transactions, which are not material.
During the second quarter of 2000 and 1999, revenue from Department of Defense
(DoD) customers represented 73.1% and 62.9% of total revenue from continuing
operations, respectively, and 72.2% and 61.7% for the first six months of 2000
and 1999, respectively. Revenue earned from one significant DoD contract
represented 12.6% and 8.9% of total revenue from continuing operations in the
second quarter of 2000 and 1999, respectively, and 14.0% and 9.5% of total
revenue from continuing operations in the first six 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(R) 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.
11
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of Operations
Total revenue increased 11.5% to $54.4 million in the second quarter of 2000
compared with $48.8 million in the second quarter of 1999. For the first six
months of 2000, total revenue was up 7.2%, or $6.9 million, to $102.2 million
compared with $95.4 million for the same period last year.
Contract revenue for the Systems and Services segment increased 13.0% to $47.4
million in the three months ended June 30, 2000 compared with $42.0 million in
the same period last year. For the first six months of 2000, contract revenue
for the Systems and Services Division increased 8.4% to $88.6 million. Revenue
growth for the second quarter and six-month period of 2000 were aided by an
unusual $4 million purchase and re-sale of equipment to a major customer. 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 increased slightly to $7.0 million in the quarter ended June 30,
2000 compared with the same period of 1999. In the first six months of 2000,
product sales remained flat compared with the same period last year, with a
decline in Metrigraphics revenue offset by an increase in Encoder Division
sales.
As expected, Metrigraphics Division sales decreased in the second quarter and
first six months of 2000 by $1.6 million and $2.7 million, respectively,
compared to the second quarter and first six months of 1999, due primarily to
lower sales of electroformed inkjet printer nozzle plates to a key customer.
Sales to this customer are expected to approximate current levels of $.8 million
to $1.0 million per quarter in the second half of 2000.
Encoder Division sales increased 56.1% to $4.8 million in the second quarter of
2000 from $3.1 million for the same period in 1999. For the first six months
of 2000, sales increased by $2.7 million, or 41.6%, compared with the same
period of 1999. Sales of automotive products increased in excess of 100% for
the second quarter and first six months of 2000 compared with the same periods
last year.
Total gross margin was $7.2 million and total gross margin loss was $5.4
million in the second quarter of 2000 and 1999, respectively, representing 13.3%
and (11.0)% of total revenue for the same periods, respectively. In the first
six months of 2000 and 1999, total gross margin was $12.8 million and $1.3
million, respectively, representing 12.5% and 1.4% of total revenue for the same
periods. The 1999 gross margin loss 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. In June
2000, the company completed systems integration testing on this project twelve
weeks later than expected. User acceptance testing began in July 2000, and the
pilot rollout is expected to begin in the third quarter of 2000. 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, including the schedule change, there can be no assurances
that actual costs on the project will not differ materially from current
estimates.
Gross margin on contract revenue was $5.3 million and gross margin loss on
contract revenue was $6.2 million for the second quarter of 2000 and 1999,
respectively, representing 11.2% and (14.7)% of contract revenue for the second
quarter of 2000 and 1999, respectively. For the first six months of 2000, gross
margin on contract revenue was $9.1 million and in 1999 gross margin loss on
contract revenue was $1.6 million, representing 10.3% and (1.9)% of contract
revenue for the first six months of 2000 and 1999, respectively. As noted
above, gross margin loss on contract revenue was affected by the loss provision
recorded in the second quarter of 1999.
In the second quarter of 2000 and 1999, gross margin on product sales was $1.9
million and $.8 million, respectively, representing 27.3% and 12.0% of product
sales for the second quarter of 2000 and 1999, respectively. For the six
months ended June 30, 2000 and 1999, gross margin on product sales was $3.6
million and $2.8 million, respectively, representing 26.6% and 20.9% of product
sales for the first six months of 2000
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and 1999, respectively. For both the second quarter and the six-month period
ended June 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 were $4.2 million and $8.3
million in the second quarter and first six months of 2000, respectively,
essentially flat compared with the same periods last year.
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 second quarter and first six months of 2000, net interest expense was
$.5 million and $1.1 million, respectively, compared with $.6 million and $1.1
million in the second quarter and first six months of 1999, respectively.
Income tax expense was $1.0 million in the second quarter of 2000 compared with
an income tax benefit of $4.0 million in the same period last year. For the
six-month period ended June 30, 2000, income tax expense was $1.4 million,
compared with an income tax benefit of $3.2 million for the same period last
year. The income tax benefit for the second quarter and first six months of 1999
primarily resulted from the $11.0 million 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 six months of 2000, the
company received and recognized $.2 million of royalty income. The royalties are
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 six months of 2000, the
company expended approximately $.4 million related to severance costs and
outplacement services for 30 terminated employees. At June 30, 2000, the
remaining restructuring reserve totaled $.8 million. It is presently expected
that the restructuring plan will be completed by the end of 2000.
The company's total employment at June 30, 2000 was 1,625, up from 1,613 at
December 31, 1999. Reductions resulting from the restructuring plan were more
than offset by increased customer services at Wright Patterson and Eglin Air
Force Bases, as well as direct labor requirements in the Encoder division.
The company's backlog of unfilled orders was $97.6 million at June 30, 2000, up
from $75.2 million at June 30, 1999.
Liquidity and Capital Resources
Cash used for continuing operations in the first six months of 2000 was $7.5
million resulting from increased accounts receivable and unbilled expenditures
and fees on contracts in process, and decreased accounts payable, partially
offset by positive cash earnings and increased accrued payroll and employee
benefits and deferred income taxes. Five million dollars of additional working
capital requirements was in support of increased quarter to quarter revenues.
As described in Note 6, at the end of the second quarter of 2000, the United
States Government was temporarily deferring payment on approximately $1.6
million of accounts receivable. Cash provided by continuing operations in the
first six months of 1999 was $2.4 million attributable to increased other
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accrued expenses including contract loss provisions, and payroll and employee
benefits, partially offset by increased accounts receivable, unbilled
expenditures and fees on contracts in process and decreased accrued deferred
income taxes.
Cash used for investing activities was $1.1 million and $2.0 million in the
first six months of 2000 and 1999, respectively, primarily related to the
purchase of property, plant and equipment for continuing operations. In
addition, in the first six months of 1999, the company invested $.7 million in
Empresa, Inc.
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 June 30, 2000,
$20 million was available for the company to borrow and $15.6 million was
outstanding under the Revolver. The interest rate on the Revolver was 9.5% on
June 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.
In the first six months of 2000, the company realized $.7 million in proceeds
from the exercise of stock options.
The company's expected cash flows for the year 2000 are subject to certain
trends, events and uncertainties. The company's requirements for additional
property, plant and equipment for the second half of the year are expected to
meet or somewhat exceed the level of expenditures in the first half 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
Item 6. (b) Reports on Form 8-K
On June 27, 2000, the Company filed a report on Form 8-K relating to the
signing of an amendment to the Loan and Security Agreement with its banks
and an amendment to the Mortgage, Security Agreement and Assignment dated
as of June 12, 2000.
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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: August 11, 2000 By: /s/ David Keleher
--------------------------
David Keleher
Vice President of Finance, Chief Financial Officer
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