SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 27, 1997 Commission file number 1-4680
EA INDUSTRIES, INC.
-------------------
(Exact Name of Registrant as Specified in its Charter)
New Jersey 21-0606484
---------- ----------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
185 Monmouth Parkway 07764-9989
-------------------- ----------
West Long Branch, New Jersey (Zip Code)
(Address of Principal Executive Offices)
Registrant's telephone number, including area code: (732) 229-1100
Former name, former address and former fiscal year, if changed since last report
NOT APPLICABLE
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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__ N
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As of September 27, 1997, there were 9,340,360 outstanding shares of the
Registrant's Common Stock.
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
EA INDUSTRIES, INC. AND SUBSIDIARIES
Consolidated Condensed Balance Sheets
(thousands of dollars)
------------- ------------
September 27, December 31,
1997 1996
------------- ------------
(unaudited)
ASSETS
Current Assets:
Cash and cash equivalents $ 1,565 $ 461
Receivables, less allowance of $852 in 1997
and $1,100 in 1996 for doubtful accounts 12,981 11,211
Inventories 15,050 10,068
Prepaid expenses and other assets 770 579
-------- --------
TOTAL CURRENT ASSETS 30,366 22,319
-------- --------
Equipment and leasehold improvements 20,431 18,581
Less accumulated depreciation (8,963) (8,059)
-------- --------
11,468 10,522
-------- --------
Investment in Common Stock of Aydin Corp. held for sale 0 5,605
-------- --------
Other Investments held for sale 1,050 1,050
-------- --------
Intangible assets 12,331 12,331
Less accumulated amortization (2,247) (1,632)
-------- --------
10,084 10,699
-------- --------
Other assets 699 776
-------- --------
$ 53,667 $ 50,971
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Revolving Credit Facility $ 9,774 $ 8,054
Current portion of Capital Lease Obligations 1,691 1,455
Current portion of Convertible Notes and
Debentures 4,432 2,725
Accounts payable 13,947 14,702
Accrued expenses 4,971 4,549
-------- --------
TOTAL CURRENT LIABILITIES 34,815 31,485
-------- --------
Long-Term Liabilities:
Long-term portion of Capital Lease Obligations 3,442 2,937
Convertible Notes and Debentures 9,335 8,109
Other long-term liabilities 910 1,354
-------- --------
TOTAL LONG-TERM LIABILITIES 13,687 12,400
-------- --------
TOTAL LIABILITIES 48,502 43,885
-------- --------
Shareholders' Equity:
Common Stock 89,815 80,535
Accumulated deficit since January 1, 1986 (84,586) (73,245)
-------- --------
5,229 7,290
Less common stock in treasury, at cost (64) (204)
-------- --------
TOTAL SHAREHOLDERS' EQUITY 5,165 7,086
-------- --------
$ 53,667 $ 50,971
======== ========
The accompanying notes are an integral part of these consolidated condensed
financial statements.
2
<PAGE>
EA INDUSTRIES, INC. AND SUBSIDIARIES
Consolidated Condensed Statements of Operations
(UNAUDITED)
(thousands of dollars, except per share data)
<TABLE>
<CAPTION>
Quarter Ended Nine Months Ended
-------------------------- --------------------------
Sept 27, Sept 28, Sept 27, Sept 28,
1997 1996 1997 1996
----------- ----------- ----------- -----------
(Note 1) (Note 1)
<S> <C> <C> <C> <C>
Net Sales $ 21,243 $ 17,595 $ 52,545 $ 64,008
----------- ----------- ----------- -----------
Cost of Sales 20,217 17,737 51,428 61,170
Selling, general and
administrative expenses 1,929 3,783 7,255 8,348
Purchased research and
development 0 959 0 959
----------- ----------- ----------- -----------
Total 22,146 22,479 58,683 70,477
----------- ----------- ----------- -----------
Loss from operations (903) (4,884) (6,138) (6,469)
----------- ----------- ----------- -----------
Interest expense 609 667 4,937 5,860
Interest Income (29) (23) (54) (219)
Other expenses 19 737 320 1,657
----------- ----------- ----------- -----------
Net loss ($ 1,502) ($ 6,265) ($ 11,341) ($ 13,767)
=========== =========== =========== ===========
Loss per common share ($ 0.17) ($ 1.24) ($ 1.41) ($ 2.97)
=========== =========== =========== ===========
Weighted average common
shares outstanding 8,961,826 5,029,835 8,068,214 4,639,363
=========== =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated condensed
financial statements.
3
<PAGE>
EA INDUSTRIES, INC. AND SUBSIDIARIES
Consolidated Condensed Statement of Shareholders' Equity
For The Nine Months Ended September 27, 1997
(UNAUDITED)
(thousands of dollars)
<TABLE>
<CAPTION>
Common Stock Treasury Stock
------------ -------------- Accumulated
Shares Amount Shares Amount Deficit
Since
Jan. 1,
1986
----------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1996 5,624,001 $ 80,535 (23,369) ($204) ($73,245)
Net Loss (11,341)
Exercise of stock
options 33,755 121
Exercise of Warrants 32,500 195
Cash received on note
receivable from exercise of
warrant -- 700
Debt conversion 3,628,556 4,852 16,000 140
Imbedded Interest on Convertible Debentures -- 1,761
Value of Warrants Issued in
Connection with Financing -- 975
Value of Options Granted for Services -- 623
Shares Granted for Services 28,917 87
Other -- (34
----------------------------------------------------------
Balance, September 27, 1997 9,347,729 $ 89,815 (7,369) ($ 64) ($84,586)
==========================================================
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements
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<PAGE>
EA INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENT OF CASH FLOWS
(UNAUDITED)
(thousands of dollars)
<TABLE>
<CAPTION>
Nine Months Ended
--------------------
Sept 27, Sept 28,
1997 1996
-------- --------
<S> <C> <C>
Cash Flows from Operating Activities:
Net Loss ($11,341) ($13,767)
Adjustments to reconcile net loss to net
cash provided/(used) by operating activities:
Depreciation and amortization 2,352 2,357
Valuation adjustment - Note Receivable -- 432
Purchased research and development -- 959
Equity in loss of affiliate -- 812
Common shares issued in payment of interest -- 88
Discount on Convertible Subordinated Debentures 1,761 4,200
Non-cash interest charges 105 350
Value of Convertible Debentures issued for services 315 --
Value of warrants issued in connection with financing 975 --
Value of options granted for services 623 --
Value of shares issued for services 87 --
Gain on Sale of Aydin common stock (820) --
Cash provided/(used) by changes in:
Receivables (1,770) (1,189)
Inventories (4,982) 1,110
Prepaid expenses & other assets (191) 558
Accounts payable and accrued expenses (333) (76)
Accrued excess leased space costs (403) (326)
Other operating items - net (186) (973)
-------- --------
Net cash provided/(used) by operations (13,808) (5,465)
-------- --------
Cash Flows from Investing Activities:
Capital Expenditures (2,740) (5,030)
Investments, including those in affiliates -- (12,094)
Net proceeds from sale of Aydin Corp. Common Stock 6,425 --
-------- --------
Net cash provided/(used) by investing activities 3,685 (17,124)
-------- --------
Cash Flows from Financing Activities:
Net borrowings/(repayments) under credit facilities 1,720 1,073
Net proceeds/ (repayments) from capital leases 741 2,364
Net proceeds from convertible subordinated debt 7,750 8,100
Proceeds from the exercise of stock options 121 1,008
Net proceeds from exercise of warrants 895 319
-------- --------
Net cash provided/(used) by financing activities 11,227 12,864
-------- --------
Net Increase/(Decrease) in Cash and Cash Equivalents 1,104 (9,725)
Cash and Cash Equivalents at Beginning of Period 461 9,830
-------- --------
Cash and Cash Equivalents at End of Period $ 1,565 $ 105
======== ========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest $ 1,516 $ 1,561
======== ========
Noncash financing activities:
Conversion of debt to equity $ 4,852 $ 9,805
Common shares issued in payment of services 87 350
-------- --------
$ 4,939 $ 10,155
======== ========
</TABLE>
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these consolidated condensed
financial statements.
5
<PAGE>
EA INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(1) Description of Business and Basis of Presentation
EA Industries, Inc., a New Jersey corporation formerly known as "Electronic
Associates, Inc." ("EAI" or the "Company"), through its wholly-owned
subsidiary, Tanon Manufacturing, Inc. ("Tanon"), is engaged principally in
the business of providing contract electronic manufacturing services
ranging from the assembly of printed circuit boards to the complete
procurement, production, assembly, test and delivery of entire electronic
products and systems.
The condensed financial statements included herein have been prepared by
the Company, without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been
condensed or omitted pursuant to such rules and regulations, although the
Company believes that the disclosures are adequate to make the information
presented not misleading. These condensed financial statements should be
read in conjunction with the financial statements and the notes thereto
included in the Company's latest annual report on Form 10-K/A for the year
ended December 31, 1996. These condensed financial statements reflect, in
the opinion of management, all adjustments (consisting only of normal
recurring adjustments) necessary to present fairly the results for the
interim period. Results of operations for the interim period ended
September 27, 1997 are not necessarily indicative of results of operations
expected for the full year.
The consolidated financial statements include the accounts of all
majority-owned subsidiaries other than the investment in Electronic
Associates Technologies Israel, Ltd. ("EATI"), an unconsolidated subsidiary
held for sale, which is reflected in the accompanying financial statements
at $1,050,000, its estimated net realizable value. The Company has signed a
preliminary letter of intent to sell its interest in EATI and accordingly,
such interest has been classified as an unconsolidated subsidiary held for
sale. Amounts in the year 1996 have been reclassified to conform to the
1997 presentation.
Certain of the convertible notes and debentures issued in December 1995 and
1996 contained conversion features which provided for 18 - 20% discounts
from the market price of the Company's Common Stock at the conversion date.
This incremental yield embedded in the conversion terms totaled $4,200,000
in 1996 and was charged to interest expense in the fourth quarter of 1996.
The results for the nine months ended September 28, 1996 have been restated
to reflect the amortization of the incremental yield applicable for the
nine months ended September 28, 1996. As a result, interest expense and net
loss for the nine months ended September 28, 1996 increased by $4,200,000
and loss per common share increased by $.91.
All references in the consolidated financial statements referring to
shares, share prices, per share amounts and stock option plans have been
adjusted to give retroactive effect to a one-for-four reverse stock split
(the "Reverse Stock Split") as of the close of business on December 27,
1996 (the "Record Date"). Each holder
6
<PAGE>
of record on the Record Date was entitled to receive, as soon as
practicable thereafter, one (1) share of no par value Common Stock of the
Company for every four (4) shares of no par value Common Stock held by such
person on the Record Date.
The Company operates on a 52 week year, with each fiscal week and quarter
ending on Saturday, except for the fourth quarter which ends on December
31.
Loss per share amounts have been computed based on the weighted average
number of common shares outstanding. Shares issuable upon the exercise of
stock options, warrants and convertible notes and debentures have not been
included in per share computations, because their impact would have been
antidilutive in each period.
(2) Operations and Liquidity
During the fourth quarter of 1996 and the first nine months of 1997, the
Company borrowed $1,270,000 and $2,250,000, respectively, from the then
Chairman of its Board of Directors, certain trusts benefiting his
family, and an unaffiliated investor. These loans are represented by
certain 10% Series A Convertible Notes (the "Series A Notes").
The Series A Notes, in the aggregate of $3,520,000, will mature on January
22, 1999 and are convertible at the option of the holder (i) after January
1, 1998, into shares of Common Stock of the Company at a conversion price
of $3.50 per share, or (ii) into shares of Common Stock of Tanon after
completion of an initial public offering of shares of Common Stock of Tanon
at a conversion price equal to the quotient of (a) twenty five million
dollars ($25 million), divided by (b) the number of shares of Common Stock
of Tanon that were issued and outstanding at the close of business on the
day immediately prior to the effective date of the registration statement
covering the shares of Common Stock of Tanon offered in such initial public
offering, without giving effect to the number of shares of Common Stock of
Tanon being offered in such initial public offering. The holders of the
Series A Notes may require that interest be paid in Common Stock of the
Company at the conversion price described above.
The Series A Notes bear interest at the rate of 10% per annum, payable
annually in arrears on January 15, 1998 and January 22, 1999. These notes
are subordinated to amounts owed by Tanon to IBJ Schroder Bank & Trust
Company("Schroder") ("Schroder Loan Facility"), and the ability of Tanon to
distribute or loan funds to the Company to make interest payments on the
Series A Notes is restricted pursuant to the Schroder Loan Facility.
In addition, during January 1997, the Company borrowed $1,000,000 from each
of two parties, Ace Foundation, Inc. ("Ace") and Millenco, LP ("Millenco").
These loans were repaid in May 1997. In consideration for such loans, the
Company granted a warrant to purchase 50,000 shares of Common Stock of the
Company at an exercise price of $1.50 per share to each of Ace Foundation,
Inc. (the "Ace Warrant") and Millenco, LP (the "Millenco Warrant").
Management charged the estimated value of these warrants, $175,000, to
expense in the first quarter of 1997.
7
<PAGE>
The Company also sold convertible notes (the "6% Notes") in the aggregate
amount of $4,500,000 in April 1997. These notes bear interest at 6% per
annum payable quarterly and have a maturity date of April 30, 1999. The
Company has granted piggyback registration rights to the note holders. The
notes originally provided that if the shares underlying the convertible
notes are not covered by an effective registration statement and listed on
the NYSE within one hundred and twenty days, to pay a ten percent penalty,
and the holders may accelerate the entire balance of the notes. In
consideration of an extension until December 1, 1997 of that deadline the
Company has agreed to modify the conversion price to a conversion price per
share equal to the lesser of (i) three dollars and thirty nine and one half
cents ($3.395) per share or (ii) seventy six and one half percent (76.5%)
of the volume weighted average price of the Company's Common Stock as
traded on the NYSE for the five days preceding the date of notice to the
Company that the holder wishes to exercise its conversion right.
In April and July 1997, the Company borrowed a total of $1,000,000 from an
unaffiliated investor. This loan is represented by certain 10% Series B
Convertible Notes (the "Series B Notes") issued by the Company. The Series
B Notes will mature on January 22, 1999 and are convertible at the option
of the holder (i) after January 1, 1998, into shares of Common Stock of the
Company at a conversion price of $2.50 per share, or (ii) into shares of
Common Stock of Tanon after completion of an initial public offering of
shares of Common Stock of Tanon at a conversion price equal to the quotient
of (a) twenty five million dollars ($25 million), divided by (b) the number
of shares of Common Stock of Tanon that were issued and outstanding at the
close of business on the day immediately prior to the effective date of the
registration statement covering the shares of Common Stock of Tanon offered
in such initial public offering, without giving effect to the number of
shares of Common Stock of Tanon being offered in such initial public
offering. The Company has the option to make interest payments to the
holders of the Series B Notes in Common Stock of the Company at the
conversion price described above.
The Series B Notes bear interest at the rate of 10% per annum, payable
annually in arrears on January 15, 1998 and January 22, 1999. These notes
are subordinated to amounts owed by Tanon to Schroder and the ability of
Tanon to distribute or loan funds to the Company to make interest payments
on the Series B Notes is restricted pursuant to the Schroder Loan Facility.
The Company in April 1997, arranged for standby financing of up to
$4,500,000 to provide additional working capital. This commitment was
originally irrevocable until April 1, 1998 and was to be reduced based on
the proceeds the Company received from the sale of its shares of common
stock of Aydin and from any additional equity or convertible debt
financing. The Company has issued warrants exercisable at $4.125 per share
for 600,000 shares as of April 18, 1997 in consideration of this commitment
and an additional 200,000 shares as of June 10, 1997 also exercisable at
$4.125 per share. The estimated value of these warrants, $800,000, was
charged to expense in the second quarter of 1997. The Commitment was
terminated in June 1997.
The Company's projections with respect to cash needs are based on its
forecasts of the results of operations at Tanon and expenses of EAI. If the
Company's results of operations at Tanon are significantly below forecasts,
or expenses at EAI are greater than expected, this would raise doubts about
the Company's ability to
8
<PAGE>
continue its operations without raising additional capital or a significant
financial restructuring, which could include a major reduction in general
and administrative expenses and liquidation of assets involving sale of all
or part of Tanon. There can be no assurance that such restructuring would
enable the Company to continue its operations or that the Company would be
successful in raising additional capital. The financial statements do not
reflect any adjustments that might result from the restructuring and other
measures being unsuccessful. For further discussion see Item 2,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations".
The Company has incurred significant losses and had negative cash flows
from operations in each of the last six years and in the nine months ended
September 27, 1997. The Company's financial projections indicate that net
losses and negative cash flows may continue for the remainder of 1997. The
Company is, however, forecasting an increase in sales during the fourth
quarter of 1997 resulting from the Company's recent success in attracting
new customers as well as retaining existing customers. Management believes
such increase will result in an improvement in cash flows from operations,
and that such increase, along with its cash on hand and availability under
its line of credit will provide sufficient capital to meet its capital
needs through year end 1997.
Except for historical matters contained in this Report, statements made in
this Report are forward-looking and are made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995.
Investors are cautioned that these forward-looking statements reflect
numerous assumptions and involve risks and uncertainties which may affect
the Company's business and prospects and cause actual results to differ
materially from these forward-looking statements, including loss of current
customers, reductions in orders from current customers, or delays in
ordering by current customers, failure to obtain anticipated contracts or
orders from new customers, or expected order volume from such customers,
failure to obtain financing, higher material or labor costs, unfavorable
results in litigation against the Company, economic, competitive,
technological, governmental, and other factors discussed in the Company's
filings with the Securities and Exchange Commission.
(3) Investment in Aydin Corporation ("Aydin")
On May 6, 1996, the Company purchased 596,927 shares of the common stock of
Aydin (the "Aydin Shares"), a New York Stock Exchange listed company
(symbol, AYD), for $18 per share in a private purchase from the then
Chairman and Chief Executive officer of Aydin.
During May, 1997, the Company sold 500,000 of the Aydin Shares at $10.75
per share for a total of $5,375,000 to a group of investors introduced to
the Company by the Chairman of Aydin. The Company used some of the proceeds
to pay off the two promissory notes (described in Note 2,above) secured by
the Aydin Shares. In June, 1997 the remaining 96,927 Aydin Shares were
sold, also at $10.75 per share. The resulting gain of $820,000 is reflected
in Other Expenses.
The Company has also agreed to provide consulting services to Aydin for
three years in assisting Aydin in soliciting customers internationally and
exploring strategic joint ventures. In exchange for those services, the
Company has
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<PAGE>
received a warrant to purchase 200,000 shares of Aydin common stock,
one-half at an exercise price of $12.10 per share and one-half at an
exercise price of $13.20 per share. On September 26, 1997, the closing
price of the Common Stock of Aydin as reported by the New York Stock
Exchange was $11.875 per share. This warrant expires in May, 2000.
(4) Joint Venture with Israel Aircraft Industries, Ltd. ("IAI").
The Company has determined that its joint venture with IAI (the "Joint
Venture") conducted through its partially owned subsidiary EATI is not an
essential element of its core strategy and has signed a preliminary letter
of intent to sell its interest in the Joint Venture.
(5) Tri-Star Technologies Co., Inc.
On December 23, 1996, the Company signed letters of intent to acquire
Tri-Star Technologies Co., Inc. ("Tri-Star") and the approximately 120,000
square foot building and real property occupied by Tri-Star in Methuen,
Massachusetts. In May, 1997, the Company and Tri-Star jointly announced
that they had decided to terminate discussions concerning the possible
acquisition of Tri-Star by the Company. A non-refundable deposit of $1
million paid in January 1997 by the Company to Tri-Star was written off to
Other Expenses.
(6) Restructuring
During 1996, the Company decided to sell its interest in the Joint Venture
with IAI, cease making advances to BarOn Technologies, Ltd. (in which the
Company owns a one-third interest), discontinue the business combination
discussions with Aydin and decided to focus its resources on the business
of providing contract manufacturing services. As a result, the Company
determined in the second quarter of 1997 that it would be necessary to
restructure its senior management and Board of Directors ( see PART II -
OTHER INFORMATION, Item 5.). In addition, the Company has closed its
Philadelphia office and consolidated the activities previously handled at
such office, and the staff at such office, with the offices of Tanon in
West Long Branch, New Jersey.
The Company had recorded an aggregate provision of $600,000 in 1996
relating to certain of the above and has recorded an additional provision
of $1,260,000 in the second quarter of 1997 reflecting the estimated cost
of hiring a new President and Chief Executive Officer, recruiting new
members of the Company's Board of Directors, closing the Company's
Philadelphia office and the acceleration of the vesting of certain options
for former key executives and former members of the Board of Directors.
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<PAGE>
(7) Contingencies
There is a lawsuit presently pending which involves environmental claims
against EAI, namely, the Lemco Associates lawsuit. The Company on a regular
basis reviews and updates its public disclosure with respect to this
litigation. As previously reported, in October, 1992, Lemco Associates
L.P., a limited partnership ("Lemco"), the owner of property previously
owned by EAI, initiated an action (the "Lemco Suit") against EAI and others
alleging, among other things, that the defendants created environmental
contamination at the property and seeking damages in unspecified amounts.
EAI filed a response to the complaint in which it denied Lemco's
allegations, asserted numerous defenses to the claims asserted and asserted
a counterclaim against Lemco and crossclaims against co-defendants and
others for indemnification and contribution.
In 1947, the Company purchased land in North Long Branch, New Jersey on
which it subsequently built a number of buildings and conducted a number of
industrial operations. In 1954 it built a building known as Building 11 on
that land. From the mid-1950's through 1977, the Company conducted
finishing operations such as metal plating and painting on that site using,
among other machinery, a degreaser to clean metal components using a
variety of solvents. In 1977, EAI leased Building 11 to a company called
Comax, Inc. ("Comax") which then began operations in the building. In 1977,
Comax, with technical advice from EAI filled the degreaser with solvents
and used it at least once. Comax then capped the degreaser without removing
the solvents and did not use it again. In 1979, EAI sold the property and
all the buildings on the site to Lemco for approximately $400,000. Comax
continued to operate on the site until 1984 under a lease from Lemco.
Between 1977 and the time it ceased operations on the site, Comax was cited
by local authorities for a range of environmental violations. Building 11
was demolished in or about 1991. Evidence indicates that at the time of the
removal the degreaser was empty. EAI believes that, between the time it was
capped in 1977 and the time of its removal the chemicals leached out
gradually over time or the chemicals were spilled at the site before or
after the removal of the degreaser.
The Company believes that Lemco was aware at the time of its purchase of
the site from EAI that some of the underground gasoline storage tanks on
the site had leaked and that there had been previous spills of hazardous
materials on the site.
Lemco's environmental consultants have analyzed the data from test wells on
the site and have concluded using a mathematical analysis and a modeling
analysis that TCE contamination occurred between 1959 and 1974 and that PCE
contamination occurred no later than 1968. The Company's environmental
consultants have analyzed the data from the same test wells on the site and
have concluded that based on a similar modeling analysis an initial TCE
release to the aquifer occurred in the mid 1970's to the late 1980's and a
release of PCE occurred from the mid 70's to the mid 80's. Their
mathematical analysis also indicates that TCE was most likely released to
the aquifer in the mid 1980's and unlikely to have been released before
1977. In addition, the evidence that would be presented at trial by EAI is
consistent with that conclusion.
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<PAGE>
The damages sought in the Lemco Suit are (I) recovery for the decreased
value of the property, (ii) recovery for the cost to remediate the
contamination on the property, and (iii) prejudgement interest and expert
fees.
In 1988, Lemco signed an agreement of sale for the property subject to
various contingencies for a price of approximately $4 million. Further,
Lemco has provided the Company with appraisal reports made by a real estate
appraisal company engaged by Lemco in connection with the Lemco Suit. The
reports state that it is the appraisal company's opinion that the market
value of the property as of May 23, 1988 was $3.6 million and that the
value of the property as of April 14, 1995 was $960,000. Lemco purchased
the property in question in 1979 for approximately $400,000.
By letter dated January 22, 1997, Lemco provided the Company with a
statement of its remediation costs to that date, as well as an estimate of
future remediation costs associated with the contamination for which it
seeks recovery in the Lemco Suit. Specifically, Lemco claims that it has
expected approximately $609,000 in remediation costs, including fees for
legal oversight and consultation and estimates that its future remediation
costs will amount to approximately $5,000,000. This estimate has been made
by Lemco's environmental consultants based on their current assessment of
the extent of contamination and the method and period required to complete
the remediation, as well as anticipated costs and fees for legal oversight
and consultation. The Company and its consultants recently completed the
investigation and evaluation of additional information received from Lemco
and have determined that Lemco's remediation cost estimates are overstated.
The Company's experts have estimated the cost of remediation as
approximately $2.4 million.
The Company has been vigorously defending this matter by, among other
things, asserting that the contamination was caused partially or completely
by Comax, not EAI, and that Lemco's damage figure is substantially
overstated. To the extent that it is determined that Comax contaminated the
site during its tenancy with the Company from 1977 to 1979, then the
Company may be held liable for such contamination as owner of the site at
the time of the contamination. The Company will pursue its claim for
indemnity against Comax in the event said liability is established.
Additionally, the Company has participated in court ordered mediation in an
effort to explore opportunities for settlement. Contemporaneously with the
institution of the Lemco Suit, the Company made a demand upon its insurance
carriers for coverage for the claims by Lemco. The Company's insurance
carriers in 1992 agreed to pay 71% of its defense costs under a reservation
of rights and have made partial payments for the period beginning on the
date of the Lemco Suit to the date hereof.
Although the Company's insurance carriers have not formally denied coverage
or refused to provide a defense for the Company, the Company believed that
settlement or other resolution of the Lemco Suit would be more likely with
the active participation of the insurance carriers. As a result, by court
order sought by the Company and granted on September 23, 1997, (i) the
carriers were added as third party defendants in the Lemco Suit, (ii) the
court ordered expedited discovery with respect to the insurance claim,
(iii) the court scheduled a settlement conference for December 22, 1997 and
(iv) the court has set a new trial date of January 5, 1998.
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Management of the Company believes that the range of possible loss by the
Company in this matter is approximately $250,000 to $9,000,000. This range
excludes prejudgment interest, if any, but includes costs and expenses,
such as legal and expert fees. In the quarter ended September 27, 1997, the
Company established a reserve to cover anticipated legal and expert fees in
connection with the Lemco Suit. Management of the Company believes that the
reserves it has established, together with its insurance coverage, should
be sufficient to cover the costs of defending or settling the Lemco Suit
and the potential losses that could be incurred by the Company in
connection with the Lemco Suit. No assurance can be given that the costs
incurred by the Company, or a potential award of damages against the
Company, will not exceed Management's current estimates, or that the
insurance recovery, if any, and available resources of the Company will not
be less than the current estimates of Management.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Overview
On January 4, 1995, the Company acquired Tanon, a privately-owned contract
electronic manufacturing firm with operations located in Fremont, California. In
May 1996, concurrent with, and as a condition to, closing a new loan facility
with IBJ Schroder Bank & Trust Company ("Schroder") ("Schroder Loan Facility"),
the Company consolidated all of its contract electronic manufacturing business
into Tanon, by assigning to Tanon all of the assets and liabilities related to
the contract electronic manufacturing business conducted directly by the
Company. As a result, the Company is now principally a holding company.
On January 16, 1995, the Company acquired an equity interest in BarOn, a
privately-owned Israeli corporation based in Haifa, Israel. BarOn is a
development stage company which has developed and was in the process of
commercializing an electronic computer input device that can directly digitize
handwriting in a variety of languages, from any surface. During the fourth
quarter of 1996 the Company determined that its investment and advances to BarOn
were unrecoverable and charged those amounts to expense.
On August 8, 1995, the Company, through a 52.3% owned subsidiary, EATI,
entered into a Joint Venture Agreement with IAI to review, develop and exploit
non-classified technological applications developed by IAI. The Company has
decided to sell or otherwise dispose of its interest in the Joint Venture and
the Company has signed a preliminary letter of intent to sell its interest in
the Joint Venture. The Joint Venture has been classified as an unconsolidated
subsidiary held for sale.
On May 6, 1996, the Company purchased 596,927 shares of the common stock of
Aydin, representing approximately 11.64% of the outstanding common shares of
Aydin. During May 1996, the Company initiated discussions with the Board of
Directors of Aydin concerning a possible merger or other combination with Aydin.
After due diligence and numerous discussions, the Company made an offer to merge
with Aydin, however, Aydin's Board of Directors rejected the Company's final
offer. The Company withdrew its offer on October 8, 1996 and terminated
discussions with Aydin. During the fourth quarter of 1996 the Company decided to
sell its investment in Aydin and wrote down the investment to its estimated net
realizable value of $5,605,000. In May and June 1997, the Company sold its
entire investment in Aydin for approximately $6,425,000.
On December 23, 1996, the Company's contract manufacturing subsidiary,
Tanon, signed a binding letter of intent to acquire Tri-Star and in January,
1997 placed an initial non-refundable deposit of $1.0 million toward the
purchase of Tri-Star. In May, 1997 the Company and Tri-Star mutually agreed to
terminate the acquisition discussions and the $1.0 million deposit was written
off to Other Expenses.
As a result of the decisions to sell its interest in the Joint venture with
IAI, cease making advances to BarOn Technologies, Ltd. (in which the Company
owns a one-third interest), discontinue the business combination discussions
with Aydin and to refocus its resources on the business of providing contract
manufacturing services, the Company determined in the second quarter of 1997
that it would be necessary to restructure its senior management and Board of
Directors ( see PART II -- OTHER INFORMATION, Item 5.). In addition, the Company
has closed its Philadelphia office and consolidated the activities
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previously handled at such office, and the staff at such office, with the
offices of Tanon in West Long Branch, New Jersey.
Results of Operations
During the first nine months of 1997, the Company's sales and cost of sales
decreased in total value but cost of sales increased as a percentage of sales.
Selling, general and administrative expenses decreased in total value but
increased as a percentage of sales. The Company had a net loss of approximately
$11,341,000 for the first nine months of 1997, which included non-recurring
charges of approximately $5,266,000 consisting of $1,761,000 which represents
the amortization of the fixed discount feature of convertible notes issued in
April, 1997, a charge of approximately $175,000 representing the value of
warrants granted in connection with borrowings by the Company in the aggregate
principal amount of $2,000,000, a charge of $800,000 representing the value of
warrants granted in April and June 1997 in connection with the standby financing
commitment of $4,500,000, a charge of $1,260,000 for restructuring of senior
management and the Board of Directors, a charge of approximately $1,020,000 for
the write-off of the non-refundable deposit concerning the acquisition
discussions held with Tri-Star, and the charge for $250,000 representing a
provision for expenses and legal fees in connection with the Lemco Suit. This
compared with a net loss of approximately $13,767,000 for the same period in
1996, which included non-recurring charges of approximately $6,650,000
consisting of a charge of approximately $4,200,000 which represents the
amortization of the fixed discount feature of convertible notes issued in
December 1995, May and June, 1996, $959,000 representing the charge to expense
for purchased in-process research and development resulting from the Company's
investment in Bar-On and the Joint Venture, $830,000 relating to the termination
of merger discussions with Aydin Corporation, and a charge of $660,000 to
increase the allowance for doubtful accounts primarily related to one customer.
The decrease in sales to $52,545,000 in the first nine months of 1997 from
$64,008,000 during the same period in 1996 resulted primarily from a decrease in
the level of business conducted with the Company's three largest customers and,
to a lesser extent, the phase-out of five customers, partially offset by sales
to seven new customers. The Company chose to disengage from two of these
customers, while the other three either began their own manufacturing or
consolidated their manufacturing at another manufacturing company. Sales to the
three large customers were unusually high during the first half of 1996 and then
declined to less than normal levels during the second half of 1996. Sales volume
to the three large customers began to improve in the first nine months of 1997
and the Company expects continued improvement for the remainder of 1997. The
Company also expects an increase in sales to new customers for the remainder of
1997. Sales of $21,243,000 in the third quarter of 1997 increased from
$17,595,000 during the same period in 1996, primarily due to an increase in
sales to new customers and increases in sales to the Company's three largest
customers.
The Company has been informed by its largest customer that the customer
intends to move the production of most of the components assembled by Tanon to
facilities outside of the United States, which have lower labor costs. The
customer has implemented such a move on two prior occasions on a trial basis,
but has been unsatisfied with the quality, timeliness or responsiveness of the
contract manufacturers that it used. During the first nine months of 1997, $21.6
million of revenues from that customer were included in the Company's sales. If
this customer is successful in implementing a move offshore, sales to that
customer of the product lines currently assembled by Tanon will begin decreasing
significantly in the second or third quarter of 1998, and will continue to
decrease into 1999. Management of the Company
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believes that the decrease in sales will be offset by sales to new customers and
sales of additional product lines to that customer.
Cost of sales decreased to $51,428,000 in the first nine months of 1997
from $61,170,000 in the same period in 1996 but increased, as a percentage of
revenue to 97.9% in the first nine months of 1997 compared with 95.6% in the
same period in 1996. The decline is primarily a result of the lower level of
sales in the first nine months of 1997 as compared to the same period in 1996. A
large percentage of cost of sales consists of fixed costs and, as a result, cost
of sales as a percentage of revenue increases as revenue falls. Gross profit was
approximately $1,100,000 for the first nine months of 1997, compared to
approximately $2,800,000 for the same period in 1996, reflecting the decline in
sales for the first nine months of 1997, as well as a slight increase in fixed
overhead.
Selling, general and administrative expenses decreased to approximately
$7,255,000 in the first nine months of 1997 from approximately $8,348,000 in the
same period in 1996. The decline was primarily a result of decreased holding
company expenses in 1997 and a reduction in expenses at Tanon. Selling, general
and administrative expenses during the first nine months of 1997 included
approximately $1,260,000 in restructuring charges in connection with changes in
directors and senior management and the charge for $250,000 representing a
provision for expenses and legal fees in connection with the Lemco Suit.
Selling, general and administrative expenses increased as a percentage of
revenue to 13.8% in the first nine months of 1997 from 13.0% in the same period
in 1996, primarily due to the reduced sales in the first nine months of 1997.
Selling, general and administrative expenses decreased to approximately
$1,929,000 in the third quarter of 1997 from $3,783,000 in the third quarter of
1996 and also decreased as a percentage of revenue to 9.1% in the third quarter
of 1997, compared with 21.5% in the same quarter in 1996. The decrease was
primarily a result of two unusual charges in the 1996 period which did not recur
in 1997 ($830,000 relating to the termination of merger discussions with Aydin
Corporation, and a charge of $660,000 to increase the allowance for doubtful
accounts primarily related to one customer). In addition, holding company
expenses in 1997 were approximately $372,000 lower in the third quarter of 1997
than in the comparable period in 1996 and the 1997 results reflect a reduction
in non-essential personnel at Tanon.
Interest expense was $4,937,000 in the first nine months of 1997 as
compared to $5,860,000 in the same period of 1996. The decline is primarily due
to charges of $4,200,000 for the first nine months of 1996 representing the
amortization of the fixed discount feature of convertible notes issued in
December 1995 versus similar charges of $1,761,000 in the same period in 1997
(the latter relating to convertible notes issued in April 1997), the charge of
$800,000 (representing the value of warrants granted in April and June 1997 in
connection with the standby financing commitment of $4,500,000), a charge of
$315,000 (representing the placement fee in connection with issuance of the $4.5
million convertible debentures in April 1997), and a charge of approximately
$175,000 (representing the value of warrants granted in connection with
borrowings by the Company in the aggregate principal amount of $2,000,000).
Interest expense relating to revolving credit agreements, subordinated debt, and
capitalized leases increased from approximately $1,612,000 in the first nine
months of 1996 to approximately $1,833,000 in the first nine months of 1997 due
to higher subordinated debt borrowings and capital leases in 1996 and 1997
offset by a decline in revolving credit borrowings. Interest expense for the
third quarter of 1996 was $609,000 as compared to $667,000 for the same period
in 1996. The decrease is substantially due to the pay down of the revolving
credit facility with cash received from the sale of the Aydin stock.
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Interest income decreased $165,000 in the first nine months of 1997, as
compared to the same period, respectively, in 1996. This decline resulted from a
decision to pay down the revolving credit facility rather than investing the
cash in short term investments generating a lower return.
Other expenses decreased from approximately $1,657,000 in the first nine
months of 1996 to approximately $320,000 in the first nine months of 1997. The
1997 nine month period included a gain of $820,000 from the sale of the Aydin
common stock, gains from the sale of excess capital equipment of $140,000,
offset by the expense relating to the write-off of the Tri Star investment of
$1,020,000, a write-off of BarOn expenses of $152,000, bank fees and other
related expenses of $147,000, and miscellaneous credits of $39,000. In the
comparable period for 1996, Other expenses included the Company's share of
BarOn's losses of $811,000, the write-down of the Company's Common Stock
securing a note receivable of $432,000, and the Company's share of its loss
incurred by the ITI Joint Venture of $150,000 and bank fees and related expenses
of $156,000, as well as miscellaneous charges of $107,000.
During 1996, the Company decided to sell its interest in the Joint venture
with IAI, cease making advances to BarOn (in which the Company owns a one-third
interest), discontinue the business combination discussions with Aydin and
decided to focus its resources on the business of providing contract
manufacturing services. As a result, the Company determined in the second
quarter of 1997 that it would be necessary to restructure its senior management
and Board of Directors (see PART II - OTHER INFORMATION, Item 5.). In addition,
the Company has closed its Philadelphia office and consolidated the activities
previously handled at such office, and the staff at such office, with the
offices of Tanon in West Long Branch, New Jersey.
The Company had recorded an aggregate provision of $600,000 in 1996
relating to certain of the above and recorded an additional provision of
$1,260,000 in the second quarter of 1997 reflecting the estimated cost of hiring
a new President and Chief Executive Officer, recruiting new members of the
Company's Board of Directors, closing the Company's Philadelphia office and the
acceleration of the vesting of certain options for former key executives and
former members of the Board of Directors.
The Company's consolidated backlog at September 27, 1997 was $45,911,000,
as compared to $38,745,000 for the same period in 1996.
The Company typically receives orders from its customers on a flexible
schedule to meet the sales/delivery schedule to the ultimate consumer. These
purchase orders specify delivery of product over periods ranging from as short
as 30 days or as long as a year and are adjusted as the sales by the Company's
customers to ultimate consumers change. The amount of inventory produced and
stored on behalf of customers also varies from time to time. Consequently, the
Company's backlog at the end of a period is not necessarily indicative of future
shipments to those customers.
Liquidity and Capital Resources
Liquidity, as discussed below, is measured in reference to the consolidated
financial position of the Company at September 27, 1997, as compared to the
consolidated financial position of the Company at December 31, 1996. Net cash
used by operations of $13,808,000 in the first nine months of 1997 increased by
$8,343,000 from cash used in operations of $5,465,000 in the same period in
1996. Net cash used by operations was primarily the result of the net loss for
the nine months ended September 27, 1997 and increases in accounts
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receivables and inventories resulting from increased levels of business, and a
reduction in accounts payable as the Company paid its payables on a more timely
basis beginning in the second quarter and continuing through the third quarter
of 1997.
Liquidity, as measured by cash and cash equivalents, increased to
$1,565,000 at September 27, 1997 from $461,000 at December 31, 1996. Liquidity
as measured by working capital, was a negative $4,449,000 at September 27, 1997
as compared with a negative working capital of $9,166,000 at December 31, 1996.
The increase in working capital was primarily a result of the issuance of
$7,750,000 of promissory notes and convertible notes, net of repayments,
partially offset by the net loss for the first nine months of 1997. For the
first nine months of 1997, revenue from contract manufacturing services
decreased by $11,463,000 from $64,008,000 in the same period in 1996. Accounts
receivable increased by $1,770,000 in the first nine months of 1997, reflecting
the significant increase in revenue from contract manufacturing services,
primarily in the latter part of the third quarter of 1997. Inventories also
increased, by approximately $5,000,000, resulting from the increased levels of
business and parts shortages resulting in delayed shipments.
Cash flows from financing activities during the first nine months of 1997
amounted to $11,227,000 resulting primarily from the issuance of the 10% Series
A Convertible Notes for $2,250,000, the issuance of the 10% Series B Convertible
Notes for $1,000,000, the issuance of the 6% Convertible Notes for $4,500,000,
the collection of $700,000 on a note receivable from a 1996 exercise of Class A
and Class B Warrants, and the exercise of Warrants for $195,000, as well as the
increase in the Schroder Loan Facility of approximately $1,720,000.
Net cash in the amount of $3,685,000 was provided through investing
activities for the first nine months of 1997. Funds in the amount of $6,425,000
were provided through the sale of 596,927 shares of Aydin common stock. Funds in
the amount of $2,100,000 were used to purchase a new Fuji high speed surface
mount line for the Company's New Jersey facility.
The Company's primary credit facility is an asset based credit facility
provided by Schroder to Tanon. Advances under the Schroder Loan Facility can
only be used to fund the Company's electronic contract manufacturing operations
which are now being conducted solely by Tanon. At September 27, 1997, $9,774,000
was outstanding under the Schroder Loan Facility which represented approximately
85% of the available funds, calculated in accordance with the availability
formula of the Schroder Loan Facility. The agreement with Schroder requires
Tanon to maintain certain financial ratios, including current assets to current
liabilities and earnings to certain fixed charges, and to maintain a minimum net
worth. At September 27, 1997, Tanon was in compliance with all of these
requirements.
The Company has incurred significant losses and had negative cash flows
from operations in each of the last six years and in the nine months ended
September 27, 1997. The Company raised approximately $10,000,000 in December,
1995 and $9,370,000 and $10,766,000 during 1996 and January 1, 1997 through
September 27, 1997, respectively, from the exercise of stock options and
warrants, borrowings secured by the shares of Aydin owned by the Company and the
sale of convertible notes and debentures. Among such capital raising activities,
in December 1995, the Company completed the sale of 7% convertible notes of the
Company in the aggregate principal amount of $10,000,000 to GFL Advantage Fund
Limited and GFL Performance Fund Limited. As of this date $7,930,000 of such
notes have been converted into 810,661 shares of the Company's Common Stock in
accordance with their terms. In May and June, 1996, the Company raised an
additional $8,100,000 from the sale of 9% convertible debentures which was used
in part, in purchasing approximately 11.64% of the outstanding shares of common
stock of Aydin (see Note 3 to Financial Statements in Part I of this Report). On
August 19, 1996, GFL Performance Fund Limited transferred and assigned its
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$2,070,000 outstanding principal amount note of the Company to Irwin L. Gross,
former Chairman of the Company and certain related family trusts (the "Note
Holders"). In connection with such assignment, the Company canceled the prior
note held by GFL Advantage Fund and reissued certain 7% convertible subordinated
notes of the Company in the aggregate principal amount of $2,070,000 due
December 29, 1997 to the Note Holders. These convertible notes had a maturity
date of December 29, 1997 and were convertible into shares of the Company's
Common Stock at the conversion price per share of $2.67. On February 6, 1997,
the Company amended these convertible notes by (i) increasing the aggregate
principal amount of such notes to $2,725,000 (the purchase price paid by the
Note Holders for the convertible notes) and (ii) reducing the fixed conversion
price of such notes to $1.50 per share, in return for the Note Holders foregoing
interest and making available certain other loans to the Company. As of this
date, $226,709 of such notes have been converted into 151,139 shares of the
Company's Common Stock in accordance with their terms.
The purchase of the Aydin common stock and advances to BarOn and EATI in
1996 resulted in the need to raise additional capital. In addition, the
Company's contract manufacturing operations conducted through Tanon required
additional working capital as a result of operating losses by Tanon and capital
expenditures by Tanon.
During the period beginning on October 25, 1996 and ending on April 10,
1997, the Company has borrowed a total of $3,520,000 from the then Chairman of
its Board of Directors, certain trusts benefitting his family and unaffiliated
investors. These loans are represented by certain 10% Series A Convertible Notes
(the "Series A Notes") issued by the Company. The Series A Notes will mature on
January 22, 1999 and are convertible at the option of the holder (i) after
January 1, 1998, into shares of Common Stock of the Company at a conversion
price of $3.50 per share, or (ii) into shares of Common Stock of Tanon after
completion of an initial public offering of shares of Common Stock of Tanon at a
conversion price equal to the quotient of (a) twenty five million dollars ($25
million), divided by (b) the number of shares of Common Stock of Tanon that were
issued and outstanding at the close of business on the day immediately prior to
the effective date of the registration statement covering the shares of Common
Stock of Tanon offered in such initial public offering, without giving effect to
the number of shares of Common Stock of Tanon being offered in such initial
public offering.
The Series A Notes bear interest at the rate of 10% per annum, payable
annually in arrears on January 15, 1998 and January 22, 1999. These notes are
subordinated to amounts owed by Tanon to Schroder and the ability of Tanon to
distribute or loan funds to the Company to make interest payments on the Series
A Notes is restricted pursuant to the Schroder Loan Facility.
In addition, during January 1997, the Company borrowed $1,000,000 from each
of two parties, Ace and Millenco. These loans were repaid in May 1997. In
consideration for such loans, the Company also granted a warrant to purchase
50,000 shares of Common Stock of the Company at an exercise price of $1.50 per
share to each of Ace Foundation, Inc. (the "Ace Warrant") and Millenco, LP (the
"Millenco Warrant"). Management charged the estimated value of these warrants,
$175,000, to expense in the first quarter of 1997.
To pay the remaining unpaid cost incurred in connection with the terminated
merger discussions with Aydin, fund the future holding company expenses, provide
additional working capital to Tanon to fund (i) unpaid prior losses of Tanon,
(ii) projected Tanon losses for the first half of 1997 and (iii) costs
associated with projected growth in sales during the second half of 1997, the
Company sold convertible notes in the aggregate amount of $4,500,000 in April
1997. These notes bear interest at 6% per annum payable quarterly and have a
maturity date of April 30, 1999. The Company has granted piggyback registration
rights to the note
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holders. The notes originally provided that if the shares underlying the
convertible notes are not covered by an effective registration statement and
listed on the NYSE within one hundred and twenty days, to pay a ten percent
penalty, and the holders may accelerate the entire balance of the notes. In
consideration of an extension until December 1, 1997 of that deadline the
Company has agreed to modify the conversion price to a conversion price per
share equal to the lesser of (i) three dollars and thirty nine and one half
cents ($3.395) per share or (ii) seventy six and one half percent (76.5%) of the
volume weighted average price of the Company's Common Stock as traded on the
NYSE for the five days preceding the date of notice to the Company that the
holder wishes to exercise its conversion right.
The Company in April 1997, arranged for standby financing of up to
$4,500,000 to provide additional working capital. This commitment was originally
irrevocable until April 1, 1998 and was to be reduced based on the proceeds the
Company received from the sale of its shares of common stock of Aydin and from
any additional equity or convertible debt financing. The Company has issued
warrants exercisable at $4.125 per share for 600,000 shares as of April 18, 1997
in consideration of this commitment and an additional 200,000 shares as of June
10, 1997 also exercisable at $4.125 per share. The estimated value of these
warrants, $800,000, was charged to expense in the second quarter of 1997. The
Commitment was terminated in June 1997.
During May 1997, the Company sold 500,000 shares of its Aydin shares at
$10.75 per share for a total of $5,375,000 to a group of investors introduced
to the Company by the Chairman of Aydin Corporation. The Company used some of
the proceeds to pay off the two promissory notes from Ace Foundation, Inc. and
Millenco, LP for $1,000,000 each. In June 1997, the remaining 96,927 shares of
Aydin were sold, also at $10.75 per share. The resulting gain of approximately
$820,000 is reflected in Other Expenses.
The Company's projections with respect to cash needs are based on its
forecasts of the results of operations at Tanon and expenses of EAI. If the
Company's results of operations at Tanon are significantly below forecasts, or
expenses at EAI are greater than expected, this would raise doubts about the
Company's ability to continue its operations without raising additional capital
or a significant financial restructuring, which could include a major reduction
in general and administrative expenses and liquidation of assets involving sale
of all or part of Tanon. There can be no assurance that such restructuring would
enable the Company to continue its operations or that the Company would be
successful in raising additional capital. The financial statements do not
reflect any adjustments that might result from the restructuring and other
measures being unsuccessful.
The Company has incurred significant losses and had negative cash flows
from operations in each of the last six years and in the nine months ended
September 27, 1997. The Company's financial projections indicate that net losses
and negative cash flows may continue for the remainder of 1997. The Company is,
however, forecasting an increase in sales during the fourth quarter of 1997
resulting from the Company's recent success in attracting new customers as well
as retaining existing customers. Management believes such increase will result
in an improvement in cash flows from operations, and that such increase, along
with its cash on hand and availability under its line of credit will provide
sufficient capital to meet its capital needs through year end 1997.
At September 27, 1997, the Company had accounts payable of $13,947,000 of
which approximately $812,000 had been outstanding for over 90 days. This
compares with $14,702,000 of accounts payable at December 31, 1996, of which
approximately $2,281,000 had been outstanding for over 90 days.
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The Company's Common Stock is currently listed and trading on the New York
Stock Exchange ("NYSE"), however, since September 11, 1991, the Company has not
been in compliance with one or more of the criteria necessary for continued
listing on the NYSE. As of the date of this Report, the Company believes
that it is in compliance with all of the NYSE's continued listing criteria, with
the exception of the minimum net tangible assets available to Common Stock of
$12,000,000 and minimum average earnings of $600,000 for each of the last three
fiscal years. The NYSE has informed the Company each time that it listed
additional shares on the NYSE between March 1995 and December 1996, that it was
considering the appropriateness of continued listing of the Company's Common
Stock. The Company currently has a listing application that is being reviewed by
the NYSE. Management of the Company has discussed these issues with the NYSE
during a series of meetings and phone conferences, which have included
presentations on the Company's business plans and forecasts, from September 1991
through November 1997. If the Company's Common Stock is delisted from the NYSE,
or the listing application is not approved, it could have a material adverse
effect on the price and liquidity of the Company's Common Stock and the
Company's ability to raise capital from the sale of equity.
In the event that the Company's Common Stock is delisted from the NYSE, it
could seek to list its Common Stock on the National Association of Securities
Dealers Inc.'s Automated Quotation System ("NASDAQ") or on another exchange.
Although the Company believes that it is currently eligible for listing on the
NASDAQ Small-Cap Market System (but not on the NASDAQ National Market System),
there can be no assurance that the Company would be eligible for listing its
Common Stock on NASDAQ or any exchange at such time. If the Company would be
ineligible to list its Common Stock on NASDAQ or any other exchange at such
time, there would be no established trading market for the Company's Common
Stock except as may be established in the National Association of Securities
Dealers Inc.'s OTC Bulletin Board Service or in the "pink sheets," which could
have a material adverse effect on the price and liquidity of the Company's
Common Stock. In addition, the Company's Common Stock could then become subject
to the Commission's "penny stock" rules which regulate broker-dealer sales
practices. Such rules could restrict the ability of broker-dealers to sell the
Company's Common Stock, which could also have a material adverse effect on the
price and liquidity of the Company's Common Stock.
Except for historical matters contained in this Report, statements made in
this Report are forward-looking and are made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. Investors
are cautioned that these forward-looking statements reflect numerous assumptions
and involve risks and uncertainties which may affect the Company's business and
prospects and cause actual results to differ materially from these
forward-looking statements, including loss of current customers, reductions in
orders from current customers, or delays in ordering by current customers,
failure to obtain anticipated contracts or orders from new customers, or
expected order volume from such customers, failure to obtain financing, higher
material or labor costs, unfavorable results in litigation against the Company,
economic, competitive, technological, governmental, and other factors discussed
in the Company's filings with the Securities and Exchange Commission.
The Company believes its business is affected by seasonal factors, based on
its customer's ordering patterns, and that the fourth quarter typically
represents a seasonal peak period, to be followed by reduced activity in the
first quarter of the following year. Therefore the Company's sales and net
income may vary from quarter to quarter, depending primarily upon the timing of
manufacturing orders and related shipments to customers. The operating results
for any particular quarter may not be indicative of results for any future
quarter.
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In March 1997, the Financial Accounting Standards Board issued Statement
No. 128, "Earnings per Share" which is effective for fiscal 1997. This statement
establishes accounting standards for computing and presenting earnings per share
("EPS"). It replaces the presentation of primary EPS with a presentation of
basic EPS. It also requires dual presentation of basic EPS and diluted EPS for
companies with complex capital structures. The Company's reported loss per share
is equivalent to basic loss per share under the new standard. The Company is not
required to present diluted per share amounts because it has incurred a net
loss.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Lemco Associates. There is a lawsuit presently pending which involves
environmental claims against EAI, namely, the Lemco Associates lawsuit. The
Company on a regular basis reviews and updates its public disclosure with
respect to this litigation. As previously reported, in October, 1992, Lemco
Associates L.P., a limited partnership ("Lemco"), the owner of property
previously owned by EAI, initiated an action (the "Lemco Suit") against EAI and
others alleging, among other things, that the defendants created environmental
contamination at the property and seeking damages in unspecified amounts. EAI
filed a response to the complaint in which it denied Lemco's allegations,
asserted numerous defenses to the claims asserted and asserted a counterclaim
against Lemco and crossclaims against co-defendants and others for
indemnification and contribution.
In 1947, the Company purchased land in North Long Branch, New Jersey on
which it subsequently built a number of buildings and conducted a number of
industrial operations. In 1954 it built a building known as Building 11 on that
land. From the mid-1950's through 1977, the Company conducted finishing
operations such as metal plating and painting on that site using, among other
machinery, a degreaser to clean metal components using a variety of solvents. In
1977, EAI leased Building 11 to a company called Comax, Inc. ("Comax") which
then began operations in the building. In 1977, Comax, with technical advice
from EAI filled the degreaser with solvents and used it at least once. Comax
then capped the degreaser without removing the solvents and did not use it
again. In 1979, EAI sold the property and all the buildings on the site to Lemco
for approximately $400,000. Comax continued to operate on the site until 1984
under a lease from Lemco.
Between 1977 and the time it ceased operations on the site, Comax was cited
by local authorities for a range of environmental violations. Building 11 was
demolished in or about 1991. Evidence indicates that at the time of the removal
the degreaser was empty. EAI believes that, between the time it was capped in
1977 and the time of its removal the chemicals leached out gradually over time
or the chemicals were spilled at the site before or after the removal of the
degreaser.
The Company believes that Lemco was aware at the time of its purchase of
the site from EAI that some of the underground gasoline storage tanks on the
site had leaked and that there had been previous spills of hazardous materials
on the site.
22
<PAGE>
Lemco's environmental consultants have analyzed the data from test wells on
the site and have concluded using a mathematical analysis and a modeling
analysis that TCE contamination occurred between 1959 and 1974 and that PCE
contamination occurred no later than 1968. The Company's environmental
consultants have analyzed the data from the same test wells on the site and have
concluded that based on a similar modeling analysis an initial TCE release to
the aquifer occurred in the mid 1970's to the late 1980's and a release of PCE
occurred from the mid 70's to the mid 80's. Their mathematical analysis also
indicates that TCE was most likely released to the aquifer in the mid 1980's and
unlikely to have been released before 1977. In addition, the evidence that would
be presented at trial by EAI is consistent with that conclusion.
The damages sought in the Lemco Suit are (I) recovery for the decreased
value of the property, (ii) recovery for the cost to remediate the contamination
on the property, and (iii) prejudgement interest and expert fees.
In 1988, Lemco signed an agreement of sale for the property subject to
various contingencies for a price of approximately $4 million. Further, Lemco
has provided the Company with appraisal reports made by a real estate appraisal
company engaged by Lemco in connection with the Lemco Suit. The reports state
that it is the appraisal company's opinion that the market value of the property
as of May 23, 1988 was $3.6 million and that the value of the property as of
April 14, 1995 was $960,000. Lemco purchased the property in question in 1979
for approximately $400,000.
By letter dated January 22, 1997, Lemco provided the Company with a
statement of its remediation costs to that date, as well as an estimate of
future remediation costs associated with the contamination for which it seeks
recovery in the Lemco Suit. Specifically, Lemco claims that it has expected
approximately $609,000 in remediation costs, including fees for legal oversight
and consultation and estimates that its future remediation costs will amount to
approximately $5,000,000. This estimate has been made by Lemco's environmental
consultants based on their current assessment of the extent of contamination and
the method and period required to complete the remediation, as well as
anticipated costs and fees for legal oversight and consultation. The Company and
its consultants recently completed the investigation and evaluation of
additional information received from Lemco and have determined that Lemco's
remediation cost estimates are overstated. The Company's experts have estimated
the cost of remediation as approximately $2.4 million.
The Company has been vigorously defending this matter by, among other
things, asserting that the contamination was caused partially or completely by
Comax, not EAI, and that Lemco's damage figure is substantially overstated. To
the extent that it is determined that Comax contaminated the site during its
tenancy with the Company from 1977 to 1979, then the Company may be held liable
for such contamination as owner of the site at the time of the contamination.
The Company will pursue its claim for indemnity against Comax in the event said
liability is established. Additionally, the Company has participated in court
ordered mediation in an effort to explore opportunities for settlement.
Contemporaneously with the institution of the Lemco Suit, the Company made a
demand upon its insurance carriers for coverage for the claims by Lemco. The
Company's insurance carriers in 1992 agreed to pay 71% of its defense costs
under a reservation of rights and have made partial payments for the period
beginning on the date of the Lemco Suit to the date hereof.
23
<PAGE>
Although the Company's insurance carriers have not formally denied coverage
or refused to provide a defense for the Company, the Company believed that
settlement or other resolution of the Lemco Suit would be more likely with the
active participation of the insurance carriers. As a result, by court order
sought by the Company and granted on September 23, 1997, (i) the carriers were
added as third party defendants in the Lemco Suit, (ii) the court ordered
expedited discovery with respect to the insurance claim, (iii) the court
scheduled a settlement conference for December 22, 1997 and (iv) the court has
set a new trial date of January 5, 1998.
Management of the Company believes that the range of possible loss by the
Company in this matter is approximately $250,000 to $9,000,000. This range
excludes prejudgment interest, if any, but includes costs and expenses, such as
legal and expert fees. In the quarter ended September 27, 1997, the Company
established a reserve to cover anticipated legal and expert fees in connection
with the Lemco Suit. Management of the Company believes that the reserves it has
established, together with its insurance coverage, should be sufficient to cover
the costs of defending or settling the Lemco Suit and the potential losses that
could be incurred by the Company in connection with the Lemco Suit. No assurance
can be given that the costs incurred by the Company, or a potential award of
damages against the Company, will not exceed Management's current estimates, or
that the insurance recovery, if any, and available resources of the Company will
not be less than the current estimates of Management.
Discovery in the Lemco Suit is ongoing.
24
<PAGE>
PART II - OTHER INFORMATION
ITEM 4. STOCKHOLDERS MEETING
The following information is provided with respect to the Annual
Stockholders Meeting of the Company.
a) Held: August 22, 1997
b) Directors Elected:
NO. OF VOTES
VOTES WITHHOLDING
FOR AUTHORITY
--------- ------------
Edward A. Blechschmidt 4,805,974 95,229
Frank G. Brandenberg 4,809,752 91,451
Bryan I. Finkel 4,809,856 91,347
Ross W. Manire 4,809,452 91,751
Ronald Verdoorn 4,809,642 91,561
c) Other Matters Voted on by Shareholders:
1. To amend the Company's Equity Incentive Stock Option Plan to increase
the number of shares of Common Stock of the Company reserved for issuance
under such plan from 2,250,000 to 5,000,000 shares.
VOTES VOTES
FOR AGAINST ABSTAINING
4,400,891 478,557 21,755
2. To amend the Company's Certificate of Incorporation to increase the
number of authorized shares of Common Stock of the Company from 12,500,000
shares to 35,000,000.
VOTES VOTES
FOR AGAINST ABSTAINING
4,597,420 282,041 21,742
3. To ratify the selection of Arthur Andersen LLP as the Company's auditors
for the fiscal year 1997.
VOTES VOTES
FOR AGAINST ABSTAINING
4,845,874 37,790 19,539
25
<PAGE>
ITEM 5. OTHER INFORMATION
In May 1997 the Company restructured its senior management and Board of
Directors. The Company engaged Frank G. Brandenberg as President and Chief
Executive Officer replacing Irwin L. Gross in those positions. In June 1997,
Jules M. Seshens, Executive Vice President and Paul E. Finer, Vice President and
President of Tanon resigned from their respective positions as executive
officers of the Company. In July 1997, the then current members of the Board of
Directors resigned and were replaced by four outside, independent directors, as
well as Frank G. Brandenberg, current President and CEO of EA Industries, Inc.
In August 1997, Mr. Shrawan K. Singh and Mr. Kenneth W. Cannestra joined EA
Industries, Inc. Board of Directors, increasing the total number of EAI
directors from five to seven. Mr. Cannestra has agreed to serve as Chairman of
the Board. On October 14, 1997, Mr. Stanley O. Jester exercised his right
pursuant to his employment agreement to resign as chief financial officer of the
Company and to receive a severance package as a result of the move of the
executive offices of the Company to West Long Branch, New Jersey and Mr. James
Crofton joined EA Industries, Inc. as Chief Financial Officer.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
Exhibit 27, Financial Data Schedule
(b) The registrant filed the following Form 8-K during the quarter for
which this report is filed:
A Form 8K was filed by the Company on September 23, 1997 reflecting disclosure
under ITEM 5. Other Events. The Company discussed the presently pending lawsuit
which involves environmental claims against EAI, namely, the Lemco Associates
lawsuit. Reference should be made to PART II - OTHER INFORMATION, ITEM 1. LEGAL
PROCEEDINGS, above .
26
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
EA INDUSTRIES, INC.
(Registrant)
Date: November 11, 1997 By: /s/ James Crofton
------------------
James Crofton
Vice President - Finance
Chief Financial Officer
(Principal Financial and
Chief Accounting Officer)
27
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED STATEMENT OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 27,
1997 AND THE CONSOLIDATED BALANCE SHEET AS OF SEPTEMBER 27, 1997 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
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<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> SEP-27-1997
<CASH> 1,565
<SECURITIES> 0
<RECEIVABLES> 13,833
<ALLOWANCES> (852)
<INVENTORY> 15,050
<CURRENT-ASSETS> 30,366
<PP&E> 20,431
<DEPRECIATION> (8,963)
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<BONDS> 9,335
89,815
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<TOTAL-LIABILITY-AND-EQUITY> 53,667
<SALES> 52,545
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<INCOME-PRETAX> (11,341)
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