SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
Commission File Number 0-7092
RELIABILITY INCORPORATED
----------------------------------------------------
(Exact name of registrant as specified in its charter)
TEXAS 75-0868913
- -------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
16400 Park Row
Post Office Box 218370
Houston, Texas 77218-8370
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code): (281) 492-0550
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value per share
(title of class)
---------------
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 twelve months (or for such shorter period that the
registrant was required to file such report), and (2) has been subject to such
filing requirements for the past ninety days.
YES X NO
------- -------
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. x
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State the aggregate market value of the voting stock held by non-
affiliates of the registrant. The aggregate market value shall be computed by
reference to the price at which the stock was sold, or the average bid and
asked prices of such stock, as of a specific date within 60 days prior to the
filing date.
$27,275,697, based on the last sales price as reported on The Nasdaq
Stock Market on March 5, 1999.
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date:
Common Stock, no par value 6,631,765
(title of class) (number of shares outstanding)
as of March 5, 1999
Documents Incorporated by Reference
Listed hereunder are the documents incorporated by reference and the Part
of the Form 10-K into which such documents are incorporated:
Part III Proxy Statement for the 1999 Annual
Meeting of Shareholders of the
Registrant (to be filed within 120
days of the close of the registrant's
fiscal year)
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RELIABILITY INCORPORATED
FORM 10-K
TABLE OF CONTENTS
December 31, 1998
PART I
Page
Item 1. Business.........................................................4
Item 2. Properties......................................................12
Item 3. Legal Proceedings...............................................13
Item 4. Submission of Matters to a Vote of Security Holders.............13
Item 4A. Executive Officers of the Registrant............................13
Part II
Item 5. Market for the Registrant's Common Stock and Related
Stockholder Matters 14
Item 6. Selected Financial Data.........................................15
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations..........................16
Item 7A. Quantitative and Qualitative Disclosures about Market Risk......24
Item 8. Consolidated Financial Statements and Supplementary Data.......F-1
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.....................................27
Part III
Item 10. Part III is omitted as the Company will file a
Item 11. Proxy Statement for the 1999 Annual Meeting of
Item 12. Shareholders as indicated in this report.....................27
Item 13.
Part IV
Item 14. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K..........................................28
Signatures......................................................30
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PART I
Item 1. Business
(a) GENERAL DEVELOPMENT OF BUSINESS. Reliability Incorporated
("Reliability") and its subsidiaries are principally engaged in the design,
manufacture and sale of equipment used to test and condition integrated
circuits. The Company and its subsidiaries also operate service facilities
which condition and test integrated circuits as a service to others and design,
manufacture and sell power sources, primarily a line of DC to DC power
converters, which convert direct current voltage into a higher or lower
voltage.
The following table shows the subsidiaries of the Company as of the date
of this report:
Reliability Incorporated
(a Texas corporation)
------------------------
RICR de Costa Rica, S.A. Reliability Singapore Pte Ltd.
(a Costa Rica corporation) (a Singapore corporation)
As used in this report, the terms "Company" and "Registrant" refer to
Reliability, its present subsidiaries and their predecessors, unless a
different meaning is stated or indicated.
The Company was incorporated under the laws of Texas in 1953. All
subsidiaries are incorporated under a variant of the "Reliability" name.
The Company's business was started in 1971 when substantially all of the
assets of a testing laboratory owned by Texas Instruments Incorporated were
acquired by Reliability, Inc. In 1974, the Registrant acquired Reliability,
Inc. and began providing conditioning and testing services. Reliability
Singapore Pte Ltd. began operations during 1978 and provides conditioning
services, including limited manufacturing of certain conditioning products for
sale to its services customer. Reliability Singapore also manufactured power
sources until 1993, when its power sources manufacturing operations were
transferred to Costa Rica. RICR de Costa Rica, S.A. began operating in 1990 and
manufactures and sells power sources.
The Company operates in three industry segments as discussed blow.
TESTING AND CONDITIONING PRODUCTS ("Testing Products").
Under current semiconductor technology and manufacturing processes,
manufacturers are unable to consistently produce batches of integrated circuits
("ICs" or semiconductors") that are completely free of defects which cause the
ICs to fail. An IC may be defective at the time it is produced or it may have a
latent defect which eventually will cause it to fail. An IC with such a defect
will almost always fail during the first 500 to 1,000 hours of normal use.
Accordingly, it has become customary to "condition" or "burn-in" ICs (i.e,
subject them, during a relatively short period of time, to controlled stresses
which simulate the first several hundred hours of operation) to identify
defects prior to delivery. Such conditioning subjects the ICs to maximum rated
temperatures, voltages and electrical signals. Following burn-in, each IC is
tested to determine whether it functions as designed.
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The Company manufactures equipment that performs burn-in and testing, as
well as equipment that performs burn-in only. The Company was one of the first
to design, manufacture and market systems that utilize burn-in and test
technology within the same product. The Company has manufactured equipment to
burn-in and test ICs since 1980. The Company's burn-in and testing products
contain sophisticated software, most of which is designed and developed by the
Company contemporaneously with the related hardware. The Testing Products
segment provided 64% of the Company's revenues in 1998.
Since 1992, the Company has focused its research and development on
equipment and related software that perform functional testing during burn-in
of memory and micrologic devices. This focus has led to the development of two
major product families - the INTERSECT(tm) line for the DRAM market and the
CRITERIA(r) 18 line for the micrologic device market.
Set forth below is the year of introduction, device capacity, power
dissipation and type of semiconductor processed by each of the primary Testing
Products that the Company currently offers:
Burn-In and Test Year Intro- Device Power Dissi- Primary
Product Type duced Capacity pation Application
---------------- ----------- -------- ------------ -----------
Criteria 18 1991 1,152 7KW Micrologic
Criteria 18-HD 1994 1,152 15KW Microprocessors
INTERSECT 2000 (2) 1994 8,640 - Memory
---------
(1) Power/heat dissipation rate in kilowatts
(2) 64 Meg DRAMS
The Company manufactures and sells CRITERIA 18 and CRITERIA 18-HD (High
Dissipation) burn-in and test systems. The CRITERIA 18-HD system provides a
cost-effective means for functional testing during burn-in of high frequency
micrologic devices which dissipate large quantities of heat. Solid state
switching, in conjunction with the Reliability logic controller software
system, provides an environment of very low AC electrical noise for testing
devices with .25 to .35 micron line widths. The system also offers the ability
to dissipate 15 KW of power in an economically sized system without having to
use chilled water as a cooling mechanism. This feature allows users to reduce
significantly the amount of floor space used when performing burn-in and test
of high power micrologic devices.
The Company also manufactures, under the trade name INTERSECT, systems
which functionally test memory devices during burn-in. This represents a
difference in the way memory devices historically have been tested. Most
functional testing is performed serially after the device is conditioned.
INTERSECT systems perform parallel functional testing during the burn-in
process. The testing currently performed by INTERSECT systems during burn-in
has historically been performed by serial testers capable of testing 64
individual DRAMs at a time. Because INTERSECT systems can test up to 3,072
individual DRAMs at a time, and are less expensive than serial testers, testing
costs per IC can be reduced 30% to 60%.
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The Company's first INTERSECT system was introduced in 1980. INTERSECT
systems are computer controlled for high volume burn-in and testing of memory
devices. The Company's INTERSECT systems can vary in their burn-in and testing
capabilities. The current generation of INTERSECT products are based on the
INTERSECT 30 ("I-30") technology which was introduced in 1992. The I-30 is
capable of functionally testing 8,640 64 Meg memory devices during the burn-in
process in a single chamber. It is capable of testing MOS, CMOS, Bipolar, ECL
and BiCMOS DRAMs and SRAMs. During 1994, the Company introduced a lower cost
version of the I-30 burn-in and test system called the INTERSECT 2000 ("I-
2000"). The I-2000 has the capacity to functionally test 8,640 64 Meg memory
devices during the burn-in process in a single chamber and has become the
principal product in the INTERSECT product line.
The Company has developed a networked burn-in and test management
software system known as RELNET(tm), which enables users of CRITERIA and
INTERSECT systems to connect multiple systems to a single host computer. This
provides users with a flexible software tool and a convenient central location
to monitor system status, track burn-in boards and device lots, schedule
equipment maintenance, control and store test profiles, and generate and store
burn-in and testing results.
Burn-in and testing products are designed and manufactured at the
Company's Houston, Texas facility.
The Company manufactures burn-in only systems marketed under the name
CRITERIA. Demand for burn-in only systems has declined significantly, and is
being replaced by demand for products that perform both burn-in and testing.
The original CRITERIA systems were designed for internal use in the Company's
service facility, but, since 1974, these systems and their successors have been
sold to outside customers. Burn-in systems generally are used on new IC
production lines, but may also be added to existing production lines. The
CRITERIA systems burn-in relatively large numbers of similar ICs at one time.
CRITERIA products are usually purchased by companies that manufacture large
volumes of similar ICs, but they also may be purchased by companies that
independently burn-in and test ICs.
The Company has also designed, manufactured, marketed and supported
automatic loaders and unloaders that transfer ICs to and from burn-in boards.
The INNOVATION(r) Loader/Unloader family of products was designed to offer
flexibility in handling surface mount and dual in-line IC packages. The
INNOVATION product line provides automation features, such as device and burn-
in board handling. These features improve productivity by providing continuous
and unattended device loading and unloading, allowing one operator to handle
multiple machines or operations. The Company has reduced the emphasis on this
product line, and, as a result, revenues during the 1996 through 1998 period
have declined.
SERVICES ("Services").
The Company currently operates two service facilities, in Austin, Texas
and in Singapore, which are dedicated to the burn-in and testing of DRAMs. The
Services segment accounted for 28% of the Company's revenues in 1998. The
Company closed its Durham Services facility in April 1998 and the principal
customer of the Singapore Services facility was acquired by Micron Technology
("Micron") on October 1, 1998. Micron advised the Company, in the fourth
quarter of 1998, that it would not outsource the processing of DRAMs of its own
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design. This has resulted in a significant decline in revenues at the facility,
but, in December 1998, the Company acquired a services facility in Singapore
that will result in an increase in revenues at the Singapore subsidiary. On
December 3, 1998, the Company acquired assets related to two services
facilities from Basic Engineering Services and Technology Labs, Inc. ("BEST").
The acquired facilities are located in Austin, Texas and Singapore. (Reference
is made to Notes 10 and 11 of the Company's Consolidated Financial Statements
for additional information.)
The Company uses CRITERIA systems and burn-in boards to provide burn-in
services. The Company utilizes serial testing equipment and burn-in equipment
acquired from BEST and manufactured by other vendors in certain testing
procedures. Services are generally sold on a periodically adjusted per-unit-
processed basis.
POWER SOURCES ("Power Sources")
The operating components of electronic equipment frequently have varying
electrical requirements. Rather than provide electricity to each component
separately, specialized devices called DC-DC converters or power sources are
used to convert direct current voltage into a higher or lower voltage. By using
small DC-DC converters, electronic equipment can operate from a single output
power supply, yet provide different voltages to different operating components.
These DC-DC converters allow designers of electronic equipment to localize
power requirements, increase modularity in the product design, and expand
equipment features without having to redefine power needs. The Company
specializes in the one watt to thirty watt DC-DC converter market and designs,
manufactures and markets a wide range of power sources classified into the
various product series. The Power Sources segment accounted for 8% of the
Company's revenues in 1998.
The Company introduced its initial power sources product series, the
V-PAC(r), in 1972. The V-PAC is a DC-DC converter compatible with electronic
equipment assembly operations. The Company also manufactures the Z-PAC(r),
which is a high efficiency DC-DC power source; the S-PAC(tm), a smaller one
watt unit which is similar to the V-PAC; the TELECOM-PAC(r), which is a power
source designed for the telecommunications industry; and the LAN-PAC(tm) a
power source designed to operate with Local Area Network computer applications.
The Company introduced, in 1997, two additional models in a new series of
wide input range 30 watt DC-DC converters, which increased the number of higher
wattage units in the product line. In 1998, the Company continued to convert to
surface mount technology for manufacturing power source products. Surface mount
technology removes the human element from certain manufacturing processes,
thereby enhancing the reliability of the power sources. The technology also
allows product assembly in smaller packages and therefore provides higher power
output from smaller units.
Power sources are designed at the Company's Houston, Texas facility and
manufactured in the Company's Costa Rica facility.
(b) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS. The Company's
business is divided into three industry segments - (i) manufacture of testing
and conditioning products (Testing Products), (ii), services which condition
and test integrated circuits as a service to others (Services), and (iii)
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manufacture of power sources (Power Sources). The information included in Note
5 of the Company's Consolidated Financial Statements provides additional
information regarding the Company's industry segments.
(c) NARRATIVE DESCRIPTION OF BUSINESS. The business of the Company is
generally described in part (a) of this Item 1. The following paragraphs
provide additional information concerning various aspects of the Company's
business. Unless otherwise indicated, the information provided is applicable to
all industry segments in which the Company operates.
(i) PRINCIPAL PRODUCTS. Information as to the principal products and
services of the Company is given in part (a) of this Item 1. The Testing
Products segment of the Company's business is the dominant segment. The
following table sets forth the percentage of the Company's total revenues by
business segment:
Years Ended December 31,
-----------------------
Business Segment 1998 1997 1996
---------------- ---- ---- ----
Testing Products 64% 50% 50%
Services 28 43 36
Power Sources 8 7 14
--- --- ---
Total revenues 100% 100% 100%
=== === ===
Reference is made to Note 5 of the Company's Consolidated Financial Statements
for additional information.
(ii) NEW PRODUCTS. During 1998, Reliability focused its activities on
developing new features for existing product lines that will meet its
customers' technical requirements for their next generation memory and
microprocessor devices. Reliability completed development, in 1998, and began
shipping a low voltage, high current option for its INTERSECT 2000 product
line. This new option provides customers with 40% more power and the ability to
supply and control voltages as low as one volt. The Company also completed a
joint software development program with a major customer which enhances system
software tools and improves the productivity of people who program systems.
During 1998, the Company also concentrated on developing thermal
solutions that will remove and control excess heat generated by high speed ICs.
The Company has filed certain patent applications related to the thermal
solutions that have been developed by the Company.
In 1998, the Company further expanded the use of surface mount and planar
magnetics technology in manufacturing power source products and continued to
develop and sell custom one watt through thirty watt converters for specific
key customers.
(iii) RAW MATERIALS AND INVENTORY. The Company's products are designed by
its engineers and are manufactured, assembled, and tested at its facilities in
Houston, Texas; San Jose, Costa Rica; and, to a limited degree, in Singapore.
The Company's products contain certain parts which it manufactures and
components purchased from others. Some metal fabrications and subassembly
functions are performed by others for the Company.
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The Company maintains an inventory of components and parts for its
manufacturing activities. There are many sources for most of the raw materials
needed for the Company's manufacturing activities, although a few components
come from sole sources. The Company has not experienced any significant
inability to obtain components or parts, but does experience occasional delays
in receiving certain items.
(iv) PATENTS, TRADEMARKS. The Company believes that the rapidly changing
technology in the electronics industry makes the Company's future success
dependent more on the quality of its products, services and performance, the
technical skills of its personnel, and its ability to adapt to the changing
technological environment than upon the protection of any proprietary rights.
The Company has patents and pending patent applications in the Untied States
and certain other countries which cover key components of testing and
conditioning products and ancillary equipment.
The Company considers its patents for the EX-SERT(tm) backplane system to
be material. These patents cover the use of a cavity at the rear wall of the
burn-in chamber to isolate power and signal connectors from the harsh
environment of the burn-in chamber. In many burn-in systems the power and
signal connectors are subjected to intense heat generated within the burn-in
chamber, resulting in shortened connector life. The connection assembly
disclosed in the patents reduces connector equipment down time. The United
States patent was granted in 1983 and expires in 2000, and a Japanese patent
was granted in 1995 and expires in 2003. The Company filed, in 1998, patent
applications related to a thermally conductive mechanical device or heat sink.
The proposed thermal solution can effectively remove heat from ICs, allowing
the ICs to operate at much greater speeds.
The Company also considers its patent relating to a method of IC
extraction during the process of unloading burn-in boards and a floating head
mechanism used in the loading and unloading of ICs onto burn-in boards to be
significant. These patents were granted in 1984 and 1988, respectively and
expire in 2001 and 2008, respectively. A patent with respect to the floating
head mechanism was granted in Europe in 1994 and expires in 2009, designating
France, Germany and the United Kingdom, and an application for a Japanese
patent with respect to such technology is pending.
The Company has certain trademarks which are registered with the U.S.
Patent and Trademark Office for use in connection with its products and
services, including "ri (and design)," "RELIABILITY," "CRITERIA," "V-PAC."
"Z-PAC." "INNOVATION." and "TELCOM-PAC." In addition, the Company uses certain
other tradenames which are not presently registered, including "INTERSECT,"
"RELNET," "EX-SERT," "UNLOADER," "S-PAC," "ISDN-PAC," "RK-94," "SERIES 1000,"
"CRITERIA 18-HD" and others not listed here which are used less frequently.
The Company relies on copyrights and trade secrets to protect its computer
software.
The Company has in the past and will in the future take appropriate
action to protect all of its patents, copyrights, trade secrets and trademarks,
as well as its other proprietary rights.
(v) SEASONALITY. The Company's business is not seasonal, but is
cyclical, depending on the electronics manufacturing and semiconductor
industries.
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(vi) WORKING CAPITAL. The Company finances its inventory and other
working capital needs out of internally generated funds and has in the past
used periodic borrowings to finance its needs. The Company has short-term
credit facilities on which it could draw additional funds as of December 31,
1998. Reference is made to Note 2 of the Company's Consolidated Financial
Statements for additional information as to the credit agreements under which
working capital is or could be available if required.
(vii) MAJOR CUSTOMERS. In 1998 and 1997, four customers accounted for 88%
and 90%, respectively, of the Company's consolidated revenues. The four
customers are Intel Corporation, International Business Machines Corporation,
Mitsubishi Semiconductor America, Inc. and Texas Instruments Incorporated. In
1998, two of the customers accounted for approximately 78% and 14%, and in
1997, 75% and 24% of revenues, respectively, in the Services segment. In
addition, in 1998, two other customers accounted for 53% and 45% and in 1997,
58% and 38%, of revenues, respectively, in the Testing Products segment. Note 5
to the Company's Consolidated Financial Statements discloses information
concerning customers that accounted for more than 10% of consolidated revenues.
The Company believes that its relationships with its customers are good. In the
Power Sources segment, decreased business from one customer may be replaced by
new or increased business from other customers, but there is no assurance that
this will occur. The Company's North Carolina facility provided services to one
customer, Mitsubishi Semiconductor America, Inc. The customer notified the
Company in January 1998 that it was reducing its output of DRAMs to be burned-
in and tested by the Company's Durham facility and ceased sending product to
the Company. The Company closed the Durham facility in April 1998. The facility
accounted for approximately 4% and 10% of Reliability's consolidated revenues
in 1998 and 1997, respectively. Micron Technology acquired the Singapore DRAM
operations of Texas Instruments ("TI") in the fourth quarter of 1998. TI
accounted for substantially all of the revenues of the Company's Singapore
Services facility. Micron has advised the Company that it will, in the future,
continue to utilize the Company's burn-in services, but at substantially
reduced levels.
The Company acquired assets and operations related to two services facilities
from BEST in December 1998. The projected 1999 and future years revenues from
the acquired operations are forecast to offset a substantial portion of the
revenue declines at the Singapore and Durham facilities (see Notes 10 and 11 of
the Company's Consolidated Financial Statements for additional information
concerning the restructuring and closure of the Singapore and Durham facilities
and acquisition of service operations). The loss of other major customers or a
significant reduction in orders from a major customer in any business segment
and the failure of the Company to obtain other sources of revenue could have a
material adverse impact on the Company. The Company has no long-term contracts
with its major customers.
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(viii) BACKLOG. The following table sets forth the Company's backlog at
the dates indicated:
December 31,
------------
Business Segment 1998 1997
---------------- ---- ----
(In thousands)
Testing Products $1,360 $11,185
Services 182 2,260
Power Sources 245 681
------ ------
Total $1,787 $14,126
====== ======
Backlog for sales of Testing Products and Power Sources represents orders
for delivery within 12 months from the date on which backlog is reported.
Backlog for Services represents orders for services where the ICs to be
conditioned have been delivered to the Company and orders for testing products,
for delivery within 12 months from the date on which backlog is reported, that
are directly related to providing services to customers. The Company's backlog
as of December 31, 1998 is believed to be firm, although portions of the
backlog are not subject to legally binding agreements.
(ix) GOVERNMENTAL BUSINESS. The Company does not carry on a material
amount of business with any governmental agency.
(x) COMPETITION. The markets for the Company's products and services
are subject to intense competition. The Company's primary competitors in the
Testing Products segment are other independent manufacturers of such systems
and manufacturers of ICs who design their own equipment. The primary methods of
competition in this segment are quality, product features, service, delivery,
and price. The Company believes that its service after the sale, including its
ability to provide installation, maintenance service, and spare parts, enhances
its competitiveness.
The primary areas of competition for the Company's Services are price,
service level and geographic location. The Singapore Services facility provides
services to a small number of major IC manufacturers in Singapore and, to a
limited degree, to companies in Southeast Asia that manufacture and use ICs.
The Austin, Texas Services facility provides services to a major IC
manufacturer in Austin.
The world market for power sources is divided into the merchant and the
captive markets. There are less than 1,000 competitors in the merchant market
of the power sources manufacturing business, most of which target a particular
application for their business. The Company believes there are approximately 20
significant competitors whose products compete directly with those of the
Company in its U.S. and foreign markets. Competition in the Power Sources
segment is based primarily on the specific features of the power sources, price
and quality.
(xi) RESEARCH. The demands of the semiconductor industry for increas-
ingly complex and sophisticated equipment requires the Company to continuously
develop new products and to review and modify its existing products and
services to adapt to technology changes in the industry. The Company also
focuses on the development of options for its INTERSECT and CRITERIA product
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lines. In 1998, 1997 and 1996, the Company spent $2.0 million, $1.6 million and
$2.2 million, respectively, on research and development activities. Develop-
mental projects, which are primarily related to the Testing Products segment,
are ongoing.
(xii) ENVIRONMENTAL MATTERS. The business of the Company is not expected
to be affected by zoning, environmental protection, or other similar laws or
ordinances.
(xiii) EMPLOYEES. On December 31, 1998, the Company had 406 employees, of
which 23 were contract or temporary employees. The Company's continued growth
depends on its ability to attract and retain its technical staff and skilled
employees. During recent years, the Company has experienced a low turnover rate
among its U.S. employees. Due to the low unemployment rate in Singapore,
turnover at the Singapore subsidiary has been high. Turnover at the Company's
Costa Rica subsidiary increased in 1998. The increase was primarily related to
a decrease in production levels, resulting in the subsidiary needing fewer
employees.
(d) FINANCIAL INFORMATION ABOUT FOREIGN AND DOMESETIC OPERATIONS AND
EXPORT SALES. See Note 5 to the Company's Consolidated Financial Statements for
a table showing information about foreign and domestic operations of the
Company for the last three years.
Item 2. Properties
The Company's headquarters, as well as its manufacturing and research and
development facilities for testing and conditioning products, is located in a
131,000 square foot facility on a seven acre tract of land in Park 10, an
office and industrial park, on Interstate Highway 10 located on the west side
of Houston. The Company leased this facility until March 1995, at which time
the Company purchased the facility. The Company financed the purchase of its
headquarters; at December 31, 1998, outstanding indebtedness secured by the
property was $274,000. The Company occupies 96,000 square feet in the building
and leases the remaining 35,000 square feet to an outside party.
A subsidiary of the Registrant leases two facilities totaling 46,000
square feet in Singapore. The Singapore facilities are devoted to Services
operations. The Austin Texas Services facility occupies 16,000 square feet of
leased space. A subsidiary of the Registrant owns a 29,500 square foot building
in the free trade zone in San Jose, Costa Rica. The subsidiary in Costa Rica
utilizes 22,600 square feet in the building for the manufacture of power
sources. The San Jose facility is not subject to any encumbrance. See Notes 2
and 8 to the Company's Consolidated Financial Statements for information
concerning encumbrances and leases.
The Company considers its properties suitable and sufficient for its
needs and has no plans to expand or relocate.
The Company owns land and a 43,500 square foot building in Durham, North
Carolina. The Durham facility is not occupied and is listed for sale.
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Item 3. Legal Proceedings.
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders.
Not applicable.
Item 4A. Executive Officers of the Registrant.
The following table sets out certain information regarding each executive
officer of the Company:
Officer of
Reliability Position Currently Held
Incorporated Held with Reliability
Name Age Since Incorporated
---- --- ----------- -----------------------
Larry Edwards 57 1981 Chairman of the Board
of Directors,
President and Chief
Executive Officer
Max T. Langley 52 1978 Senior Vice President,
Chief Financial Officer,
Secretary and Treasurer
James M. Harwell 44 1993 Vice President
Paul Nesrsta 42 1993 Vice President
J.E. (Jim) Johnson 53 1994 Vice President
Mr. Edwards has been President and Chief Executive Officer of the Company
since 1993 and became a Director and Chairman of the Board of Directors in
1995. He was President and Chief Operating Officer of the Company from 1990 to
1993 and was Executive Vice President and Chief Operating Officer of the
Company for more than five years prior to becoming the President in 1990.
Mr. Harwell has been Vice President, Manufacturing Operations since 1996.
He was Vice President, Site Services from 1993 until 1996 and was the division
manager of the automation equipment division of the Company from 1991 to 1993.
Mr. Nesrsta has been Vice President, Sales and Marketing since 1996. He
was Vice President, Testing Products Marketing from 1993 until 1996 and was
manager of the test systems division of the Company for more than five years
prior to becoming a vice president in 1993.
Mr. Johnson has been Vice President, Engineering since September 1997. He
was Vice President of Engineering for Fusion Semiconductor from August 1996
until September 1997. He was Vice President, Systems Division of Reliability
Incorporated for more than five years prior to August 1996.
Mr. Langley has held his present position for more than five years.
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PART II
Item 5. Market for the Registrant's Common Stock and Related Stockholder
Matters.
The common stock of Reliability trades on The Nasdaq Stock Market under
the stock symbol REAL. The high and low sale prices for 1998 and 1997, as
reported by The Nasdaq Stock Market, are set forth below.
First Second Third Fourth
Quarter Quarter Quarter Quarter
------- ------- ------- -------
1998
----
High $16.75 $16.00 $12.13 $ 6.50
Low 9.56 8.00 3.75 3.38
1997
----
High $ 4.50 $ 8.69 $23.38 $30.75
Low 2.94 4.06 7.56 12.25
All prices are restated to give effect to the 1997 two-for-one stock
split in the form of a dividend. (See Note 4 to the Consolidated Financial
Statements.)
The Company paid no cash dividends in 1998 or 1997. The Company intends
to retain earnings for use in its business and therefore does not anticipate
paying dividends in the foreseeable future.
The Company has only one class of stock, which is common stock with full
voting rights. In 1998 and 1997, the Company sold and issued shares of common
stock to its Employee Stock Savings Plan and to key employees, officers and
directors who exercised stock options. All common stock shares that were sold
to the stock savings plan and under the stock option plan in 1998 and 1997 were
registered under Registration Statements on Form S-8.
On December 3, 1998, the Company issued 475,000 shares of its Common
Stock to BEST in partial payment for assets acquired from BEST. The shares were
not registered, in reliance on Section 4 (2) of the Securities Act of 1933, as
amended. The stock was offered and issued in a transaction not involving a
public offering, to a single entity which represented that it was taking the
shares for investment and not resale. The shares are legended against resale
and cannot be sold for at least one year after issuance, and then only in
reliance on Rule 144 of the Securities and Exchange Commission.
Reliability had approximately 767 shareholders of record as of
February 12, 1999. Management estimates there are approximately 4,500
beneficial owners of Reliability common stock.
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Item 6. Selected Financial Data.
The following table sets forth certain selected financial data for the
years indicated:
Years Ended December 31,
-----------------------------------------
1998 1997 1996 1995 1994
------ ------ ------ ------ ------
(In thousands, except per share data)
Revenues $33,543 $47,220 $35,760 $33,930 $23,427
Cost of revenues 16,330 23,653 18,027 16,837 12,737
------- ------ ------ ------ ------
Gross profit 17,213 23,567 17,733 17,093 10,690
Expenses:
Marketing, general and
administrative 8,383 9,679 8,043 8,862 7,056
Research and development 2,009 1,578 2,197 2,227 1,054
Provision for restructuring 607 - - - -
Interest (income) expense net (491 ) 66 53 60 (154 )
------ ------ ------ ------ ------
Total expenses 10,508 11,323 10,293 11,149 7,956
------ ------ ------ ------ ------
Income before income taxes 6,705 12,244 7,440 5,944 2,734
Provision for income taxes 2,468 4,112 2,594 1,881 89
------ ------ ------ ------ ------
Net income $ 4,237 $ 8,132 $ 4,846 $ 4,063 $ 2,645
====== ====== ====== ====== ======
Earnings per share (1):
Diluted $ .68 $ 1.23 $ .57 $ .48 $ .31
Basic .69 1.25 .57 .48 .31
Weighted average shares (1):
Diluted 6,201 6,604 8,486 8,486 8,486
Basic 6,111 6,500 8,486 8,486 8,486
Total assets $33,246 $29,801 $26,603 $23,727 $13,284
Working capital 15,159 11,906 12,728 8,504 8,974
Property and equipment, net 9,536 10,682 9,257 8,979 1,925
Long-term debt - 1,560 1,961 2,482 -
Total stockholders' equity 27,577 20,642 19,668 14,822 10,759
(1) The weighted average number of shares used in the earnings per share
calculations and earnings per share have been adjusted to give effect to
a two-for-one stock split in the form of a dividend. (See Notes 4 and 6
of the Notes to Consolidated Financial Statements.)
15
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
This Management's Discussion and Analysis of Financial Condition and
Results of Operations and other parts of this document contain forward-looking
statements that involve risks and uncertainties. All forward-looking statements
included in this report are based on information available to the Company on
the date hereof, and the Company assumes no obligation to update any such
forward-looking statements. The Company's actual results could differ
materially from those anticipated in these forward-looking statements as a
result of a number of factors, including those set forth elsewhere in this
report.
FINANCIAL CONDITION.
The primary sources of Reliability's liquidity are cash provided by
operations and working capital. The parent Company and its Singapore subsidiary
have substantial cash available to support anticipated liquidity requirements.
The Company maintains lines of credit to supplement the primary sources of
capital. Changes in the Company's financial condition and liquidity during the
three year period ended December 31, 1998 are generally attributable to changes
in cash flows from operating activities, acquiring certain assets from BEST
during 1998, accelerating payments on a mortgage during 1997 and 1998, changes
in the levels of capital expenditures, the purchase of 1.3 million shares of
the Company's Common Stock in 1997 and repayment, in 1997, of borrowings that
were used to partially finance the purchase of the Common Stock. In addition,
the shut-down of the Company's North Carolina services facility in 1998 and
changes in operations at the Company's Singapore facility did, during late
1998, and will in 1999, affect the Company's future financial condition.
Certain ratios and amounts monitored by management in evaluating the
Company's financial resources and performance are presented in the following
table:
1998 1997 1996
------ ------ ------
Working capital:
Working capital (thousands) $15,159 $11,906 $12,728
Current ratio 4.0 to 1 2.7 to 1 3.8 to 1
Profitability ratios:
Gross profit 51% 50% 50%
Return on revenues 13% 17% 14%
Return on assets 13% 27% 18%
Return on equity 15% 39% 25%
Equity ratios:
Total liabilities to equity 0.2 0.4 0.4
Assets to equity 1.2 1.4 1.4
The Company's financial condition improved significantly throughout the
three year period ending in 1998. Working capital totaled $15.2 million at
December 31, 1998, compared to $11.9 million and $12.7 million at December 31,
1997 and 1996, respectively. The ratio of current assets to current liabilities
was 4.0 to 1 at December 31, 1998, an increase from 2.7 to 1 and 3.8 to 1 at
December 31, 1997 and 1996, respectively. The Company's current ratios were
unusually high at December 31, 1998 and 1996 due to cash accumulations during
16
<PAGE>
periods of declining production. Assets such as accounts receivable and
inventories decrease during periods of declining production and are converted
to cash. Cash provided by operations in 1998 was used to substantially reduce a
mortgage payable, acquire assets from BEST, purchase fixed assets and increase
the amount of short-term interest-bearing cash investments. Cash provided by
operations in 1997 and 1996 was used to purchase capital assets. In addition,
in 1997, management's evaluations indicated that the Company's Common Stock was
undervalued compared to industry peers. In March 1997, the Company purchased
1.3 million shares from a shareholder for $8.3 million. The Company used $5.8
million of its cash balance and $2.5 million from its revolving term loan to
purchase the stock. The amount borrowed under the term loan was paid in full
during the third quarter of 1997.
Increased demand for the Company's products and services during 1997
resulted in a $14.1 million backlog at December 31, 1997, but significant
decreases in demand for the Company's products and services during 1998
resulted in backlog decreasing to $1.8 million at December 31, 1998. The
operating effects related to the changes in backlog during 1998 and 1997
affected various elements of cash provided by operations, as reflected in the
Consolidated Statements of Cash Flows.
Net cash provided by operating activities for the year ended December 31,
1998 was $11.0 million, compared to $9.2 million and $8.9 million provided in
1997 and 1996, respectively. The principal items contributing to the cash
provided by operations in 1998 were net income plus depreciation and
amortization, which totaled $6.2 million, and decreases in accounts receivable
and inventories of $4.6 million and $2.8 million, respectively. Cash provided
by operations in 1998 was reduced by decreases in accounts payable, accrued
liabilities and income taxes payable totaling $3.1 million. The decrease in
accounts receivable, inventories and the liability accounts, in 1998, resulted
from a reduction in the level of revenues and backlog during the last half of
1998. Significant items contributing to cash provided by operations in 1997
were the sum of net income plus depreciation of $9.7 million and increases in
accrued liabilities, primarily payroll related accruals, and accounts payable
of $1.2 and $1.0 million, respectively. Cash provided by operations in 1997 was
reduced by increases in accounts receivable and inventories of $2.6 million and
$1.2 million, respectively. The changes in 1997 were directly related to the
Company operating at levels required to support the increase in revenues in
1997, compared to 1996.
Capital expenditures during 1998, 1997 and 1996 were $0.9, $3.0 and $1.8
million, respectively. Expenditures during 1998 included equipment for the
Testing Products segment and equipment used by the Singapore Services facility
to provide Services to its customers. A significant portion of expenditures for
1997 included equipment required by the Singapore Services facility to support
increased demand for Services. A significant portion of the 1996 expenditures
included improvements at the Services facility in North Carolina and equipment
required by the Singapore Services facility.
During the 1996 to 1998 period, the Company has maintained a credit
facility with a financial institution to provide credit availability to
supplement cash provided by operations, if required. Credit availability
provided by the credit facility was $4.0 million at December 31, 1998. The
Company's Singapore subsidiary maintains a small overdraft facility to support
the subsidiary's credit commitments.
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<PAGE>
Reliability's revenue is dependent on conditions within the semiconductor
industry, and profitability is dependent on revenues and the Company's ability
to control expenses. The Company continues to enforce stringent expense
controls and will maintain these controls until revenues increase to higher
levels. Semiconductor manufacturers experienced good volume growth during 1996
and 1997, and modest increases in 1998. The Company's Testing Products segment
is dependent on the capital expenditures by semiconductor manufacturers. The
semiconductor industry is highly cyclical and experiences periods of oversupply
and excess production capacity. Beginning in early 1998, oversupply and excess
production capacity began to affect demand for test equipment and also
continued to reduce and hold down DRAM sales prices. These factors resulted in
a significant decrease in the amount of new orders for Testing Products and
Services sold by the Company in 1998. Demand for Testing Products sold by the
Company remains very weak during the early months of 1999 and indications are
that the weak demand may continue for several more quarters. The acquisition of
certain Services activities from BEST in December 1998 and a general increase
in demand, in late 1998, for Services provided by the Company indicate that
revenues in the Services segment could improve throughout 1999. Based on the
Company's current low backlog level and the uncertainty concerning demand for
the Company's products during 1999, Reliability is not currently providing a
revenue forecast for the year ending December 31, 1999. The current forward-
looking forecast indicates revenues for the first quarter of 1999 to be
approximately $4.3 million to $4.7 million, compared to fourth quarter 1998
revenues of $3.7 million.
Current projections indicate that the Company's cash and cash equivalent
balances, future cash generated from operations and available lines of credit
will be sufficient to meet the projected cash requirements of the Company
during 1999.
RESULTS OF OPERATIONS.
OVERVIEW. Changes in revenues from the sale of Testing Products sold by
the Company during the three year period ended in 1998 reflected changes in
demand by the semiconductor industry resulting in product mix and volume
changes in 1998 and volume increases in 1997 and 1996. Services revenues
decreased in 1998 due to the closing of the Company's North Carolina facility
and acquisition of the Singapore facility's dominant customer (Texas
Instruments) by Micron Technology. These events were caused by significant
decreases in DRAM prices in 1997 and weak prices in 1998. The North Carolina
facility accounted for approximately 4% and 10% of consolidated revenues in
1998 and 1997, respectively. Services revenues increased during 1997 and 1996
due to increased customer requirements for conditioning Services. Product mix
changes and price competition in the Power Sources segment resulted in a
decrease in unit volumes and a decline in total revenues in 1998 and 1997.
Services revenues in 1998 were impacted by the Company's acquisition of two
Services operations from BEST in December 1998. The results of operations
related to the acquisition have been included in the Company's operations since
December 3, 1998. (See Note 10 of the Company's Consolidated Financial
Statements for additional information.)
REVENUES. Revenues for 1998 decreased 29% to $33.5 million, reflecting
decreases of $11.1, $1.9 and $0.7 million in the Services, Testing Products and
Power Sources segments, respectively. The factors contributing to changes in
revenues in 1998 are explained below. Revenues for 1997 increased 32% to
$47.2
18
<PAGE>
million, reflecting a $5.8 million increase in the Testing Products segment and
an increase of $7.3 million in the Services segment. The revenue increases
relate to increased unit demand for semiconductors, which translated into
increased requirements for products and services supplied by the Company.
Revenues in the Power Sources segment declined $1.6 million in 1997. Revenues
in the Singapore and U.S. geographical segments all increased in 1997. The
increase in the Singapore segment was attributable to a significant increase in
demand for services provided by the Singapore subsidiary. The overall increase
in the U.S. segment was related to volume increases and product mix changes in
the Testing Products segment.
Revenues in the Testing Products segment were $21.6 million for 1998,
which was a decrease of 8% from the same period in 1997. The decrease was
related to changes in demand resulting in volume changes and product mix
changes. Revenues from the sale of INTERSECT products decreased $2.2 million,
while net revenues from the sale of CRITERIA and loader and unloader products
increased $0.3 million. CRITERIA revenues increased due to volume increases
resulting from an increase in the number of CRITERIA systems delivered to a
customer. The increase reflected increased demand for semiconductors sold by
the customer. Revenues from the sale of loader and unloader products decreased
significantly due to the Company's reduced emphasis on the loader and unloader
products line. Revenues in the Testing Products segment were $23.5 million for
1997, which was an increase of 33% over 1996. The increase was related to
increased demand resulting in volume increases and higher unit prices due to
product mix changes. Revenues from the sale of INTERSECT products increased
$1.9 million, while revenues from the sale of CRITERIA and loader and unloader
products increased $3.9 million.
Revenues in the Services segment decreased 54% in 1998 to $9.2 million.
Services revenues, in 1998, decreased at two of the Company's Services
facilities. The North Carolina facility was closed in April 1998. In addition,
revenues at the Singapore Services facility decreased $7.6 million due to
volume and unit price decreases related to decreased demand and price
competition and the acquisition by Micron of TI's Singapore DRAM operations.
Revenues included in the Services segment from the sale of conditioning
products to Services customers also decreased significantly during 1998 due to
the same factors.
Revenues in the Services segment increased 56% in 1997 to $20.3 million.
The increase was related to the Company's Singapore Services facility and was
caused by volume increases resulting from increased demand, reduced by unit
price decreases resulting from product mix and volume changes; approximately
70% of the increase related to an increase in the sale of burn-in boards to
support product mix changes.
Revenues in the Power Sources segment decreased 22% in 1998 to $2.7
million, after decreasing 32% to $3.4 million in 1997. Revenues were affected
in 1998 and 1997 by changes in demand, an aging product line, price competition
and a decline in market penetration resulting in volume decreases.
COSTS AND EXPENSES. Changes in costs and expenses during the three year
period were primarily related to changes in revenues and the effect of
stringent expense control programs during the period.
19
<PAGE>
Total costs and expenses, excluding interest and a $0.6 million provision
for restructuring, for the 1998 period decreased $7.0 million or 20% compared
to the 29% revenue decrease of $13.7 million. Cost of revenues decreased $7.3
million; marketing, general and administrative expenses decreased $1.3 million
and research and development expenses increased $0.4 million. Total costs and
expenses, excluding interest, increased $6.6 million or 24% in 1997, compared
to the 32% revenue increase of $11.5 million. Cost of revenues increased $5.6
million; marketing, general and administrative expenses increased $1.6 million;
and research and development expenses decreased $0.6 million.
The Company's gross profit, as a percent of revenues, was 51% in 1998 and
50% in 1997 and 1996. The increase in gross profit to 51% in the 1998 period
was attributable to the Testing Products segment. The gross profit in the
Testing Products segment is higher than the gross profit in the other two
segments. Revenues in the Testing Products segment accounted for a
significantly higher percent of total consolidated revenues in the 1998 period,
resulting in the overall increase in gross profit in 1998, compared to 1997 and
1996. Gross profit in all three business segments decreased slightly in 1998
due to revenue decreases related to overall volume decreases. The gross profit
in the Power Sources segment in 1998 decreased due to the significant decrease
in revenues resulting from volume decreases. The gross profit in the Services
segment, in 1998, decreased due to a significant decrease in revenues, as
discussed above. Gross profit in the Testing Products segment, in 1997,
increased slightly due to efficiencies related to volume increases and to
product mix changes. The gross profit in the Power Sources segment, in 1997,
decreased due to the significant decrease in revenues resulting from volume
decreases. Gross profit in the Services segment, in 1997, decreased slightly
due to a significant increase in revenues related to sale of burn-in boards to
Services customers. Gross profit on burn-in boards is traditionally lower
because of price competition. The gross profit in the Testing Products segment
for 1996 was reduced by a $1.0 million reserve for excess inventory due to a
significant decrease in demand for a specific INTERSECT model.
Marketing, general and administrative expenses for 1998 decreased $1.3
million, or 13%, over the 1997 period, compared to a 29% decrease in revenues.
This decrease was primarily related to the Services segment and, to a lesser
extent, to the Power Sources segment. Expenses in the Services segment
decreased due to the shut-down of the North Carolina Services facility in April
1998 and a decrease in variable expenses at the Singapore facility due a
reduction in the volume of ICs processed for customers. In addition, expenses
in all three segments, in 1998, were reduced because incentive compensation
accruals declined due to the decrease in profitability in the all segments and
for the Company as a whole. Expenses in the Power Sources segment decreased due
to expense controls and a decrease in personnel levels due to a reduction in
revenues. The Company has implemented various measures to reduce expenses.
During 1998, worldwide personnel levels decreased 50%, excluding the BEST
acquisition, through attrition and workforce reductions. Additional workforce
reductions, at selected locations, will be implemented if necessary. The
Company will ensure that its research and development projects and its ability
to respond to customer requirements are not affected by cost reduction
measures. Marketing, general and administrative expenses for 1997 increased
only $1.6 million, or 20%, over the 1996 period, compared to a 32% increase in
revenues. This increase is primarily related to the Testing Products segment
and, to a lesser extent, to the Services
20
<PAGE>
segment and resulted from increases in variable expenses such as royalties,
sales commissions and warranty expenses, and an increase in incentive
compensation accruals which are directly related to an increase in
profitability.
Research and development expenses increased $0.4 million in 1998, after
declining $0.6 million in 1997. A significant portion of the expenditures in
each of the years related to development of testing and conditioning products
and, in 1998, development of new features for existing product lines. The
Company completed development of new models of INTERSECT and CRITERIA products
during 1995, and the new products accounted for a substantial portion of the
revenues in the three year period ending in 1998. The Company classifies costs
related to modifying existing products as sustaining engineering expense.
Sustaining engineering expenses are charged to cost of product sales and thus
are not included in research and development expense. In 1997, substantial
engineering resources were devoted to sustaining engineering projects.
Sustaining engineering expenses increased $650,000 or 250% in 1997, compared to
1996. Reliability is committed to continuing a significant research and
development program, and development costs may increase in 1999.
PROVISION FOR RESTRUCTURING AND IMPAIRMENT AND ASSETS HELD FOR SALE. The
Company recorded a $507,000 provision for restructuring of its Singapore
operations in 1998, due to a significant reduction in the volume of ICs that
will be processed by the Company in Singapore. The volume decrease relates to
the fact that Micron Technology acquired the Texas Instruments DRAM
manufacturing facility in Singapore. The restructuring provision includes
$207,000 for severance costs paid to employees that were terminated during 1998
and current estimates of other costs that will be incurred in restructuring the
operations. The Company, in 1998, acquired certain operations related to BEST
Singapore and will, in 1999, integrate the operations of Reliability Singapore
with those of BEST Singapore. Additional restructuring costs may be incurred in
1999 related to combining the activities of the two operations. In addition,
during 1998, the Company shut down its Services facility in North Carolina. The
Company recorded a $100,000 impairment reserve related to the land and building
located at the North Carolina facility. The carrying value of the land and
building totals $2.2 million and the assets are classified as assets held for
sale in the December 31, 1998 consolidated balance sheet. The assets are being
actively marketed, although no assurances can be given that they will be sold
during 1999.
INTEREST INCOME AND EXPENSE. The changes in net interest during the
three year period reflect an increase in interest income and a decrease in
interest expense. Interest income increased due to significant increases in
investable cash and interest expense decreased due to the fact the Company
accelerated payments on the mortgage related to the Houston facility.
PROVISION FOR INCOME TAXES. The Company's effective tax rates were 37%,
34% and 35% for 1998, 1997 and 1996, respectively. The principal items
affecting the Company's tax rate in 1998 and 1997 were foreign losses for which
a tax benefit is not available, lower effective income tax rates related to
undistributed foreign earnings and state income taxes and, in 1997, a change in
the valuation allowance resulting from utilization of foreign tax credits.
Effective January 1, 1997, the Company changed its policy with respect to
providing U.S. income taxes on undistributed earnings of its Singapore
subsidiary. Changes in demand for services provided by the subsidiary
21
<PAGE>
necessitates permanent reinvestment of future earnings of the subsidiary; thus
deferred U.S. income taxes have not been provided after January 1, 1997. The
effective tax rate in 1996 was affected by a tax benefit from an export
processing exemption in Costa Rica and state income tax expense.
NET INCOME. Income before income taxes was $6.7 million for 1998,
compared to $12.2 million for 1997 and $7.4 million for 1996. Net income was
$4.2 million, $8.1 million and $4.8 million for the respective periods.
EARNINGS PER SHARE. Diluted earnings per share were $.68, $1.23 and $.57
for the years ended December 31, 1998, 1997 and 1996, respectively; $.04 of the
1998 earnings per share was due to a decrease in the weighted average number of
shares outstanding and $.29 of the 1997 increase was due to a decrease in the
weighted average number of shares outstanding. The decrease, in 1997 and to a
lesser degree in 1998, in average shares outstanding resulted from the Company
purchasing 1.3 million shares of its Common Stock from a stockholder in March
1997. The Company declared a two-for-one stock split as a 100% stock dividend
on September 5, 1997. Weighted average share and per share data have been
restated to reflect the stock split.
IMPACT OF YEAR 2000. The Year 2000 Issue is the result of computer
programs being written using two digits rather than four to define the
applicable year. Any of the Company's computer programs that have time-
sensitive software may recognize a date using "00" as the year 1900 rather than
the year 2000. This could result in a system failure or miscalculations causing
disruption of normal business activities.
Based on a recent and ongoing assessment, the Company determined that it
would be required to modify or replace portions of its software and software
that has been sold to customers so that computer systems will function properly
with respect to dates in the year 2000 and thereafter. A substantial portion of
the modifications and replacements had been completed as of December 31, 1998.
The Company presently believes that with modifications to software and
conversions to new software that have been or will be implemented, the Year
2000 Issue will not pose significant operational problems and will not
materially affect future financial results.
The Company anticipates completing substantially all known Company year
2000 compliance projects by March 31, 1999. Readiness and compliance by third
parties will be monitored throughout 1999. The overall program has been
classified into four projects:
1. assessment of products that are currently manufactured and
supported by the Company;
2. assessment of the Company's internal business and operating
systems;
3. assessment of the impact on the Company of non-compliance by third
party companies that supply material and services to the Company
and obtaining confirmation that the third parties will correct
known non-compliance in a timely manner; and
4. conversion of BEST internal business and operating systems to the
Company's compliant systems.
It is currently estimated that the total cost associated with the year
2000 compliance project will not exceed $200,000. Approximately 80% of the cost
has already been incurred.
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<PAGE>
The following is the current status of the four projects:
1. Evaluation of the year 2000 impact on products that are currently
sold and supported by the Company is substantially complete. The
Company has provided year 2000 solutions to customers of currently
supported products. It is estimated that the Company and its
customers have completed approximated 80% of the testing of year
2000 solutions related to Company supported products. The Company
does not provide year 2000 solutions for products that are no
longer in production. The Company will quote to customers the cost
to provide year 2000 solutions for products that are no longer in
production. It is projected that there will be a limited number of
requests for year 2000 solutions related to items that are not
current products. The Company believes that products that are being
shipped currently and that will be shipped in the future are year
2000 compliant. The Company's year 2000 solutions are subject to
typical uncertainties, such as future identification of currently
unknown problems and that products will only be used for a
reasonable number of years related to the technology that the
product is designed to process.
2. Internal business and operating systems located at the Company's
three facilities have been evaluated and necessary hardware and
software changes have been identified.
(a) The Houston conversion is approximately 95% complete and
additional testing is the principal item that remains to be
completed.
(b) The Costa Rica conversion is approximately 95% complete. It is
estimated that the conversion will be completed by March 31, 1999.
(c) The Singapore conversion is approximately 80% complete and it
is projected that the conversion will be substantially complete by
May 31, 1999.
3. The Company has communicated with key third party suppliers and has
received responses from approximately 80% of the suppliers.
(a) This project is estimated to be only 50% complete because
certain suppliers have indicated that compliance will not be
completed until various times in 1999.
(b) The major item remaining to be completed is to follow up with
suppliers that have not responded or that are not year 2000
compliant.
(c) The status of this project will be updated quarterly and
specific action steps will be determined each quarter. The Company
and the public in general will be subject to uncertainties related
to continuation of public utility services, availability of major
freight carriers and availability of services from similar
suppliers. The Company will attempt to obtain written assurance
from as many key suppliers as possible and will, throughout 1999,
23
<PAGE>
identify problem areas and develop and implement contingency plans,
if necessary.
4. Substantially all of the BEST systems will be converted and/or
integrated into the Company's compliant systems by March 31, 1999.
The remaining systems will be converted by June 30, 1999.
The Company has not completed development of contingency plans or its
evaluation of the possible worst case scenario. In general, it appears that the
worst case scenario may be that some suppliers may not be able to supply
critical products or services. The Company will seek new vendors where
necessary. The development of the worst case scenario and contingency plans is
expected to be completed by June 30, 1999.
The Company's year 2000 compliance project is being implemented based on
information that is generally available concerning identified year 2000
problems. Additional information is continually emerging concerning year 2000
problems and solutions, and the Company believes it is using reasonable efforts
to assess and correct year 2000 problems and will, as necessary, update the
assessment.
The costs of the project and the date by which the Company believes it
will complete year 2000 modifications are based on management's best estimates,
which were derived utilizing numerous assumptions of future events, including
the continued availability of certain resources, third party modification plans
and other factors. However, there can be no guarantee that these estimates will
be achieved, and actual results could materially differ from those anticipated.
FORWARD-LOOKING STATEMENTS
From time to time, the Company may publish forward-looking statements,
including those that are contained in this report, relating to such matters as
anticipated financial performance, business prospects, technological develop-
ments, new products, research and development activities and similar matters.
The Private Securities Litigation Reform Act of 1995 provides a safe harbor for
forward-looking statements. In order to comply with the terms of the safe
harbor, the Company notes that a variety of factors could cause the Company's
actual results and experience to differ materially from the anticipated results
or other expectations expressed in the Company's forward-looking statements.
The risks and uncertainties that may affect the operations, performance,
development and results of the Company's business include, but are not limited
to, market acceptance of Company products and services, the effects of general
economic conditions, the impact of competition, product development schedules,
problems with technology, delivery schedules, year 2000 compliance, future
results related to acquisitions, and supply and demand changes for Company
products and services and its customers' products and services.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
MARKET RISK. The following discussion about the Company's market risk
includes "forward-looking" statements that involve risk and uncertainties.
Actual results could differ materially from those projected in the forward-
looking statements.
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<PAGE>
The Company is exposed to market risks, including interest rate risk and
foreign currency risk. In addition, trade receivables subject the Company to
concentrations of credit risk. The adverse effects of potential changes in
these market risks are discussed below. The sensitivity analyses presented do
not consider the effects that such adverse changes may have on overall economic
activity nor do they consider additional actions management may take to
mitigate the Company's exposure to such changes. See the notes to the
consolidated financial statements for a description of the Company's accounting
policies and other information related to these financial instruments. The
Company does not engage in speculative transactions and does not use derivative
instruments or engage in hedging activities.
Interest Rate Risk. The Company places its short-term investments, which
generally have a term of less than 90 days, with high quality financial
institutions, limits the amount of credit exposure to any one institution, and
has investment guidelines relative to diversification and maturities designed
to maintain safety and liquidity. As of December 31, 1998, the Company had
short-term investments totaling $14 million. Due to the short-term nature of
these instruments, the carrying value approximates market value. If 1999
average short-term interest rates decreased by 1.0% over 1998 average rates,
the Company's projected interest income from short-term investments would
decrease by approximately $140,000.
As of December 31, 1998, the fair value of the Company's total debt
outstanding (all of which bore interest at fixed rates) of $0.8 million
approximated its fair value. This debt is expected to be paid in full during
the first half of 1999. Market risk, estimated as potential increase in fair
value resulting from a hypothetical 1.0% decrease in interest rates, is
estimated to be not material to the Company as of December 31, 1998. In
addition to this debt, the Company has historically maintained lines of credit
at interest rates that fluctuate with the U.S. prime rate, thus the Company's
historical borrowing rates have been near or slightly below prime rates. There
were no borrowings outstanding under these lines of credit as of
December 31, 1998.
Foreign Currency Risk. The Company has subsidiaries located in Costa Rica
and Singapore. The functional currency of the two subsidiaries is the U.S.
dollar. Revenues of the Costa Rica subsidiary are denominated in U.S. dollars
and operating expenses are denominated in the local currency of Costa Rica.
Historically, the Costa Rica currency has been devalued frequently, relative to
the U.S. dollar, resulting in minimal exchange effects on the equivalent U.S.
dollar expenses of the subsidiary.
The Company estimates that approximately 60% and 50% of its Singapore
subsidiary's 1999 revenues and expenses, respectively, will be denominated in
Singapore dollars. The balance will be denominated in U.S. dollars.
Historically, fluctuations in Singapore dollar/U.S. dollar exchange rates have
not had a material effect on the Company. Future changes in the exchange rate
of the U.S. dollar to the Singapore dollar may positively or negatively impact
the Company's revenues, operating expenses and earnings.
25
Concentrations of Credit Risk. The Company provides products and services
to companies in the electronics and semiconductor industries, many of which are
industry leaders. There are a limited number of companies which purchase
testing products and services sold by the Company. During 1998, the Company's
four largest customers accounted for approximately 88% of consolidated
revenues. The Company's trade receivables are primarily denominated in U.S.
dollars and are generally due within 30 days. In general, trade receivables are
collected in a timely manner and historically bad debts have been very low.
Timely collection of trade receivables minimizes the currency risk associated
with trade receivables that are denominated in foreign currencies.
26
<PAGE>
Item 8. Consolidated Financial Statements and Supplementary Data.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULE
Page
Report of independent auditors F-2
Consolidated balance sheets at December 31, 1998 and 1997 F-3
For each of the three years in the period ended December 31, 1998:
Consolidated statements of income F-5
Consolidated statements of cash flows F-6
Consolidated statements of stockholders' equity F-8
Notes to consolidated financial statements F-9
Schedule for each of the three years in the period
ended December 31, 1998:
II - Valuation and qualifying accounts and reserves S-1
All other schedules are omitted since the required information is not
present, or is not present in amounts sufficient to require submission of the
schedule, or because the information required is included in the consolidated
financial statements and notes thereto.
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Reliability Incorporated
We have audited the accompanying consolidated balance sheets of
Reliability Incorporated as of December 31, 1998 and 1997, and the related
consolidated statements of income, cash flows and stockholders' equity for each
of the three years in the period ended December 31, 1998. Our audits also
included the financial statement schedule listed in the Index on page F-1.
These financial statements and the schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and the schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Reliability Incorporated at December 31, 1998 and 1997, and the consolidated
results of its operations and its cash flows for each of the three years in the
period ended December 31, 1998, in conformity with generally accepted
accounting principles. Also, in our opinion, the related financial statement
schedule, when considered in relation to the basic financial statements taken
as a whole, presents fairly in all material respects the information set forth
therein.
BY/s/ERNST & YOUNG LLP
Houston, Texas
January 29, 1999
F-2
<PAGE>
RELIABILITY INCORPORATED
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
ASSETS
December 31,
--------------
1998 1997
Current assets: ---- ----
Cash and cash equivalents $15,702 $ 7,108
Accounts receivable 2,178 6,753
Inventories 1,301 4,156
Deferred tax assets 572 601
Other current assets 441 501
------ ------
Total current assets 20,194 19,119
Property, plant and equipment, at cost:
Machinery and equipment 14,390 16,279
Building and improvements 5,023 7,958
Land 530 792
------ ------
19,943 25,029
Less accumulated depreciation 10,407 14,347
------ ------
9,536 10,682
Assets held for sale 2,193 -
Goodwill, net of accumulated amortization 1,323 -
------ ------
$33,246 $29,801
====== ======
See accompanying notes.
F-3
<PAGE>
RELIABILITY INCORPORATED
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
LIABILITIES AND STOCKHOLDERS' EQUITY
December 31,
--------------
1998 1997
---- ----
Current liabilities:
Current maturities on long-term debt $ 274 $ 401
Note payable to shareholder 534 -
Accounts payable 547 1,659
Accrued liabilities 3,045 4,426
Income taxes payable 335 727
Accrued restructuring costs 300 -
------ ------
Total current liabilities 5,035 7,213
Long-term debt - 1,560
Deferred tax liabilities 634 386
Commitments and contingencies - -
Stockholders' equity:
Common stock, without par value; 20,000,000 shares
authorized; 7,811,278 and 7,269,502 shares issued
in 1998 and 1997, respectively 9,340 6,690
Retained earnings 26,081 21,844
------ ------
35,421 28,534
Less treasury stock, at cost, 1,206,762 and
1,214,211 shares in 1998 and 1997, respectively 7,844 7,892
------ ------
Total stockholders' equity 27,577 20,642
------ ------
$33,246 $29,801
====== ======
See accompanying notes.
F-4
<PAGE>
RELIABILITY INCORPORATED
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
Years Ended December 31,
------------------------
1998 1997 1996
---- ---- ----
Revenues:
Product sales $24,294 $26,908 $22,770
Services 9,249 20,312 12,990
------ ------ ------
33,543 47,220 35,760
Costs and expenses:
Cost of product sales 10,491 11,108 10,132
Cost of services 5,839 12,545 7,895
Marketing, general and administrative 8,383 9,679 8,043
Research and development 2,009 1,578 2,197
Provision for restructuring 607 - -
------ ------ ------
27,329 34,910 28,267
------ ------ ------
Operating income 6,214 12,310 7,493
Interest income (expense), net 491 (66 ) (53 )
------ ------ ------
Income before income taxes 6,705 12,244 7,440
Provision for income taxes 2,468 4,112 2,594
------ ------ ------
Net income $ 4,237 $ 8,132 $ 4,846
====== ====== ======
Earnings per share:
Diluted $ .68 $ 1.23 $ .57
Basic $ .69 $ 1.25 $ .57
Weighted average shares:
Diluted 6,201 6,604 8,486
Basic 6,111 6,500 8,486
See accompanying notes.
F-5
<PAGE>
RELIABILITY INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Years Ended December 31,
------------------------
1998 1997 1996
---- ---- ----
Cash flows from operating activities:
Net income $4,237 $ 8,132 $ 4,846
Adjustments to reconcile net income to cash
provided by operating activities:
Depreciation and amortization 1,916 1,613 1,438
Change in deferred tax assets
and liabilities 277 189 (105 )
Provision for inventory obsolescence 40 233 1,043
Provision for restructuring, net of
cash payments 400 - -
Loss (gain) on disposal of fixed assets (14 ) 6 (47 )
Increase (decrease) in operating assets and
liabilities, net of effects from acquisition:
Accounts receivable 4,575 (2,565 ) 4,301
Inventories 2,815 (1,230 ) (284 )
Prepaid income taxes - 286 (286 )
Other current assets (72 ) (52 ) (138 )
Accounts payable (1,112 ) 959 (675 )
Accrued liabilities (1,637 ) 1,206 (870 )
Income taxes payable (392 ) 396 (355 )
------ ------ ------
Total adjustments 6,796 1,041 4,022
------ ------ ------
Net cash provided by operating activities 11,033 9,173 8,868
------ ------ ------
Cash flows from investing activities:
Cash paid for acquired business (1,000 ) - -
Expenditures for property and equipment (853 ) (3,046 ) (1,754 )
Proceeds from sale of equipment 498 2 85
------ ------ ------
Net cash (used) in investing activities (1,355 ) (3,044 ) (1,669 )
------ ------ ------
See accompanying notes.
F-6
<PAGE>
RELIABILITY INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS - (continued)
(In thousands)
Years Ended December 31,
------------------------
1998 1997 1996
---- ---- ----
Cash flows from financing activities:
Payments on long-term debt (1,687 ) (367 ) (247 )
Proceeds from issuance of common and treasury
stock pursuant to stock option and employee
stock savings plans 517 957 -
Purchase of treasury stock - (8,256 ) -
Borrowings under revolving credit facility 457 6,969 -
Payments under revolving credit facility (457 ) (6,969 ) -
Other 86 141 -
------ ------ ------
Net cash (used) by financing activities (1,084 ) (7,525 ) (247 )
------ ------ ------
Net increase (decrease) in cash and
cash equivalents 8,594 (1,396 ) 6,952
Cash and cash equivalents:
Beginning of year 7,108 8,504 1,552
------ ------ ------
End of year $15,702 $ 7,108 $ 8,504
====== ====== ======
See accompanying notes.
F-7
<PAGE>
RELIABILITY INCORPORATED
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Years Ended December 31, 1998, 1997 and 1996
(In thousands)
Treasury Stock
Common Stock (at cost)
------------ Retained -------------- Total
Shares Amount Earnings Shares Amount Amount
------ ------ -------- ------ ------ ------
Balance at
December 31, 1995 4,243 $5,926 $ 8,896 - $ - $14,822
Net income 4,846 4,846
----- ----- ------ ----- ----- ------
Balance at
December 31, 1996 4,243 5,926 13,742 - - 19,668
Net income 8,132 8,132
Purchase of treasury
stock (1,270 ) (8,256 ) (8,256 )
Treasury shares issued
for exercise of
stock options 154 23 149 303
Stock dividend 2,999 30 (30 ) -
Shares issued for exer-
cise of stock options 28 130 130
Treasury shares issued
pursuant to employee
stock savings plan 309 33 215 524
Other 141 141
----- ----- ------ ----- ------ ------
Balance at
December 31, 1997 7,270 6,690 21,844 (1,214 ) (7,892 ) 20,642
Net income 4,237 4,237
Shares issued for
acquisition 475 2,095 2,095
Shares issued for exer-
cise of stock options 59 395 395
Shares issued pursuant
to employee stock
savings plan 7 40 40
Treasury shares issued
pursuant to employee
stock savings plan 34 7 48 82
Other 86 86
----- ----- ------ ----- ------ ------
Balance at
December 31,1998 7,811 $9,340 $26,081 (1,207 ) $(7,844 ) $27,577
===== ===== ====== ===== ====== ======
See accompanying notes.
F-8
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1998
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
Reliability Incorporated is a United States based corporation with
operations in the United States, Singapore and Costa Rica. The Company and its
subsidiaries are principally engaged in the design, manufacture and sale of
equipment used to test and condition integrated circuits. In addition, the
Company and a subsidiary of the Company operate service facilities which
condition and test integrated circuits as a service to others. The Company's
Testing Products are sold to companies that manufacture semiconductor products
and are shipped to locations in the U.S., Europe, Asia and the Pacific Rim.
Services, as of December 31, 1998, are provided principally to two customers,
one in the U.S. and one in Singapore. The Company closed a U.S. services
facility in April 1998 and acquired, in December 1998, assets of a company that
provides services to customers in Austin, Texas and Singapore. Another
subsidiary manufactures and sells power sources, primarily a line of DC to DC
power converters. Power sources are sold to U.S., European and Asian based
companies that design and sell electronic equipment.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its subsidiaries, all of which are wholly owned. All significant
intercompany balances and transactions have been eliminated in consolidation.
CASH EQUIVALENTS
For the purposes of the statements of cash flows, the Company considers
all highly liquid cash investments with maturities of three months or less,
when purchased, to be cash equivalents.
INVENTORIES
Inventories, at December 31, are stated at the lower of standard cost
(which approximates first-in, first-out) or market (replacement cost or net
realizable value) and include:
1998 1997
---- ----
(In thousands)
Raw materials $1,071 $1,611
Work-in-progress 180 2,189
Finished goods 50 356
----- -----
$1,301 $4,156
===== =====
Inventories are presented net of reserves for excess and obsolete
inventories of $775,000 and $871,000 as of December 31, 1998 and 1997,
respectively.
F-9
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
PROPERTY, PLANT AND EQUIPMENT
For financial statement purposes, depreciation is computed principally on
the straight-line method using lives of 6 years for leasehold improvements and
30 years for buildings, and the straight-line and double-declining balance
methods using lives from 2 to 8 years for machinery and equipment.
GOODWILL
Goodwill arising from the acquisition of Basic Engineering Services and
Technology Labs, Inc. ("BEST") is amortized over its estimated useful life of
seven years. Accumulated amortization was approximately $16,000 at December 31,
1998.
LONG-LIVED ASSETS
The Company evaluates the recoverability of its long-lived assets in
accordance with Statement of Financial Accounting Standards No. 121 ("SFAS
121"), "Accounting for the Impairment of Long-Lived Assets and for Long Lived
Assets to be Disposed Of". SFAS 121 requires recognition of impairment of long-
lived assets in the event the net book value of such assets exceeds the future
undiscounted cash flows attributable to such assets. The Company assesses the
impairment of long-lived assets when events or changes in circumstances
indicate that the carrying value of an asset may not be recoverable. The
Company assesses impairment of goodwill in a similar manner.
STOCK OPTIONS
In 1997, the Company adopted Statement of Financial Accounting Standards
No. 123 ("SFAS 123"), "Accounting for Stock-Based Compensation". As permitted
under this standard, the Company has elected to follow Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees", in accounting
for its stock options. Since the exercise price of the Company's stock options
equals the market price of the underlying stock on the date of grant, generally
no compensation expense is recognized. Pro forma information regarding net
income and earnings per share, as calculated under the provisions of SFAS 123,
are disclosed in Note 4.
REVENUE RECOGNITION
Generally, revenues for the sales of products and services are recognized
when products are shipped and services are provided, unless the Company has
obligations remaining under the purchase orders, in which case, revenue is
deferred until all obligations are satisfied. Sales returns have historically
been immaterial.
F-10
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
WARRANTY
The Company warrants products sold to customers for up to three years
from shipment. A provision for estimated future warranty costs, which
historically have been low, is recorded upon shipment.
FOREIGN CURRENCY TRANSLATION
The financial statements of foreign subsidiaries are translated into U.S.
dollar equivalents in accordance with Statement of Financial Accounting
Standards No. 52. The Company's primary functional currency is the U.S. dollar.
Accordingly, translation adjustments and transaction gains or losses for
foreign subsidiaries that use the U.S. dollar as their functional currency are
recognized in consolidated income in the year of occurrence.
CONCENTRATION OF RISK
Financial instruments that potentially subject the Company to
concentrations of credit risk consist of accounts receivable and cash
equivalents.
The Company invests primarily in money market instruments and commercial
paper with maturities of three months or less. The investments are made through
high quality financial institutions, and investments are made only in those
securities which have an investment rating in the two most credit-worthy rating
categories.
The Company sells its products and services to a limited number of
customers (See Note 5).
The Company's revenues are primarily denominated in U.S. dollars, thus
the risks of foreign exchange fluctuations are generally not material.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The recorded amounts of cash, accounts receivable, accounts payable, and
accrued liabilities, as presented in the financial statements, approximate fair
value because of the short-term maturity of these instruments. The recorded
amount of long-term debt approximates fair value, as the actual interest rate
approximates current competitive rates.
F-11
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
EARNINGS PER COMMON AND COMMON EQUIVALENT SHARES
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128, "Earnings per Share"
("SFAS 128"), which specifies the computation, presentation and disclosure
requirements for earnings per share ("EPS"). SFAS 128 replaced the presentation
of primary and fully diluted EPS pursuant to Accounting Principles Board
Opinion No. 15, "Earnings Per Share", with the presentation of basic and
diluted EPS. Basic EPS excludes dilution and is calculated by dividing net
income by the weighted average number of common shares outstanding for the
period. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock. The Company adopted SFAS 128 in the quarter ended December
31, 1997 and has, as required by the statement, restated all prior period EPS
data.
INCOME TAXES
The Company provides for income taxes under the provisions of Statement
of Financial Accounting Standards 109. Deferred income taxes are provided under
the liability method and reflect the net tax effects of temporary differences
between the tax basis of assets and liabilities and their reported amounts in
the financial statements.
ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles 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 revenues and
expenses during the reporting period. Actual results may differ from those
estimates.
COMPREHENSIVE INCOME
As of January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS 130").
SFAS 130 establishes new rules for reporting and display of comprehensive
income and certain components of comprehensive income which are referred to as
"Other Comprehensive Income". The Company does not have any items of Other
Comprehensive Income; thus the adoption of SFAS No. 130 had no impact on the
Company's net income or stockholders' equity. During the years ended
December 31, 1998, 1997 and 1996, total comprehensive income amounts were
$4,237,000 $8,132,000 and $4,846,000, respectively, which are the same as net
income.
F-12
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
2. LONG-TERM DEBT AND NOTE PAYABLE TO SHAREHOLDER
Reliability maintains a loan agreement with Wells Fargo Bank Texas, N.A.
which permits the Company to borrow up to $4 million until December 31, 1999.
Interest is payable at the bank's prime rate minus 1/4% (7.5% at December 31,
1998). The unpaid principal of the note is due December 31, 1999. The loan
agreement provides for a revolving line of credit, secured by substantially all
assets of the Company which are located in the U.S., except for land and
buildings. The credit facility requires compliance with certain financial loan
covenants related to the Company's current ratio, debt service coverage and
funded debt to net income before income taxes plus non-cash items and interest
expense. The agreement prohibits the payment of cash dividends by the Company
unless otherwise agreed to by the bank. The Company was in compliance with the
financial requirements at December 31, 1998, and there were no balances
outstanding under the agreement at December 31, 1998 or 1997.
The Company's Singapore subsidiary maintains an agreement with a
Singapore bank that provides for an overdraft facility of 500,000 Singapore
Dollars (U.S. $303,000 at December 31, 1998) at the bank's prime rate plus 1%
(9.5% at December 31, 1998). There were no balances outstanding at December 31,
1998, but amounts utilized under letter of credit commitments totaled $198,000,
resulting in credit availability of $105,000 at December 31, 1998. The loan is
collateralized by substantially all assets of the subsidiary and requires
maintenance of a minimum net worth of the Singapore subsidiary. Payment of
dividends requires written consent from the bank, and continuation of the
credit facility is at the discretion of the bank.
Long-term debt at December 31, consisted of the following:
1998 1997
---- ----
(In thousands)
Mortgage payable; due in monthly installments of
$26,777 ($196,777 as explained below), including
interest at 9% $274 $1,961
Revolving line of credit (described above) - -
--- -----
274 1,961
Less current maturities 274 401
--- -----
Long-term debt due after one year $-0- $1,560
=== =====
F-13
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
The mortgage was payable in 180 equal monthly installments, including
interest at 9%. The Company began paying an additional principal payment of
$20,000 each month in 1997 and $170,000 each month in 1998. Current maturities
as of December 31, 1998 assume the Company will continue making the additional
$170,000 principal payment, resulting in the mortgage being paid in full on
March 1, 1999. The mortgage is collateralized by land and a building.
Interest paid on debt during 1998, 1997 and 1996 was $125,000, $288,000
and $224,000, respectively.
Interest income (expense) is presented net as follows:
1998 1997 1996
---- ---- ----
(In thousands)
Interest income $ 619 $222 $ 176
Interest (expense) (128 ) (288 ) (229 )
---- ---- ----
Interest income (expense), net $ 491 $(66 ) $ (53 )
==== ==== ====
The note payable to shareholder at December 31, 1998 represents the
balance due to BEST related to the acquisition of assets that was completed in
December 1998, net of certain accrued liabilities that the Company agreed to
pay on behalf of BEST (See Note 10). The note is due June 3, 1999 and bears
interest at 6%.
3. INCOME TAXES
The provision for income taxes is based on income before taxes, as
follows:
Geographic area 1998 1997 1996
--------------- ---- ---- ----
(In thousands)
United States $6,018 $ 9,695 $5,925
Foreign 446 2,839 1,533
Eliminations and corporate items 241 (290 ) (18 )
----- ------ -----
$6,705 $12,244 $7,440
===== ====== =====
F-14
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
The components of the provision for income taxes are as follows:
Current Deferred Total
------- -------- -----
1998 (In thousands)
----
Federal $1,946 $ 154 $2,100
Foreign 173 123 296
State 72 - 72
----- --- -----
$2,191 $ 277 $2,468
===== === =====
1997
----
Federal $3,059 $ 36 $3,095
Foreign 586 153 739
State 278 - 278
----- ---- -----
$3,923 $ 189 $4,112
===== ==== =====
1996
----
Federal $2,238 $(133 ) $2,105
Foreign 275 28 303
State 186 - 186
----- ---- -----
$2,699 $(105 ) $2,594
===== ==== =====
The differences between the effective tax rate reflected in the provision
for income taxes on income before taxes and the amounts determined by applying
the statutory U.S. tax rate of 34% are analyzed below:
1998 1997 1996
---- ---- ----
(In thousands)
Provision at statutory rate $2,280 $4,163 $2,530
State income taxes 48 183 123
Tax effects of:
Lower effective income tax rates related to
undistributed foreign earnings (138 ) (429 ) -
Foreign losses for which a tax benefit is
not available 281 201 -
Foreign tax benefit of export processing
exemption - - (63 )
Change in valuation allowance - (168 ) -
Other (3 ) 162 4
----- ----- -----
$2,468 $4,112 $2,594
===== ===== =====
F-15
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
The significant components of the Company's net deferred tax liabilities
and assets at December 31, are as follows:
1998 1997
---- ----
(In thousands)
Deferred tax liabilities:
Depreciation $ 507 $ 333
Other 127 53
---- ----
Total deferred tax liabilities 634 386
---- ----
Deferred tax assets:
Inventory reserves (248 ) (296 )
Accrued expenses not currently deductible (236 ) (301 )
Restructuring reserve (73 ) -
Other (15 ) (4 )
---- ----
Total deferred tax assets (572 ) (601 )
---- -----
Net deferred tax liability (asset) $ 62 $(215 )
==== ====
A valuation allowance was provided in 1996 since realization of a portion
of the deferred tax assets was uncertain. The reduction in the valuation
allowance in 1997 resulted from the pending expiration of the related foreign
tax credits. These foreign taxes were deducted as expenses prior to their
expiration, resulting in a partial realization of the deferred tax asset equal
to $168,000.
The Company's Singapore subsidiary had available an investment allowance
grant which provided a reduction in Singapore income taxes based on the
subsidiary's investment in certain fixed assets during the period from 1995
through 1998. The total tax benefit related to this grant that was recorded
during the four-year period ended December 31, 1998 is approximately $290,000.
Effective January 1997, the Company changed its policy with respect to
providing U.S. income taxes on undistributed earnings of a foreign subsidiary.
Changes in demand for services provided by the subsidiary necessitates
permanently reinvesting future earnings of the subsidiary. Deferred U.S. income
taxes have not been provided on $3,700,000 of earnings that were accumulated
after January 1, 1997. Earnings prior to January 1, 1997, on which U.S. taxes
have been provided, total $3,200,000.
F-16
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1998
Net income for 1996 included income of a subsidiary operating in Costa
Rica under an export processing tax exemption. The subsidiary is exempt from
Costa Rica income tax through 1999 and is 50% exempted for 2000 through 2003. A
tax benefit of $63,000 was recorded in 1996 related to income of the subsidiary
in 1996. The subsidiary operated at a loss in 1998 and 1997.
Net cash payments for income taxes during 1998, 1997 and 1996 were
$2,491,000, $3,357,000 and $3,351,000, respectively.
4. STOCKHOLDERS' EQUITY
STOCK DIVIDEND
On September 5, 1997, the Company's Board of Directors declared a two-
for-one stock split effected as a 100% stock dividend to be distributed on
October 6, 1997, to shareholders of record on September 22, 1997. The stock
split was recorded by a transfer of $30,000 from retained earnings to common
stock, representing $.01 value for each additional share issued. Weighted
average share and per share data, stock option information and employee stock
savings plan information have been restated to reflect the stock split.
Treasury stock information has not been restated because the stock split in the
form of a dividend did not apply to treasury stock.
TREASURY STOCK
In March 1997, the Company purchased 1,270,221 shares of its common stock
from a stockholder for $6.50 per share. Treasury stock may be used to issue
shares under the Company's 1997 Stock Option Plan ("Option Plan") or may be
used to fund the Company's contributions to its employee stock savings plan.
STOCK OPTIONS
In February 1997, the Company's Board of Directors adopted, and in April
1997 the shareholders approved, the Option Plan, under which 1,000,000 shares
of common stock were made available for future grants. The Option Plan permits
the granting of both incentive stock options, as defined under the Internal
Revenue Code, and non-qualified options to directors, executive officers and
other key employees of the Company and its subsidiaries. The term and vesting
of each option is determined by the Board of Directors. The term of each option
may not exceed 10 years for incentive stock options. The exercise price is the
fair market value of the Company's common stock on the date the option is
granted. Incentive stock options generally vest in three equal installments
beginning six months after the option award. The second and third installments
are on March 1, one and two years after the initial vesting date. Non-qualified
options vest on the date granted. All option awards encourage the recipients to
own shares of Common Stock by requiring optionees to own shares of company
stock in order to avoid the forfeiture of
F-17
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
certain of their unexercised options. The stock ownership inducements begin
approximately two years after the option grant date and increase in three to
five annual increments. Unexercised options terminate in installments if the
required number of shares of common stock is not owned on the specified date.
The number of shares available for future grant was 435,000 at December 31,
1998.
A summary of the Option Plan activity for the years ended December 31, is
as follows:
Weighted Average
Options Exercise Price
1997 ------- ---------------
----
Outstanding at beginning of year - $ -
Granted 424,000 5.92
Exercised (74,000 ) 3.50
-------
Outstanding at end of year 350,000 $6.43
======= ====
Weighted average fair value of
options granted $4.49
====
As of December 31, 1997, 135,000 of the outstanding options were
exercisable at a weighted average exercise price of $5.35 per share.
1998
----
Outstanding at beginning of year 350,000 $ 6.43
Granted 169,000 13.38
Exercised (59,000 ) 3.50
Expired or cancelled (28,000 ) 11.09
-------
Outstanding at end of year 432,000 $ 9.24
======= ====
Weighted average fair value of
options granted $ 8.52
====
F-18
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
The following table summarizes information about stock options
outstanding and exercisable at December 31, 1998:
Weighted Outstanding Exercisable
Average Re- Weighted Weighted
Number of maining Con- Average Number of Average
Exercise Options tractual Life Exercise Options Exercise
Price Outstanding in Years Price Exercisable Price
-------- ----------- ------------- ---------- ----------- ----------
$ 3.50 201,000 8.2 $ 3.50 142,000 $ 3.50
13.31 48,000 8.2 13.31 16,000 13.31
13.38 153,000 9.2 13.38 - 13.38
20.25 30,000 8.2 20.25 20,000 20.25
------- -------
432,000 $ 9.24 178,000 $ 6.26
======= ===== ======= =====
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS No. 123
SFAS 123 defines a fair value based method of accounting for employee stock
options or similar equity instruments. However, SFAS 123 allows the continued
measurement of compensation cost in the financial statements for such plans
using the intrinsic value based method prescribed by APB 25, provided that
certain pro forma disclosures are made of the net income or loss, assuming the
fair value based method of SFAS 123 had been applied. For purposes of the pro
forma disclosures presented below, the Company has computed the fair value of
all options granted during 1998 and 1997 using the Black-Scholes pricing model
and the following weighted average assumptions:
1998 1997
---- ----
Risk-free interest rate 5.60% 6.48 %
Expected lives 5.0 years 5.3 years
Expected volatility 72% 64 %
Expected dividend yield 0% 0 %
To estimate expected lives of options for this valuation, it was assumed
options would be exercised at varying schedules after becoming fully vested.
All options are initially assumed to vest. Cumulative compensation cost
recognized in pro forma net income with respect to options that are forfeited
prior to vesting will be adjusted as a reduction of pro forma compensation
expense in the period of forfeiture.
F-19
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. If the
Company had accounted for its stock-based compensation plan in 1998 and 1997 in
accordance with SFAS 123, the Company's net income and earnings per share would
have been reported as follows (in thousands, except per share data):
1998 1997
---- ----
Net income:
As reported $4,237 $8,132
===== =====
Pro forma $3,667 $7,232
===== =====
Earnings per share:
As reported - diluted $ .68 $ 1.23
===== =====
Pro forma - diluted $ .59 $ 1.09
===== =====
As reported - basic $ .69 $ 1.25
===== =====
Pro forma - basic $ .60 $ 1.11
===== =====
The pro forma disclosures above are not necessarily indicative of the
effects of applying SFAS 123 in future years.
5. SEGMENT INFORMATION
As of January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and
Related Information," ("SFAS 131") which requires segment information to be
reported using a management approach. SFAS 131's management approach is based
on reporting segment information the way management organizes segments within
the enterprise for making operating decisions and assessing performance. The
Company has restated its prior year segment disclosures to conform to the
requirements of SFAS 131.
The Company's operations consist of three segments: (1) the Testing
Products segment designs, manufactures and markets equipment used in the
testing and conditioning of integrated circuits by semiconductor manufacturers;
(2) the Services segment operates services facilities which condition and test
integrated circuits as a service to others; and (3) the Power Sources segment
designs, manufactures and markets power sources, primarily a line of DC-to-DC
power converters, which convert direct current voltage into a higher or lower
voltage.
The Company evaluates performance and allocates resources based on
operating income which is defined as income before interest income, interest
expense and income taxes.
F-20
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
Financial information by industry segment is as follows:
1998 1997 1996
---- ---- ----
(In thousands)
Revenues from external customers:
Testing Products $21,596 $23,464 $17,697
Services 9,249 20,312 12,990
Power Sources 2,698 3,444 5,073
Inter-segment revenues:
Testing Products - 1,823 649
Services 307 317 58
Eliminations (307 ) (2,140 ) (707 )
------ ------ ------
$33,543 $47,220 $35,760
====== ====== ======
Operating income (loss):
Testing Products $ 5,589 $ 8,012 $ 4,243
Services 2,149 4,975 3,098
Power Sources (546 ) (270 ) 603
Provision for restructuring of
Services operations (607 ) - -
General corporate expenses (371 ) (407 ) (451 )
------ ------ ------
$ 6,214 $12,310 $ 7,493
====== ====== ======
Total assets:
Testing Products $ 6,702 $13,393 $ 8,649
Services 9,177 10,927 8,205
Power Sources 2,058 2,191 2,580
General corporate assets 15,309 3,290 7,169
------ ------ ------
$33,246 $29,801 $26,603
====== ====== ======
Depreciation and amortization:
Testing Products $ 717 $ 538 $ 520
Services 1,125 (1) 970 811
Power Sources 74 105 107
------ ------ ------
$ 1,916 $ 1,613 $ 1,438
====== ====== ======
(1) Includes amortization of $16,000 in 1998
Capital expenditures:
Testing Products $ 445 $ 641 $ 368
Services 382 2,331 1,345
Power Sources 26 74 41
------ ------ ------
$ 853 $ 3,046 $ 1,754
====== ====== ======
F-21
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
General corporate assets, in each of the three years, consist of cash
investments that are not specifically identifiable to a segment and in 1998
assets held for sale of $2,193,000.
Financial information by geographic area is as follows:
1998 1997 1996
---- ---- ----
(In thousands)
Revenues from external customers:
United States $22,657 $28,027 $22,492
Singapore 8,188 15,749 8,195
Costa Rica 2,698 3,444 5,073
Inter-geographic revenues:
United States - 1,823 649
Singapore 307 317 58
Eliminations (307 ) (2,140 ) (707 )
------ ------ ------
$33,543 $47,220 $35,760
====== ====== ======
Property, plant and equipment, net:
United States $ 4,212 $ 6,957 $ 6,655
Singapore 4,495 2,857 1,674
Costa Rica 829 868 928
------ ------ ------
$ 9,536 $10,682 $ 9,257
====== ====== ======
Revenues are attributed to geographic areas based on the location of the
assets producing the revenues. Inter-segment sales and inter-geographic sales
of manufactured products are priced at cost plus a reasonable profit.
The Company provides products and services to companies in the electronics and
semiconductor industries, many of which are industry leaders. There are a
limited number of companies which purchase testing products and services sold
by the Company. The Company's four largest customers (see Note 11) accounted
for approximately 88%, 90% and 82% of consolidated revenues in 1998, 1997 and
1996, respectively. Accounts receivable are generally due within 30 days, and
collateral is not required due to the credit worthiness of the customers to
which the Company sells.
Accounts receivable at any point in time are concentrated in one or more of
the Company's significant customers, depending on shipments at that point in
time to a particular customer. Historically, the Company's bad debts have been
very low, an indication of the credit worthiness of the customers to which the
Company sells.
F-22
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
The Company's revenues are concentrated in the electronics industry.
However, the Company's customers operate in diverse markets and geographic
areas. Customers of the respective segments are indicated by an "x" in the
table. Revenues from major customers, as a percent of total revenues are as
follows:
Total Testing
Revenues Products Services
-------- -------- --------
1998
----
Customer A 34 % x
Customer B 29 x
Customer C 21 x
Customer D 4 x
1997
----
Customer A 29 % x
Customer B 19 x
Customer C 32 x
Customer D 10 x
1996
----
Customer A 32 % x
Customer B 14 x
Customer C 22 x
Customer D 14 x
F-23
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
6. EARNINGS PER SHARE
The following table sets forth the computation of diluted and basic
earnings per share (in thousands, except per share data):
1998 1997 1996
---- ---- ----
Numerator for basic and diluted
earnings per share - net income $4,237 $8,132 $4,846
===== ===== =====
Denominator:
Denominator for basic earnings per
share - weighted average shares
outstanding 6,111 6,500 8,486
Dilutive effect assuming conversion
of stock options (as determined by
the application of the treasury stock
method) 90 104 -
----- ----- -----
Denominator for diluted earnings per
share - adjusted weighted average
shares and assumed conversions 6,201 6,604 8,486
===== ===== =====
Earnings per share:
Diluted $ .68 $ 1.23 $ .57
===== ===== =====
Basic $ .69 $ 1.25 $ .57
===== ===== =====
Shares and earnings per share have been adjusted to reflect the two-for-
one stock split effected in the form of a dividend in September 1997.
There were 253,000, 242,000, 432,000 and 30,000 options to purchase
shares of common stock that were outstanding during the first two quarters of
1998, the third quarter of 1998, the fourth quarter of 1998 and the fourth
quarter of 1997, respectively, that were not included in the computation of
diluted earnings per share because including the options in the calculations
would have been anti-dilutive.
F-24
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
7. EMPLOYEE STOCK SAVINGS PLAN
The Company sponsors an Employee Stock Savings Plan (the "Plan"). United
States employees of the Company who have completed at least six months of
service become participants in the Plan. The Plan allows an employee to
contribute up to 15% of defined compensation to the Plan and to elect to have
contributions not be subject to Federal income taxes under Section 401(k) of
the Internal Revenue Code. The Company contributes a matching amount to the
Plan equal to 50% of the employee's contribution. The Company's matching
contribution is limited to 2% of the employee's defined compensation. The
Company also makes a voluntary contribution of an amount equal to 1% of the
defined compensation of all participants. Effective January 1, 1997, the
Company also contributes a profit sharing amount based on the consolidated
profits of the Company. The maximum profit sharing contribution is 5% of
compensation. The Company's contributions for matching, voluntary and profit
sharing contributions were $386,000 in 1998, $501,000 in 1997 and $129,000 in
1996. Employee contributions may be invested in Company stock or other
investment options offered by the Plan. The Company's contributions are
invested solely in Company stock, and vest with the employee over seven years.
In May 1992, the Company registered and reserved 500,000 shares of common
stock for sale to the Plan. The Plan purchased in the open market 2,043, 26,867
and 35,550 shares during 1998, 1997 and 1996, for an aggregate purchase price
of $25,000, $368,000 and $116,000, respectively. During 1998 and 1997, the Plan
purchased 15,625 and 33,110 shares, respectively, of stock from the Company for
an aggregate purchase price of $122,000 and $524,000, respectively. The
purchase price per share for treasury stock was the closing price on the day
prior to purchase by the Plan. At December 31, 1998, 195,000 reserved shares
remain unissued under the registration statement.
8. COMMITMENTS
The Company leases various manufacturing and office facilities under non-
cancelable operating lease agreements, expiring through 2003. Rental expense
for 1998, 1997 and 1996 was $321,000, $273,000 and $388,000, respectively.
Future minimum rental payments under operating leases in effect at
December 31, 1998 are: 1999 - $596,000; 2000 - $465,000; 2001 - $251,000; 2002
- - $133,000, and 2003 - $33,000.
The Company leases manufacturing and office space in its U.S. facility to
a third party under an agreement expiring in January 2001. Rental income for
1998, 1997 and 1996 was $179,000, $180,000 and $182,000, respectively. Future
income under the lease will be: 1999 - $179,000; 2000 - $179,000; and 2001 -
$15,000.
F-25
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
9. ACCRUED LIABILITIES
Accrued liabilities at December 31, consist of the following:
1998 1997
---- ----
(In thousands)
Payroll $2,490 $3,670
Other 555 756
----- -----
$3,045 $4,426
===== =====
10. ACQUISITION
On December 3, 1998, the Company acquired certain assets and assumed
certain liabilities from BEST. The assets acquired included equipment,
furniture and fixtures, contracts, work-in-progress, backlog, proprietary
rights, books and records, customer lists and goodwill. The liabilities assumed
consisted of employee-related obligations. The purchase price of approximately
$3.9 million consisted of (i) $1,000,000 payable in cash, (ii) a note payable
of $790,000, and (iii) 475,000 shares of the Company's common stock. The common
stock was unregistered and is subject to certain transfer restrictions. The
operations acquired are located in Austin, Texas and Singapore and are used to
operate burn-in and test services laboratories, providing such services to
integrated circuit manufacturers. This acquisition has been accounted for using
the purchase method of accounting. Accordingly, the assets acquired and
liabilities assumed were recorded at their estimated fair values as of the date
of acquisition. The principal assets acquired were $2.7 million of equipment.
The excess of the purchase price over the net identifiable assets acquired of
$1.2 million is being amortized over a seven year period on a straight-line
basis. The results of operations related to this acquisition have been included
in the Company's consolidated financial statements since December 3, 1998.
The following pro forma unaudited results of operations for the years
ended December 31, 1997 and 1998 assume the purchase of BEST had been
consummated as of January 1 of each year. The pro forma statements of
operations summary does not necessarily reflect the results as they would have
been if these combined companies had constituted a single entity during these
periods.
F-26
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
1998 1997
---- ----
(In thousands, except per share data) (Unaudited)
Revenues $50,371 $60,150
====== ======
Net income $ 7,950 $10,262
====== ======
Earnings per share:
Diluted $1.19 $1.45
Basic $1.21 $1.47
Shares used to compute per share information:
Diluted 6,683 7,079
Basic 6,563 6,975
11. SHUT-DOWN AND RESTRUCTURING OF FACILITIES AND ASSETS HELD FOR SALE
The Company's North Carolina services facility accounted for
approximately 4% and 10% of consolidated revenues in 1998 and 1997,
respectively, and provided service to one customer. The customer notified the
Company in January 1998 that it was necessary to reduce the output of DRAMs
burned-in and tested by the Company's Durham facility. The customer ceased
sending product and the Company shut down the facility in April 1998. The
Company recorded a $100,000 impairment reserve related to the land and building
located at the Durham facility in 1998 in order to state these assets at the
lower of carrying amount or fair value, less cost to sell. The land and a
building located in Durham are presented as assets held for sale in the
accompanying consolidated balance sheet. The assets held for sale are being
actively marketed, although no assurances can be given that they will be sold
during 1999. In connection with the shut-down of the facility, 46 Durham
employees were terminated. Severance and other related shut-down costs, which
were not material, were recorded in 1998, and it is currently estimated that
there will be no significant additional expenses related to the shut-down.
Services provided to Texas Instruments Incorporated accounted for
substantially all of the revenues of the Company's Singapore services facility.
On October 1, 1998, Micron Technology acquired the Texas Instruments facility
in Singapore and informed the Company that it would continue to utilize the
Company's burn-in services, but at a significantly reduced level. Texas
Instruments revenues at the Singapore facility accounted for 21% and 32% of
consolidated revenues for the years ended December 31, 1998 and 1997,
respectively.
F-27
<PAGE>
RELIABILITY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 1998
In connection with the decrease in volumes, 57 Singapore employees were
terminated and a $507,000 provision for restructuring was recorded in the
fourth quarter of 1998. The restructuring provision includes $207,000 for
severance costs paid to employees who were terminated during 1998; $100,000
related to disposal of excess equipment and $200,000 related to costs
associated with excess leased facilities.
12. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Summarized quarterly financial data are as follows (in thousands, except
per share amounts):
First Second Third Fourth
Quarter Quarter Quarter Quarter
------- ------- ------- -------
1998
----
Net sales $11,480 $ 9,143 $ 9,203 $ 3,717
Gross profit 5,617 5,293 4,973 1,330
Net income (loss) 1,787 (1) 1,847 1,305 (702 ) (2)
Earnings (loss) per share:
Diluted .29 .30 .21 (.11 )
Basic .29 .30 .21 (.11 )
1997
----
Net sales $ 6,691 $12,609 $13,494 $14,426
Gross profit 2,981 6,547 7,046 6,993
Net income 739 2,323 2,667 2,403
Earnings per share:
Diluted .09 .39 .43 .39
Basic .09 .39 .45 .40
(1) Net income for the quarter ended March 31, 1998 includes a $100,000
impairment reserve related to assets held for sale.
(2) The net loss for the quarter ended December 31, 1998 includes a $507,000
provision for restructuring of the Company's Singapore operations.
All per share amounts have been restated to give effect to a two-for-one
stock split effected as a stock dividend and the adoption of SFAS 128 (See
Notes 1 and 4).
F-28
<PAGE>
RELIABILITY INCORPORATED
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
Years Ended December 31, 1998, 1997 and 1996
(In thousands)
1998 1997 1996
---- ---- ----
Reserves for obsolete and excess inventory:
Reserves at beginning of year $ 871 $1,509 $ 626
Additions charged to costs and expenses 40 233 1,043
Amounts charged to reserve (136 ) (871 ) (160 )
---- ----- -----
Reserves at end of year $ 775 $ 871 $1,509
==== ===== =====
S-1
<PAGE>
RELIABILITY INCORPORATED
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
Not applicable.
PART III
In accordance with paragraph (3) of General Instruction G to Form 10-K,
Part III of this Report is omitted because the Company will file with the
Securities and Exchange Commission, not later than 120 days after the end of
1998, a definitive proxy statement pursuant to Regulation 14A involving the
election of directors.
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a) The following financial statements are filed as part of this report:
1. Consolidated Financial Statements and Supplementary Data.
Listed in the Index to Financial Statements provided in
response to Item 8 hereof (see p. F-1 for Index).
2. Financial Statement Schedule. Listed in the Index to
Financial Statements provided in response to Item 8 hereof
(see p. F-1 for Index).
(b) The following exhibits are filed as part of this report.
2.1. Asset Purchase
Agreement among Reliability Incorporated, BEST and Isam Qubain.
Reference is made to Exhibit 1 of the Company's Report on Form
8-K dated December 3, 1998.
3.1 Restated Articles of Incorporation (with amendment). Reference
is made to Exhibit 3 to the Company's Quarterly Report on
Form 10-Q for the quarter ended June 30, 1995.
3.2 Amended and Restated Bylaws. Reference is made to Exhibit 3 to
the Company's Quarterly Report on Form 10-Q for the quarter
ended June 30, 1997.
3.3 Amendment to Amended and Restated Bylaws. Reference is made to
Exhibit 3.3 to the Company's Quarterly Report on Form 10-Q for
the quarter ended September 30, 1997.
21. List of subsidiaries.
23. Consent of Independent Auditors, dated March 12, 1999, related
to Employee Stock Savings Plan and Trust.
23.1 Consent of Independent Auditors, dated March 12, 1999, related
to 1997 Stock Option Plan.
27
<PAGE>
RELIABILITY INCORPORATED
27. Financial Data Schedule.
(c) Reports on Form 8-K.
On December 17, 1998, the Company filed its report on Form 8-K,
dated December 3, 1998, with respect to its acquisition of assets
from Basic Engineering Services and Technology Labs, Inc. (Item 2
of the report). On February 11, 1999, the Company filed an amendment
to such Form 8-K, filing the required financial statements.
28
<PAGE>
RELIABILITY INCORPORATED
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
DATE: March 15, 1999
RELIABILITY INCORPORATED (Registrant)
BY /s/ Max T. Langley
Max T. Langley, Senior Vice President
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
DATE: March 15, 1999
BY /s/ Larry Edwards
Larry Edwards, Chairman of the Board of
Directors, President and
Chief Executive Officer
DATE: March 15, 1999
By /S/ Max T. Langley
Max T. Langley, Senior Vice President,
Chief Financial Officer
Principal Accounting Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the Company
and in the capacities and on the dates indicated.
/s/ Larry Edwards DATE: March 15, 1999
Larry Edwards, Director
/s/ W. L. Hampton DATE: March 15, 1999
W. L. Hampton, Director
/s/ John R. Howard DATE: March 15, 1999
John R. Howard, Director
/s/ Thomas L. Langford DATE: March 15, 1999
Thomas L. Langford, Director
/s/ A. C. Lederer, Jr. DATE: March 15, 1999
A. C. Lederer, Jr., Director
/s/ Philip Uhrhan DATE: March 15, 1999
Philip Uhrhan, Director
29
<PAGE>
RELIABILITY INCORPORATED
INDEX TO EXHIBITS
Exhibit Page
Number Description Number
- ------- ----------- ------
21. List of Subsidiaries. 31
23. Consent of Independent Auditors, dated March 12, 1999,
related to Employee Stock Savings Plan and Trust. 32
23.1 Consent of Independent Auditors, dated March 12, 1999,
related to 1997 Stock Option Plan. 33
27. Financial Data Schedule. 34
30
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
applicable SEC Form and is qualified in its entirety by reference to such
financial statements.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 15,702
<SECURITIES> 0
<RECEIVABLES> 2,178
<ALLOWANCES> 0
<INVENTORY> 1,301
<CURRENT-ASSETS> 20,194
<PP&E> 19,943
<DEPRECIATION> 10,407
<TOTAL-ASSETS> 33,246
<CURRENT-LIABILITIES> 5,035
<BONDS> 0
0
0
<COMMON> 9,340
<OTHER-SE> 18,237
<TOTAL-LIABILITY-AND-EQUITY> 33,246
<SALES> 33,543
<TOTAL-REVENUES> 33,543
<CGS> 16,330
<TOTAL-COSTS> 16,330
<OTHER-EXPENSES> 10,392
<LOSS-PROVISION> 607
<INTEREST-EXPENSE> (491)
<INCOME-PRETAX> 6,705
<INCOME-TAX> 2,468
<INCOME-CONTINUING> 4,237
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,237
<EPS-PRIMARY> .69<F1>
<EPS-DILUTED> .68<F1>
<FN>
<F1>SHARES AND EARNINGS PER SHARE FOR THE 1997 PERIODS (PRIOR YEAR) HAVE BEEN
ADJUSTED IN THE FINANCIAL STATEMENTS TO REFLECT A TWO-FOR-ONE STOCK SPLIT
EFFECTED IN THE FORM OF A DIVIDEND WHICH WAS EFFECTIVE AS OF SEPTEMBER 22,
1997.
</FN>
</TABLE>
RELIABILITY INCORPORATED
EXHIBIT 21
LIST OF SUBSIDIARIES
Name Place of Incorporation
---- ----------------------
RICR de Costa Rica, S.A. Costa Rica
Reliability Singapore Pte Ltd. Singapore
31
<PAGE>
RELIABILITY INCORPORATED
Exhibit 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration
Statement (Form S-8 No. 33-47803) pertaining to the Reliability Incorporated
Employee Stock Savings Plan and Trust of our report dated January 29, 1999,
with respect to the consolidated financial statements and schedule of
Reliability Incorporated included in the Annual Report (Form 10-K) for the year
ended December 31, 1998.
BY/s/ERNST & YOUNG LLP
Houston, Texas
March 12, 1999
32
<PAGE>
RELIABILITY INCORPORATED
Exhibit 23.1
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration
Statement (Form S-8 No. 333-26659) pertaining to the Reliability Incorporated
1997 Stock Option Plan of our report dated January 29, 1999, with respect to
the consolidated financial statements and schedule of Reliability Incorporated
included in the Annual Report (Form 10-K) for the year ended December 31, 1998.
BY/s/ERNST & YOUNG LLP
Houston, Texas
March 12, 1999
33
