<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 27, 1999
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition period from __________ to __________
Commission file number 1-8402
IRVINE SENSORS CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 33-0280334
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
3001 Redhill Avenue, Costa Mesa, California
(Address of principal executive offices)
92626
(Zip Code)
(714) 549-8211
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No[_]
As of June 27, 1999 there were 34,910,911 shares of Common Stock outstanding.
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
--------------------
IRVINE SENSORS CORPORATION
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 27, September 27,
1999 1998
----------- ---------------
(Unaudited)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 2,762,800 $ 1,310,400
Accounts receivable, net of allowances
of $72,300 in 1999 and $10,000 in 1998 1,774,100 1,766,100
Stock subscriptions receivable 2,301,600 -
Inventory 1,796,100 1,532,700
Prepaid expenses 263,700 193,500
------------ ------------
Total current assets 8,898,300 4,802,700
Equipment, furniture and fixtures, net 2,674,300 2,224,000
Other assets 92,800 38,000
------------ ------------
$ 11,665,400 $ 7,064,700
============ ============
Liabilities and shareholders' equity
Current liabilities:
Accounts payable $ 2,583,350 $ 1,570,800
Accrued expenses 646,600 622,400
Deferred revenues 106,900 50,000
Notes payable and current portion of
long-term debt 288,600 52,800
------------ ------------
Total current liabilities 3,625,450 2,296,000
Long-term debt 504,500 107,500
Deferred royalties payable - affiliated
company 826,200 826,200
Minority interest in consolidated
subsidiaries 2,397,400 1,488,000
------------ ------------
Total liabilities 7,353,550 4,717,700
------------ ------------
Shareholders' equity:
Preferred stock, $0.01 par value,
500,000 shares authorized;
6,437 shares Series B Convertible
Cumulative Preferred issued and
outstanding; aggregate liquidation
Preference of $198,100 50 50
3,745 shares Series C Convertible
Cumulative Preferred issued and
outstanding; aggregate liquidation
Preference of $213,900 50 50
3,900 and no shares Series D
Convertible Preferred Issued and
outstanding liquidation preference
of $390,000 50 50
Common stock, $0.01 par value, 40,000,000
shares authorized; 34,905,911 and
28,457,700 shares issued and outstanding 349,100 284,600
Common stock warrants and unit warrants;
97,000 and 162,000 outstanding - -
Paid-in capital 64,252,400 55,885,250
Employee retirement plan contributions (105,600) -
Accumulated deficit (60,184,200) (53,823,000)
------------ ------------
Total shareholders' equity 4,311,850 2,347,000
------------ ------------
$ 11,665,400 $ 7,064,700
============ ============
See Accompanying Condensed Notes to Consolidated Financial Statements.
</TABLE>
2
<PAGE>
IRVINE SENSORS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
13 Weeks Ended 39 Weeks Ended
-------------------------------------- --------------------------------------
June 27, June 28, June 27, June 28,
1999 1998 1999 1998
----------------- ------------- ----------------- -------------
<S> <C> <C> <C> <C>
Revenues :
Contract research & development $ 741,200 $ 1,828,000 $ 2,899,200 $ 5,074,200
Product sales 1,187,300 373,500 4,798,500 1,628,500
Other - 200,000 - 400,000
----------------- ------------- ----------------- -------------
Total revenues 1,928,500 2,401,500 7,697,700 7,102,700
----------------- ------------- ----------------- -------------
Cost and expenses:
Cost of contract revenues 977,800 1,349,000 2,764,200 4,162,100
Cost of product sales 1,446,900 588,000 4,137,100 1,604,900
General & administrative 2,404,000 950,100 4,460,500 2,162,400
Research and development 1,213,100 169,800 3,025,200 371,900
----------------- ------------- ----------------- -------------
6,041,800 2,979,900 14,387,000 8,751,300
----------------- ------------- ----------------- -------------
Loss from operations (4,113,300) (578,400) (6,689,300) (1,648,600)
Interest expense (35,300) (13,900) (66,100) (112,900)
Interest income 4,200 2,300 13,400 11,300
----------------- ------------- ----------------- -------------
Loss before minority interest
and provision for income taxes (4,144,400) (590,000) (6,742,000) (1,750,200)
Minority interest in loss of
subsidiaries 127,600 110,700 383,700 324,800
Provision for income taxes (1,200) - (2,800) (2,600)
----------------- ------------- ----------------- -------------
Loss before extraordinary item (4,018,000) (479,300) (6,361,100) (1,428,000)
Extraordinary item - debt
extinguishment - - - 1,146,100
----------------- ------------- ----------------- -------------
Net loss $ (4,018,000) $ (479,300) $ (6,361,100) $ (281,900)
================= ============= ================= =============
Basic and Diluted Earnings Per Share :
Loss before extraordinary item $ (0.13) $ (0.02) $ (0.18) $ (0.08)
----------------- ------------- ----------------- -------------
Extraordinary item $ - $ - $ - $ 0.05
----------------- ------------- ----------------- -------------
Net loss $ (0.13) $ (0.02) $ (0.18) $ (0.03)
----------------- ------------- ----------------- -------------
Weighted average number
of shares outstanding 29,882,800 24,967,700 34,910,900 23,306,600
================= ============= ================= =============
</TABLE>
See Accompanying Condensed Notes to Consolidated Financial Statements.
3
<PAGE>
IRVINE SENSORS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
39 Weeks Ended
---------------------------------------------------------------
June 27, 1999 June 28, 1998
---------------------------------------------------------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss $(6,361,100) $ (281,900)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation $ 669,550 $ 839,500
Loss on disposal of equipment 15,600 -
Non-cash employee retirement plan contribution 394,400 500,000
Minority interest in net loss of subsidiaries (383,700) (324,800)
Common stock issued to pay operating expenses 1,500 261,700
Increase in accounts receivable (8,000) (1,549,600)
Increase in inventory (263,400) (786,600)
(Increase) decrease in prepaid expenses and other assets (125,000) 678,000
Increase (decrease) in accounts payable and accrued
expenses 1,317,150 (3,258,800)
Increase (decrease) in deferred revenues 56,900 (106,100)
Increase in royalties accrued - affiliated company - 1,675,000 12,400 (3,734,300)
---------- ----------- ----------- -----------
Net cash used in operating activities (4,686,100) (4,016,200)
Cash flows from investing activities:
Capital facilities and equipment expenditures (358,000) (229,400)
Proceeds from equipment disposal - 37,800
---------- -----------
Net cash used in investing activities (358,000) (191,600)
Cash flows from financing activities:
Proceeds from stock sale by bank - 921,700
Proceeds from issuance of common stock & warrants 4,276,800 4,713,400
Sale of minority interest in subsidiary 2,332,300 48,400
Principal payments under notes payable (112,600) (2,327,200)
---------- -----------
Net cash provided by financing activities 6,496,500 3,356,300
----------- -----------
Net increase (decrease) in cash and cash equivalents 1,452,400 (851,500)
Cash and cash equivalents at beginning of period 1,310,400 1,639,300
----------- -----------
Cash and cash equivalents at end of period $ 2,762,800 $ 787,800
=========== ===========
Noncash investing and financing activities:
Principal payment of note payable by issuance
of common stock $ 280,400 $ 500,000
=========== ===========
Conversion of debentures to common stock $ - $ 250,000
=========== ===========
Conversion of preferred to common stock $ - $ 30,300
=========== ===========
Exchange of subsidiary stock $ 1,071,000 $ -
=========== ===========
Equipment financed with capital leases $ 745,400 $ -
=========== ===========
Stock sold on a subscription basis $ 2,301,600 $ -
=========== ===========
</TABLE>
See Accompanying Condensed Notes to Consolidated Financial Statements.
4
<PAGE>
IRVINE SENSORS CORPORATION
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - General
The information contained in the following Condensed Notes to Consolidated
Financial Statements is condensed from that which would appear in the annual
consolidated financial statements; accordingly, the consolidated financial
statements included herein should be reviewed in conjunction with the
consolidated financial statements and related notes thereto contained in the
1998 Annual Report to Shareholders of Irvine Sensors Corporation (the
"Company"). It should be understood that accounting measurements at interim
dates inherently involve greater reliance on estimates than at year end. The
results of operations for the interim periods presented are not necessarily
indicative of the results expected for the entire year.
The consolidated financial information as of June 27, 1999 and June 28, 1998
included herein is unaudited but includes all normal recurring adjustments
which, in the opinion of management of the Company, are necessary to present
fairly the consolidated financial position of the Company at June 27, 1999, and
the consolidated results of its operations and its consolidated cash flows for
the 13 and 39 week periods ended June 27, 1999 and June 28, 1998. Certain
reclassifications have been made to prior year's financial statements to conform
to the current year presentation.
The consolidated financial statements include the accounts of Irvine Sensors
Corporation and its subsidiaries, Novalog, Inc. ("Novalog"), MicroSensors, Inc.
("MSI"), Imagek, Inc. ("Imagek"), 3D Microelectronics, Inc. and 3D Microsystems,
Inc. All significant intercompany transactions and balances have been
eliminated in consolidation.
Note 2 - Related Party Transactions
In April 1980, the Company entered into an agreement with R&D Leasing Ltd.,
(RDL), a limited partnership in which the Company's Chairman and a Senior Vice
President are general partners with beneficial interests, to design an
electronic circuit, to develop certain fabrication processes and to build
equipment for testing electronic integrated circuits. In connection with the
development of the electronic test equipment under the RDL agreement, certain
other proprietary fabrication processes were developed to which RDL retained
ownership. Upon the occurrence of certain specified events, such as the use of
patented fabrication processes in connection with contracts, the agreement with
RDL provides that the Company will pay RDL a royalty fee based on a percentage
of revenues from sales of the basic devices using the processes created during
the development of this equipment. As of June 27, 1999 the Company had accrued
$826,200 in deferred royalties payable to RDL.
Note 3 - Series D Convertible Preferred Units
As referred to in the Company's Annual Report on Form 10-K for fiscal 1998
(see "Management's Discussion of Liquidity, Capital Resources and Impact of
Changing Prices"), the Company began the sale of Series D Convertible Preferred
Stock Units in a private placement to certain accredited investors in December
1997 and continued to accept subscriptions thereto through January 2, 1998, at
which time, the Company sold an additional 24,750 Units. The Company issued an
aggregate of 37,750 Units at a price of $100.00 per Unit and the net proceeds of
$3,284,100 from the sale of these securities were added to the Company's general
funds.
The Series D Convertible Preferred Stock Units consist of one share of
Convertible Preferred Stock, plus one five-year Warrant to purchase one share of
common stock of Novalog, Inc., a subsidiary of the Company and, one five-year
Warrant to purchase one share of common stock of Microsensors Inc., another
subsidiary of the Company. Each share of Convertible Preferred Stock is
convertible into common stock of the Company at the rate of 100 shares of Common
for each share of Preferred D, subject to adjustment for stock splits, reverse
stock splits and other similar recapitalization events. The Preferred D shares
have no voting rights, except as required by law, and bear no dividends. In
connection with this private placement of 37,750 units, the Company granted to
the placement agent a warrant to purchase up to 3,775 units of Series D
Convertible Preferred Stock units at a price of $110 per unit which was 110% of
the private placement price of the Units. The warrant is exercisable during the
period beginning the earlier of one year from January 2, 1998 or the date of
registration and expiring on January 2, 2003. Warrants to purchase 500 units
were exercised by the placement agent in May 1998. In addition, the placement
agent exercised warrants to purchase 1,000 units in the period between October
and December 1998, and warrants to purchase 500 units were exercised in March
1999. All of the proceeds were added to the Company's general funds.
5
<PAGE>
Note 4 - Employee Retirement Plan
On December 22, 1998, the Board of Directors authorized a contribution to the
Employee Stock Bonus Plan, (the Company's ERISA-qualified Employee Retirement
Plan). The amount represents an annual contribution for fiscal year 1999 and
was made in 330,000 shares of the Company's common stock, which have been issued
to the Plan. The value of the shares, $500,100, has been added to the Company's
paid-in capital, and the expense of the contribution is being amortized on a
quarterly basis during the fiscal year based on payroll in each quarterly
period. The unamortized portion of the contribution has been recorded in a
contra-equity account.
Note 5 - Minority Interest in Subsidiaries
During the first quarter of fiscal 1999, holders of 1,125,000 shares of
common stock of Novalog exercised warrants to exchange these shares for 587,500
shares of common stock of the Company resulting in an increase of $781,900,
which is net of losses previously allocated to minority interest, in total
shareholder's equity and a corresponding decrease in minority interest in
consolidated subsidiary. In the second quarter of fiscal 1999, the Company
purchased (or acquired pursuant to warrant exercise) an additional 530,000
shares of common stock of Novalog resulting in an increase of $441,600, which is
net of losses previously allocated to minority interest, in total shareholder's
equity and a corresponding decrease in minority interest in consolidated
subsidiaries of $441,600.
During the first quarter of fiscal 1999, Imagek issued 25,900 shares of its
Series A Convertible Preferred Stock (the "Series A Preferred") in a Private
Placement. The Series A Preferred bears no yield, has a priority in liquidation
and is convertible into common stock of Imagek, at the election of the holder,
at the rate of 10 common shares for each 1 share of Series A Preferred tendered
for conversion. The net proceeds of $324,900 resulting from this transaction
were added to Imagek's general funds and are reflected in the consolidated cash
position of the Company. In the second quarter of fiscal 1999, Imagek issued an
additional 58,000 shares of its Series A Preferred in a Private Placement. The
net proceeds of $830,000 were added to Imagek's general funds and are reflected
in the consolidated cash position of the Company. These transactions resulted
in a corresponding increase in minority interest in consolidated subsidiaries of
$1,154,900 as of March 28, 1999.
During the third quarter of fiscal 1999, Imagek issued 110,000 shares of its
Series B Convertible Preferred Stock (the "Series B Preferred") in a Private
Placement. The Series B Preferred bears no yield, has a priority in liquidation
and is convertible into common stock of Imagek, at the election of the holder,
at the rate of 16-2/3 common shares for each 1 share of Series B Preferred
tendered for conversion. The net proceeds of $1,070,364 resulting from this
transaction were added to Imagek's general funds and are reflected in the
consolidated cash position of the Company. This transaction resulted in a
corresponding increase in minority interest in consolidated subsidiaries of
$1,070,364 as of June 27, 1999.
As referred to in the Company's Annual Report on Form 10-K for fiscal 1998
(see "Note 2 - Issuance of Common and Preferred Stock"), the Company sold Series
D Convertible Preferred Stock Units in a private placement to certain accredited
investors in December 1997 and January 1998. The Series D Convertible Preferred
Stock Units consist of, among other rights, one five-year warrant to purchase
one share of common stock of MSI, a subsidiary of the Company. During the
second quarter of fiscal 1999, holders of 125,000 shares of Series D Convertible
Preferred Stock Units exercised warrants attached to the Units to purchase
125,000 shares of common stock of MSI. The net proceeds of $125,000 were added
to the Company's general funds and are reflected in the consolidated cash
position of the Company. The transaction resulted in an increase in minority
interest in consolidated subsidiaries of $125,000 as of March 28, 1999.
Note 6 - Inventories
Inventories consist of the following:
<TABLE>
<CAPTION>
June 27, September 27,
1999 1998
----------- -------------
(Unaudited)
<S> <C> <C>
Work in process $1,687,300 $1,435,400
Finished goods 108,800 97,300
---------- ----------
Total $1,796,100 $1,532,700
========== ==========
</TABLE>
6
<PAGE>
Note 7 - Stock Subscriptions Receivable
During the second quarter of fiscal 1999, the Company sold 267,670 units
consisting of two shares of unregistered common stock of the Company, one two-
year warrant to purchase one share of common stock of Imagek owned by the
Company and one three-year warrant to purchase one common share of MSI owned by
the Company. Through June 27, 1999, net proceeds of $752,000 from the sale of
these units had been received and added to the Company's general funds.
During the third quarter of fiscal 1999, the Company sold 4,000,000 shares of
unregistered common stock of the Company. At June 27, 1999, net proceeds of
$3,148,400 from the sale of these units had been received and added to the
Company's general funds, and an additional $2,301,600 of the aforementioned
units were subscribed. The proceeds associated with these subscribed units were
received by the Company subsequent to June 27, 1999.
Note 8 - Earnings Per Share
As the Company had net losses from continuing operations for the 13 and 39
week periods of fiscal 1999 and 1998, basic and diluted net loss per share are
the same. Basic and diluted earnings per share as shown herein applicable to
common stockholders includes $465,300 for the non-cash imputed dividend related
to the beneficial conversion feature on 24,750 Units of the Series D Convertible
Preferred stock in the second quarter of fiscal 1998. The beneficial conversion
is computed as the difference between the quoted market price of a share of
common stock on date of issue and the conversion price times all shares of
preferred stock sold and under option. The imputed dividends are a non-cash,
one-time charge based on the immediate conversion feature.
Basic and diluted net loss per common share for the 13 and 39 week periods
of fiscal 1999 and 1998 were calculated as follows:
<TABLE>
<CAPTION>
13 Weeks Ended 39 Weeks Ended
----------------------------------- -------------------------------
June 27, June 28, June 27, June 28,
1999 1998 1999 1998
------------- ----------------- ------------- -------------
<S> <C> <C> <C> <C>
Net loss $ (4,018,000) $ (479,300) $ (6,361,100) $ (281,900)
Preferred stock imputed dividend - - - (465,300)
------------- ----------------- ------------- -------------
Net loss available to Common Stkhldrs $ (4,018,000) $ (479,300) $ (6,361,00) $ (747,200)
============= ================= ============= =============
Basic & diluted earnings per share:
As previously reported
Loss before extraordinary item $ (0.13) $ (0.03) $ (0.18) $ (0.06)
Extraordinary item - - - 0.09
------------- ----------------- ------------- -------------
Net income (loss) $ (0.13) $ (0.03) $ (0.08) $ 0.03
============= ================= ============= =============
Restated
Loss before extraordinary item $ (0.13) $ (0.02) $ (0.18) $ (0.08)
Extraordinary item - - - 0.05
------------- ----------------- ------------- -------------
Net loss $ (0.13) $ (0.02) $ (0.18) $ 0.03
============= ================= ============= =============
Weighted average number of
shares outstanding 29,882,800 24,967,700 34,910,900 23,306,600
============= ================= ============= =============
</TABLE>
Note 9 - Notes Payable
At September 27, 1998 notes payable consisted of capitalized lease
obligations of $160,300. During the 39 week period ended June 27, 1999 the
Company entered into an additional $745,400 of capitalized lease obligations.
Principal payments of $112,600 have been made, resulting in notes payable of
$793,100 at June 27, 1999.
7
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
-----------------------------------------------------------------------
of Operations.
--------------
Except for historical information contained herein, this Report contains
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. The
forward-looking statements contained herein are subject to certain risks and
uncertainties, including such factors, among others, as the pace at which new
markets develop, the ability of the Company to introduce new products and ramp
up manufacturing in a timely manner while controlling its operating expenses and
the response of competitors, many of whom are bigger and better financed than
the Company. In addition, the scope of the Company's growth plan may introduce
unanticipated risks and financial requirements. The availability of external
financing for the Company's plan cannot be assured and is subject to numerous
factors including those unrelated to the Company's performance such as economic
and market conditions. Further, the Company's financial performance prior to
substantial growth in revenues may not permit additional equity or debt
financing. Accordingly, investors are advised to assess forward-looking
statements contained herein with caution. Additional information on various
risk and uncertainties potentially affecting the Company's results are discussed
below and are contained in publicly filed disclosures available through the
Securities and Exchange Commission EDGAR database (http://www.sec.gov) or from
the Company's Investor Relations Department.
Results of Operations
Revenues
The Company achieved revenues of $1,928,500 in the third quarter of fiscal
1999 and $7,697,700 for the 39-week period ended June 27, 1999, compared to
$2,401,500 and $7,102,700 respectively, in the prior fiscal year.
Product sales increased $813,800, 218% and $3,170,000, 195% in the 13 and 39-
week periods, respectively in this fiscal year compared to similar periods last
year. The increase in product revenue is primarily attributable to the sales
activity of the Company's subsidiary, Novalog, Inc. Novalog has experienced an
increased demand in Novalog's products, specifically the patented NOVALOG
SIRCommIII wireless infrared control circuit chip. Significant customers such
as Citizen Electronics have placed large purchase orders with Novalog.
Contract research and development revenue declined $1,086,800, 59% and
$2,175,000, 43% in the 13 and 39-week periods, respectively in this fiscal year
compared to similar periods last year. The Company's 1998 earnings included a
significant contract with Advanced Technology Products LLC. (ATPL), which was
not expected to reoccur. The $400,000 of other revenues in the 39-week period
in 1998 represented the sale of intellectual property rights to ATPL in
connection with the research and development contract. The terms of the
intellectual property rights transaction and the relationship of ATPL to the
Company are described in the Company's September 27, 1998 10-K. Also
contributing to the decline in research and development revenue was the
Company's reallocation of resources to the development stage subsidiaries, which
resulted in late contract awards.
Cost of Revenues
Cost of contract research and development revenues as a percentage of
contract revenues increased from 70% and 82% in the 13 and 39-week periods ended
June 28, 1998, respectively to 132% and 95% in the 13 and 39-week periods ended
June 27, 1999, respectively. The Company's overhead cost pool has grown
slightly since 1998 as a result of higher revenue in the first two quarters of
1999 compared to similar periods in 1998. However, due to slow bookings and
other factors described above, the Company experienced a decline in revenue
during the third quarter of 1999 compared to the third quarter of 1998 and
compared to prior quarters of 1999. Therefore, the balance of unapplied
overhead and the resulting cost of contract revenue as a percentage of contract
revenue was higher in the third quarter of 1999 compared to the third quarter of
1998.
Cost of product sales as a percentage of product revenue was 122% and 86% in
the 13 and 39-week periods ended June 27, 1999, respectively compared to 157%
and 99% in the 13 and 39-week periods ended June 27, 1998. Novalog, Inc., the
primary source for cost of product sales, has reduced overhead costs and has
negotiated prices that more closely reflect die yields.
8
<PAGE>
General and Administrative
The Company's general and administrative expenses (G & A) increased
$1,848,100 in the 39-week period ended June 27, 1999 compared to the comparable
period in 1998. The increase is attributed to several factors. The 1998 G & A
expenses did not include the costs of the Company's two start-up operations,
Imagek and the MicroElectronics Products Division (MPD). Additionally, the
Company's audit and tax fees have increased significantly in the 39-week period
ended June 27, 1999 compared to similar periods in 1998.
Research and Development
The Company increased its expenditures in research and development by
$1,043,300 during the 13 week period and $2,653,300 during the 39-week period as
compared to the prior year, primarily as a result of increased product
development activities in two subsidiaries. Imagek's research expenditures for
developing its Electronic Film System exceeded the prior year by $1,344,000
during the 39-week period. MSI exceeded its prior year research expenditures by
$927,500 during the current year 39-week period in developing its microgyro and
universal capacitive readout chip.
Interest Expense/Interest Income
Interest expense in the third quarter of fiscal 1999 decreased $46,800 from
the corresponding period of last fiscal year due to the retirement of the
Company's bank loan. Mitigating this factor, however, is the increased expense
of $21,000 during the third quarter of 1999 compared to 1998 due to the interest
expense related to capital leases entered into to finance capital asset
acquisitions.
Liquidity and Capital Resources
At June 27, 1999, the Company had cash and cash equivalents of $2,762,800,
working capital of $5,428,650 and a current ratio of 2.5 to 1. During the nine-
month period ended June 27, 1999 the Company obtained additional equity funding
and debt to equity conversions aggregating approximately $6.6 million. In
connection with the Company's acquisition of capital assets, the Company entered
into capital lease financing agreements totaling $745,400, which resulted in an
increase in current financing payments due of $288,600.
At June 27, 1999, the Company's backlog was approximately $5.3 million
compared to $2.5 million at June 28, 1998. Of the 1999 backlog, $1 million is
due to an outstanding purchase order for 40,200 application specification
integrated circuits (ASICs).
The Year 2000
The year 2000 issue is the result of computer programs using two digits,
rather than four to define the applicable year. Programs that have time-
sensitive software may recognize a date using "00" as the calendar year 1900
rather than the calendar year 2000. Systems that do not properly recognize such
information could generate erroneous data or cause a system to fail.
The Company views the year 2000 problem as an important business issue that
could affect its business, as well as that of its suppliers and customers.
Until the last several years, the Company's business has primarily been R&D, and
its more recent business activities have not involved the shipment of products
or components with embedded controllers that might be affected by the Year 2000
problem. However, Irvine Sensors customers may have integrated the Company's
devices into higher level products or systems affected by the Year 2000 problem,
and, to the extent that its customers' business may be disrupted, the Company's
business and that of its subsidiaries is also subject to potential disruptions
from such a cause. The Company does not presently believe this risk to be
material.
In addition, the Company does utilize a number of computerized information
systems to accurately process date-sensitive information across its operation,
and any of these programs or computer systems are potential sources of year 2000
system failures. Irvine Sensors is working to identify and resolve such
potential impacts on the Company's computerized systems. The Company has been
advised by its vendors that their systems will be compliant with year 2000
issues in a timely manner.
9
<PAGE>
Finally, the Company's general business operations could be adversely
impacted were there to be material interruptions either in the country's power
infrastructure, banking or financial systems or the procurement activities of
its customers. The Company's facilities do not contain elevators that might be
subject to such disruptions. Irvine Sensors has not completed its assessment of
the full scope of these risks and the actions necessary to address them, but the
Company currently believes that the actions that the Company can take to address
such concerns are limited, at best, and therefore, that the costs of addressing
these issues will not have a material adverse impact on the Company's financial
position. Nevertheless, if Irvine Sensors and third parties upon which it
relies are unable to address this issue in a timely manner, it could result in a
material financial risk to the Company. In order to mitigate the various risks
associated with the Year 2000 problem, Irvine Sensors is working with its
suppliers and customers, including the disclosure and exchange of relevant
information, to proactively manage the calendar transition. Furthermore, the
Company is investigating the costs of installing backup power generation systems
both to mitigate against possible disruptions resulting from the Year 2000
problem as well as power interruptions resulting from other causes.
Factors that may affect Future Results
The future operating results of the Company are highly uncertain, and the
following factors should be carefully reviewed in addition to the other
information contained in this annual report on Form 10-K and in other public
disclosures of the Company.
Shift in Business Focus. Since commencing operations, ISC has developed
technology, principally under government research contracts, for various
defense-based applications. Since 1992, ISC has been implementing a fundamental
shift in its business, broadening its focus to include commercial exploitation
of its technology. This shift has been manifested by the purchase and later shut
down of the IBM cubing line, the "carve-out" of the Novalog, MSI and Imagek
subsidiaries and the development of various stacked-memory products intended for
military and aerospace markets. To date, these changes have developed new
revenue sources but have not yet produced sustained profitability. Because of
this limited and not-yet successful history, there can be no assurances that
ISC's present and contemplated future products will be widely accepted in
commercial marketplaces.
Financing Needs. Although the Company believes that it has adequate
liquidity for its present level of operations, ISC and its subsidiaries have
developed business plans for several emerging product areas based on its
technologies. The product development and market introduction costs of these
products cannot presently be fully funded from internal cash flow. There can be
no assurances that ISC or its subsidiaries will be able to locate external
financing for their business plans on acceptable terms.
Nasdaq Listing Requirements. ISC's Common Stock is publicly traded on the
Nasdaq SmallCap Market. Effective February 23, 1998, new and more restrictive
standards became effective for listing maintenance on this market. Prior to the
implementation of these new regulations, ISC briefly dropped below the pending
standards due to the loss associated with its Vermont plant closure and had to
establish to the satisfaction of the Nasdaq staff that it had met the new
standards in order to retain its listing. While the Company was able to meet
this requirement, there can be no assurances that the Company will be able to
maintain its compliance in the future. If ISC were to fail to meet the
maintenance requirements for listing on Nasdaq in the future and the price of
ISC's Common Stock was below $5 at such time, such securities would come within
the definition of "penny stock" as defined in the Securities Exchange Act of
1934, as amended (the "Exchange Act") and be covered by Rule 15g-9 of the
Exchange Act. That Rule imposes additional sales practice requirements on
broker-dealers who sell such securities to persons other than established
customers and accredited investors. From transactions covered by Rule 15g-9,
the broker-dealer must make a special suitability determination for the
purchaser and receive the purchaser's written agreement to the transaction prior
to the sale. Consequently, Rule 15g-9, if it were to become applicable, would
affect the ability or willingness of broker-dealers to sell ISC's securities and
therefore would affect the ability of shareholders to sell their securities in
the public market and the Company's ability to finance its business plans.
Dependence on Defense Contract Revenues. Although ISC has been shifting
its focus to include commercial exploitation of its technology, it expects to
continue to be dependent upon research and development contracts with federal
agencies and their contractors for a substantial, but diminishing portion of its
revenues for the foreseeable future. General political and economic conditions,
which cannot be accurately predicted, directly and indirectly affect the
quantity and allocation of expenditures by federal agencies. Even the timing of
incremental funding commitments to existing, but partially funded contracts can
be affected by such factors. Therefore, cutbacks in the federal budget could
have a material adverse
10
<PAGE>
impact on ISC's results of operations as long as research and development
contracts remain an important element of its business.
Market Acceptance of New Products. Both ISC and its subsidiaries are
focused on markets that are emerging in nature and potentially subject to rapid
growth. Market reaction to new products in such circumstances can be difficult
to predict. There can be no assurance that such markets on a sustained basis
will favorably accept the present or future products of ISC or its subsidiaries.
In addition, because ISC has a limited history of competing in the intensely
competitive commercial electronics industry, there is no assurance that it will
successfully be able to develop, manufacture and market additional commercial
product lines or that such product lines will be accepted in the commercial
marketplace.
Patents and Proprietary Right Protection; Infringement. ISC believes that
its ultimate success, and that of its subsidiaries, will depend, in part, on the
strength of its existing patent protection and the additional patent protection
that it and its subsidiaries may acquire in the future. As of the date hereof,
ISC owns 41 U.S. patents and 9 foreign patents and has other patent applications
pending before the U.S. Patent and Trademark Office as well as various foreign
jurisdictions. Although ISC believes many of these patents to be fundamental in
nature, there can be no assurance that any existing or future patents will
survive a challenge or will otherwise provide meaningful protection from
competition. Furthermore, there is also no assurance that ISC or its
subsidiaries will have the financial resources to provide vigorous defense or
enforcement of patents.
Protection of Proprietary Information. ISC and its subsidiaries treat
technical data as confidential and rely on internal nondisclosure safeguards,
including confidentiality agreements with employees, and on laws protecting
trade secrets, to protect proprietary information. There can be no assurance
that these measures will adequately protect the confidentiality of the
proprietary information of ISC or its subsidiaries or that others will not
independently develop products or technology that are equivalent or superior to
those of ISC or its subsidiaries. ISC or its subsidiaries may receive in the
future communications from third parties asserting that the products of ISC or
its subsidiaries infringe the proprietary rights of third parties. There can be
no assurance that any such claims would not result in protracted and costly
litigation. There can be no assurance that any particular aspect of the
technology owned by ISC or its subsidiaries will not be found to infringe the
products of other companies. Other companies may hold or obtain patents or
inventions or may otherwise claim proprietary rights to technology useful or
necessary to ISC's or its subsidiaries' business. The extent to which ISC or
its subsidiaries may be required to seek licenses under such proprietary rights
of third parties and the cost or availability of such license, cannot be
predicted. While it may be necessary or desirable in the future to obtain
licenses relating to one or more of its proposed products or relating to current
or future technologies, there can be no assurance that ISC or its subsidiaries
will be able to do so on commercially reasonable terms.
Government Rights. Whatever degree of protection, if any, is afforded ISC
or its subsidiaries through its patents, proprietary information and other
intellectual property, this protection will not extend to government markets
that utilize certain segments of ISC's technology. The government has the right
to royalty-free use of technologies which ISC has developed under government
contracts, including portions of ISC's stacked circuitry technology. ISC is
free to commercially exploit such government-funded technologies and may assert
its intellectual property rights to seek to block other non-government users
thereof, but there can be no assurances of success in such endeavors.
Competition. ISC and its subsidiaries face strong competition. Most
competitors have considerably greater financial, marketing and technological
resources than does ISC or its subsidiaries. There is no assurance that ISC or
its subsidiaries will be able to compete successfully with such other companies.
Dependence on Suppliers. ISC and its subsidiaries extensively use
suppliers in the manufacture of their products. At the projected level of
operations, both ISC and its subsidiaries have identified sources that are
believed to be adequate to meet identified needs. However, there is no
assurance that ISC or its subsidiaries will be able to cover changing
manufacturing needs in the future. Failure to do so will have a material
adverse impact on the operations of ISC and its subsidiaries.
Possible Technological Advances. ISC and its subsidiaries are in
industries characterized by continuing technological development and,
accordingly, will be required to devote substantial resources to improve already
technologically complex products. Many companies in these industries devote
considerably greater resources to research and development than does ISC or its
subsidiaries. Developments by any of these companies could have a materially
adverse effect on ISC.
11
<PAGE>
Dependence on Key Personnel. ISC and its subsidiaries will depend to a
large extent on the abilities and continued participation of certain key
employees. The loss of key employees could have a material adverse effect on
the businesses of ISC and its subsidiaries. ISC and its subsidiaries have
adopted employee Stock Option Plans designed to attract and retain key
employees. The value of such options to the subsidiaries will be strongly tied
to the timing of any future IPOs, of which there can be no assurance, and there
can, accordingly, be no guarantee of the efficacy of such options in retaining
key employees. Neither ISC nor its subsidiaries presently maintain "key man"
insurance on any key employees. ISC believes that, as its activities and those
of its subsidiaries increase and change in character, additional, experienced
personnel will be required to implement the business plans of ISC and its
subsidiaries. Competition for such personnel is intense and there is no
assurance that they will be available when required, or that ISC or its
subsidiaries will have the ability to attract them.
The above factors are not intended to be inclusive. Failure to satisfactorily
achieve any of the Company's objectives or avoid any of the above or other risks
would likely have a material adverse effect on the Company's business and
results of operations.
12
<PAGE>
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
-----------------
None.
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits.
Exhibit 27. Financial Data Schedule
(b) Reports on Form 8-K.
None
13
<PAGE>
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Irvine Sensors Corporation
----------------------------------
(Registrant)
Date: August 5, 1999 By: /s/ John J. Stuart, Jr.
----------------------------------
John J. Stuart, Jr.
Chief Financial Officer
(Principal Accounting Officer)
14
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM SECOND
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<FISCAL-YEAR-END> SEP-26-1999
<PERIOD-START> SEP-28-1998
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<RECEIVABLES> 1,774,100
<ALLOWANCES> 10,000
<INVENTORY> 1,796,100
<CURRENT-ASSETS> 8,898,300
<PP&E> 10,608,900
<DEPRECIATION> 7,934,600
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<CURRENT-LIABILITIES> 3,625,450
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<COMMON> 349,100
<OTHER-SE> 4,118,400
<TOTAL-LIABILITY-AND-EQUITY> 11,665,400
<SALES> 4,798,500
<TOTAL-REVENUES> 7,697,700
<CGS> 4,137,100
<TOTAL-COSTS> 14,387,000
<OTHER-EXPENSES> (13,400)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 66,100
<INCOME-PRETAX> (6,358,300)
<INCOME-TAX> 2,800
<INCOME-CONTINUING> (6,361,100)
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