<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
Form 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For Quarter ended December 31, 1997 COMMISSION FILE NUMBER 0-1817
NETWORKS ELECTRONIC CORP.
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(exact name of registrant as specified in its charter)
CALIFORNIA 95-1770469
- ------------------------------- -------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation of organization) Number)
9750 De Soto Avenue, Chatsworth, California 91311
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(Address or principal executive offices)
(818) 341-0440
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(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
-------- --------
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the close of business of
CLASS 1,671,221
- ----------------------------- -------------------------------
Common Stock - $.25 par value Outstanding at February 6, 1998
1
<PAGE> 2
PART I
FINANCIAL INFORMATION
Item 1. Financial Statements
NETWORKS ELECTRONIC CORP.
CONDENSED BALANCE SHEETS
(UNAUDITED)
December 31, 1997 and June 30, 1997
<TABLE>
<CAPTION>
Dec. 31, June 30,
1997 1997
---------- ----------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 453,899 $ 185,144
Trade accounts receivable, net 987,947 707,709
Other receivables 48,850 79,354
Inventories, net 1,384,513 1,189,802
Prepaid expenses and deposits 80,864 39,832
Deferred income taxes 24,000 24,000
---------- ----------
Total current assets 2,980,073 2,225,841
---------- ----------
PROPERTY AND EQUIPMENT, AT COST:
Land and improvements 146,664 131,773
Building and improvements 3,616,086 3,438,250
Machinery and equipment 4,384,970 4,367,555
---------- ----------
8,147,720 7,937,578
Less accumulated depreciation 5,786,817 5,723,480
---------- ----------
Property and equipment, net 2,360,903 2,214,098
---------- ----------
DEFERRED INCOME TAXES,
NON-CURRENT PORTION 20,471 119,571
DEFERRED CHARGES, NET 70,257 81,152
---------- ----------
Total assets $5,431,704 $4,640,662
========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
2
<PAGE> 3
NETWORKS ELECTRONIC CORP.
CONDENSED BALANCE SHEETS
(UNAUDITED)
December 31, 1997 and June 30, 1997
<TABLE>
<CAPTION>
Dec. 31, June 30,
1997 1997
---------- ----------
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Notes payable and current
maturities of long-term debt $ 290,000 $ 220,000
Note payable, related party -
current portion 100,000 100,000
Accounts payable 622,856 479,384
Customer advances and deposits 2,834 2,834
Curr. portion of pre-petition debt:
Adjudication award payable 40,488 41,951
Accrued pension liability 275,000 279,079
Other payables 29,997 29,997
Income taxes payable 2,000 -
Other accrued expenses 229,297 190,262
---------- ----------
Total current liabilities 1,592,472 1,343,507
---------- ----------
LONG-TERM DEBT:
Long-term debt, less current
maturities 3,177,653 3,042,193
Accrued pension liability 369,088 366,209
---------- ----------
Commitments and Contingencies - -
---------- ----------
STOCKHOLDERS' EQUITY (DEFICIENCY IN ASSETS):
Common stock, par value $.25 per
share; authorized 10,000,000
shares, issued and outstanding
1,671,221 shares 417,805 417,805
Additional paid-in capital 280,985 280,985
Accumulated deficit (8,373) (412,111)
Stock subscriptions receivable (14,063) (14,063)
Pension liability adjustment (383,863) (383,863)
---------- ----------
Total stockholders' equity
(deficiency in assets) 292,491 (111,247)
---------- ----------
Total liabilities and stockholders'
equity (deficiency in assets) $5,431,704 $4,640,662
========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE> 4
NETWORKS ELECTRONIC CORP.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
December 31, December 31,
1997 1996 1997 1996
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Sales $1,564,322 $ 978,629 $2,786,764 $1,908,012
Cost of sales 1,081,505 738,327 1,938,131 1,420,068
---------- ---------- ---------- ----------
Gross profit 482,817 240,302 848,633 487,944
Selling, adminis-
trative and other
operating expenses 131,516 159,597 291,924 337,205
---------- ---------- ---------- ----------
Operating income 351,301 80,705 556,709 150,739
Other income (exp.):
CRA debt forgiveness - 11,231 - 87,170
Rental income, net 45,729 - 91,319 -
Interest and non-
operating expenses,
net (75,746) (48,766) (142,390) (100,263)
---------- ---------- --------- ----------
Income before
income taxes 321,284 43,170 505,638 137,646
Provision for
income taxes 64,100 17,200 101,900 55,200
---------- ---------- --------- ----------
Net income $ 257,184 $ 25,970 $ 403,738 $ 82,446
========== ========== ========= ==========
Net income
per share - basic $ .15 $ .02 $ .24 $ .05
========== ========== ========= ==========
Average weighted
number of shares
outstanding - basic 1,671,221 1,671,221 1,671,221 1,671,221
========== ========== ========= ==========
Net income
Per share - diluted $ .15 $ .09 $ .24 $ .05
========== ========== ========= ==========
Average weighted
number of shares
outstanding - diluted 1,671,971 1,672,346 1,671,971 1,672,346
========== ========== ========== ==========
The accompanying notes are an integral part of these financial statements.
</TABLE>
4
<PAGE> 5
NETWORKS ELECTRONIC CORP.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Six Months Ended Six Months Ended
December 31, December 31,
1997 1996
---------------- -----------------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 403,738 $ 82,446
--------- ---------
Adjustments to reconcile net income
to net cash used in
operating activities:
Non-cash items included
in net income:
Depreciation and
amortization 74,232 60,144
Deferred income taxes 99,100 54,400
Changes in:
Receivables (249,734) 234,193
Inventories (194,711) (102,177)
Prepaid expenses and deposits (41,032) (58,525)
Accounts payable and
accrued expenses 181,044 (150,466)
Customer advances and deposits 20,684
Income taxes 2,000 -
Accrued pension liability (1,200) 1,000
--------- ---------
Total adjustments (130,301) 59,253
Net cash provided by
operating activities 273,437 141,699
--------- ---------
</TABLE>
The accompanying notes are an integral part of these financial statements.
5
<PAGE> 6
NETWORKS ELECTRONIC CORP.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Six Months Ended Six Months Ended
December 31, December 31,
1997 1996
----------------- ------------------
<S> <C> <C>
Cash flows from investing activities:
Capital expenditures $(210,142) $(617,433)
--------- ---------
Net cash used in
investing activities (210,142) (617,433)
--------- ---------
Cash flows from financing activities:
Proceeds from long-term borrowings 320,625 493,966
Proceeds from notes payable,
related parties - 122,000
Mortgage debt reduction (60,000) (60,000)
Other payments of long-term debt (55,165) -
Payments on notes payable,
related parties - (47,332)
--------- ---------
Net cash provided by
financing activities 205,460 508,634
--------- ---------
Net increase in
cash and cash equivalents 268,755 32,900
Cash and cash equivalents
at beginning of period 185,144 99,114
--------- ---------
Cash and cash equivalents
at end of period $ 453,899 $ 132,014
========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Income taxes paid $ 800 $ 800
========= =========
Interest paid $ 132,244 $ 101,226
========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
6
<PAGE> 7
NETWORKS ELECTRONIC CORP.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1997
1. BASIS OF PRESENTATION
In the opinion of the Company, the accompanying unaudited financial
statements contain all adjustments necessary to present fairly its
financial position and the results of its operations and cash flows for
the periods shown.
Certain prior period amounts have been reclassified to conform to the
current period's presentation.
The preparation of the Company's financial statements in conformity with
generally accepted accounting principles necessarily requires management
to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates. The results of operations for
the respective three and six month periods are not necessarily
indicative of the results to be expected for a full year of operations.
2. INVENTORIES
Inventories are valued at the lower of cost (FIFO) or market. The
inventories at December 31, 1997 and June 30, 1997 consisted of the
following:
<TABLE>
<CAPTION>
December 31, June 30,
1997 1997
--------- ----------
<S> <C> <C>
Raw materials $ 123,918 $ 93,843
Work in process 824,506 523,711
Finished goods and components 646,089 752,248
--------- ----------
1,594,513 1,369,802
Less reserve for obsolescence (210,000) (180,000)
--------- ----------
Total $1,384,513 $1,189,802
========== ==========
</TABLE>
7
<PAGE> 8
NETWORKS ELECTRONIC CORP.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1997
3. DEFERRED CHARGES
----------------
Costs associated with the lease of space at the Company's facility in
Chatsworth (see Note 8 below) in the amount of $78,647 and loan fees of
$10,000 pertaining to additional financing obtained in March 1997 are
being amortized over periods ranging from approximately two to five
years. Accumulated amortization of these costs at December 31, 1997 and
June 30, 1997 amounted to $18,390 and $7,495, respectively.
4. LONG-TERM DEBT
--------------
At December 31, 1997 and June 30, 1997, the Company's long-term debt
consisted of the following:
<TABLE>
<CAPTION>
December 31, June 30,
1997 1997
------------ ------------
<S> <C> <C>
Note payable to bank, secured by
deed of trust on land and building,
principal payable in monthly
installments of $10,000 through
June 2000, with interest payable at
a reference rate plus 2.25% (10.75%
at both December 31, 1997 and
June 30, 1997, respectively). A
balloon payment is due in June 2000. $1,642,528 $1,702,528
Note payable to Community Redevelopment
Agency ("CRA"), non-interest bearing
construction loan, secured by second
deed of trust on land and building, no
principal payments required through
August 2001, with level monthly principal
payments of $4,604 applicable over
20 years through August 2021. 1,105,000 1,105,000
</TABLE>
8
<PAGE> 9
NETWORKS ELECTRONIC CORP.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1997
4. LONG-TERM DEBT (Continued)
<TABLE>
<CAPTION>
December 31, June 30,
1997 1997
----------- -----------
<S> <C> <C>
Notes payable to lessee, secured by
assignment of rents, principal payable
in monthly installments of $7,663
through March 2002, with interest
payable at annual rates ranging
from 7.0% to 10.0% blended rate 9.23%
at December 31, 1997). 390,819 185,635
Note payable to financial institution,
secured by machinery and equipment,
principal payable in monthly installments
of $5,667 along with interest at a
reference rate plus 2.75% (11.25%
at both December 31, 1997 and June
30, 1997, respectively) through
March 1999, with a balloon payment
for the balance also due
in March 1999. 302,500 237,500
Note payable to finance company,
secured by telephone equipment,
payable in monthly installments of
$656 including interest at an annual
rate of approximately 17.3%. Matures
in October 1999. 10,627 14,453
Note payable to vendor, secured by office
equipment, payable in monthly
installments of $395 including interest
at an annual rate of 12.4%.
Matures in December 2001. 16,179 17,077
---------- ----------
3,467,653 3,262,193
Less current maturities 290,000 220,000
---------- -----------
Total $3,177,653 $3,042,193
========== ==========
</TABLE>
9
<PAGE> 10
NETWORKS ELECTRONIC CORP.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1997
5. NOTES PAYABLE, RELATED PARTIES
(a) In January 1995, the Company received a $152,000 loan from the
estate of its former president and chief executive officer, secured by
specific machinery and equipment. The loan was being repaid in equal
monthly principal installments of $4,222 (plus interest at 10%) over a
three year period. A loan fee of $2,000 was charged to consummate the
transaction. In March 1997, the Company obtained other financing and
paid off the remaining principal balance of $42,222. Interest expense on
this note during the six months ended December 31, 1996 was $3,346.
(b) In August 1996 the Company's vice president loaned the Company
$100,000 at an annual interest rate of 13%, secured by the Company's
accounts receivable. The loan maturity date has been extended through
December 1998, with interest payable monthly. Interest expense on this
loan during the six months ended December 31, 1997 and 1996 amounted to
$6,552 and $4,630, respectively.
(c) In September 1996 a director advanced the Company $22,000 for a fee
of $200. The money was subsequently repaid by the Company in October
1996.
6. STOCK OPTION PLAN
The Company's Board of Directors adopted the Networks Electronic Corp.
1996 Stock Incentive Plan (the "1996 Plan"), providing for the grant of
up to 100,000 shares of the Company's common stock to directors,
officers, employees, and consultants of the Company. The 1996 Plan was
submitted and approved by the shareholders of the Company at the annual
meeting of shareholders held on December 13, 1996. Subject to receipt of
a permit from state securities regulators 9,000 options have been issued
to employees at the company under the 1996 Plan. These options were
issued at market on November 21, 1997.
7. INCOME TAXES
During the six months ended December 31, 1997, the Company reduced its
income tax provision by approximately $102,000, corresponding to a
reduction in valuation allowance applied against the Company's net
deferred tax benefit. This reduction reflects the increased likelihood
of the Company utilizing its net operating loss carryforward.
10
<PAGE> 11
NETWORKS ELECTRONIC CORP.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1997
8. LEASE AGREEMENT
In March 1997, the Company leased out approximately 35,000 square feet
of its Chatsworth facility. The lease agreement calls for monthly base
rent to be $17,850, with approximately 2 1/2 months free and a cost of
living increase every 18 months over the initial 62 month lease period.
The tenant also reimburses the Company for pro-rata utilities, property
taxes, and insurance. The lessee has an option to extend the original
lease term for an additional 60 months. Net rental income for the six
months ended December 31, 1997 was $91,319.
Additionally, the tenant reimbursed the Company for $23,175 in costs
incurred in connection with negotiating the lease arrangement,
contributed $100,000 toward the Company's cost of constructing
improvements to its Chatsworth property, and loaned the Company $288,000
at an annual interest rate of 10% to fund additional improvements. In
December 1997, the tenant loaned the Company another $130,000 at an
annual interest rate of 7% to fund roof repairs. At December 31, 1997
and June 30, 1997, the outstanding aggregate balance on the loans was
$390,819 and $185,635, respectively. The loans are being amortized
monthly over 5 years (with level principal payments currently totaling
$7,663), with the monthly loan payment netted against the lessee's rent.
9. FORGIVENESS OF DEBT
During the six months ended December 31, 1996, the Community
Redevelopment Agency ("CRA") disbursed funds in the amount of
approximately $581,136 for the retrofit and repair of the Company's
damaged building at its Chatsworth site. The damage was sustained as a
result of the Northridge Earthquake in January 1994. Of this commitment,
15% or approximately $87,170 was a grant and was recorded as forgiveness
of debt income for the period. By June 30, 1997, the entire $1,300,000
CRA commitment was expended (including a second phase in the amount of
$500,000 pertaining to the tenant lease agreement effective March 1997),
resulting in cumulative forgiveness of debt income of $195,000.
11
<PAGE> 12
NETWORKS ELECTRONIC CORP.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Results of Operations
Company sales for the six months ended December 31, 1997 increased 46% to
$2,787,000 from $1,908,000 for the comparable period of the prior year. Bearing
Division sales, comprising approximately 48% of the current sales mix, increased
by 24%, while Ordnance Division sales jumped 75%. The large increase in sales in
the Ordnance Division was due primarily to shipments pertaining to devices for
which the Company recently qualified.
The company believes that based on existing backlogs and increased capacity this
higher level of sales activity as compared to the same period for the prior year
is likely to be sustained throughout the remainder of the current fiscal year.
The increase in sales volume now being achieved is reflected in the overall
backlog of orders, which at approximately $4,200,000, is up approximately
$1,500,000 from year ago levels. This is the second consecutive year that total
backlogs have increased by such amount.
Gross profits during the six months ended December 31, 1997 improved to 30.5%
from 25.6% during the six months ended December 31, 1996. Margins in the
Ordnance Division increased significantly as a result of efficiencies in
production, while Bearings margins, under pressure from cost increases incurred
as a result of capacity limitations caused by increased demand, were down when
compared to the same period a year before. Bearings margins, however, for the
six months ended December 31, 1997 have improved as production schedules have
been optimized and production capacity significantly enhanced.
Selling, Administrative and other costs declined by 13% (approximately $45,000)
compared to the six month period ended December 31, 1996, due mostly to a
decrease in legal and professional fees and to the increased involvement of
executive and administrative personnel in the manufacturing process. However,
the possibility of continued sales growth in the coming quarters, along with the
Company's ongoing wage normalization policy, could serve to push General &
Administrative expenses higher in the months ahead.
Operating income during the six months ended December 31, 1997 exceeded
$556,000, an increase of $406,000 from the prior year. The current figure
represents a return on revenue of approximately 20% as compared to approximately
8% for the six month period ended December 31, 1996. For the latest quarter, the
return on revenue was approximately 22%. This positive trend, complemented by
the growth in new orders, provides further evidence that the Company has exited
its stabilization phase and has entered a new growth phase, in keeping with
Management's long-range reorganization plan.
12
<PAGE> 13
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Results of Operations (Continued)
Other Income derived from the lease of a portion of the Chatsworth building
amounted to $91,000 during the six months ended December 31, 1997, and based on
continued performance by the tenant of its obligations under the lease it is
expected to approximate $180,000 annually through at least March 2002. $87,000
in non-recurring income from debt forgiveness during the six months ended
December 31, 1996 arose from the Community Redevelopment Agency's commitment to
fund earthquake repairs.
Interest expense was significantly higher (about 42%) for the six month period
ended December 31, 1997 as compared to the prior year, reflecting additional
borrowing required to cover increased raw material purchases and outside
production. Average aggregate borrowing (including an increase in non-interest
bearing funding from the Community Redevelopment Agency of approximately
$600,000 to a total of $1,105,000) was up by approximately $1,100,000 (46%).
Despite the increase in debt, the effective annual interest rate actually
declined from 8.5% to 8.2%. Management is attempting to obtain improved
financing, through refinancing the building loans or obtaining a working capital
line of credit.
Liquidity and Capital Resources
The Company's working capital at December 31, 1997 was $1,390,000 compared to
$880,000 at June 30, 1997. The $510,000 improvement in working capital was
largely the result of pre-tax income earned in the six month period ended
December 31, 1997. While short-term operating liquidity has improved the company
expects to pay down approximately $250,000 for a pension plan payment from cash
on hand and this will impact liquidity at least through the end of the third
quarter, but Management expects the cash generated from the rental for a full
year and increased gross profit from higher sales to be sufficient to meet its
obligations and short and long term capital requirements.
The Company is working to refinance the building and replace the existing term
loan with Wells Fargo. Management expects that transaction to yield sufficient
funds to meet the Company's working capital needs for the medium term.
13
<PAGE> 14
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Factors That May Affect Future Results and Financial Condition
Potential risks and uncertainties that could affect the Company's future
operating results and financial condition include, without limitation, the
following factors:
History of Losses; Variability of Operating Results
The Company emerged from bankruptcy protection in November 1994. Despite
historical losses, the Company experienced its first operating profit in four
years during the year ended June 30, 1995, in the amount of approximately
$47,000, and recorded operating profits during the years ended June 30, 1996 and
1997 in the amounts of approximately $175,000 and $235,000, respectively.
Nevertheless, the Company's revenues and operating results have varied
substantially from period to period. There can be no assurance that the Company
will be profitable in the future or that future revenues and operating results
will not also vary substantially. Management has expended and continues to
expend substantial time and resources in attempting to resolve problems arising
from the Company's financial condition and to restore confidence in the Company.
Although the research and development expenditures of the Company have
increased, its financial condition limits its ability to engage in large-scale
research and development. Also, the Company's financial condition has limited
the assurance that the Company will be profitable in the future or that future
revenues and operating results will not also vary substantially.
Future profits, if any, will depend upon various factors, including, but not
limited to, management's ability to restore confidence in the Company, continued
market acceptance of the Company's current products, the Company's ability to
successfully manufacture its products, the ability of the Company to develop
distribution and marketing channels and develop and introduce new products or to
develop new markets for its existing products and the successful implementation
of its planned marketing strategies. If the Company is not able to achieve its
operating and business objectives, the Company may find it necessary to reduce
its expenditures for sales, marketing, and research and development, or
undertake other such actions as may be appropriate, and may be otherwise unable
to achieve its goals or continue its operations.
14
<PAGE> 15
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Factors That May Affect Future Results and Financial Condition
(Continued)
Competition
Certain of the Company's existing and potential competitors have substantially
greater financial, marketing and other resources than the Company. These
competitors have also been able to market their products successfully to the
Company's existing and potential customers in the defense and aerospace
industries. Increased competition could result in price reductions, reduced
margins and loss of market share, all of which could materially adversely affect
the Company. The Company has determined to follow a strategy of continuing
product development to the extent permitted by the financial resources of the
Company to protect its competitive position to the extent practicable. There can
be no assurance that the Company will be able to maintain its position in the
field or continue to compete successfully against current and future sources of
competition or that the competitive pressures faced by the Company will not
adversely affect its profitability or financial performance.
Technological Change
The markets for specialized bearings and ordnance products are characterized by
advances in technology. Accordingly, the Company's ability to compete in those
markets may depend in large part on its success in enhancing its existing
products and in developing new products. There can be no assurance that the
Company will succeed in such efforts or that any of its products will not be
rendered obsolete or uneconomical by technological advances made by others.
Dependence on Key Customers
During the six month period ended December 31, 1997, sales to Textron Systems
constituted approximately 26% of the Company's sales. Sales to the Department of
Defense accounted for approximately 17% of Company sales for the six month
period ended December 31, 1996. A significant decline in sales of any of these
key customers could adversely affect the Company. Additionally, export sales
(denominated in U.S. dollars) accounted for approximately 14% of sales revenue
by the Company for the six months ended December 31, 1997.
15
<PAGE> 16
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Factors That May Affect Future Results and Financial Condition
(Continued)
Dependence upon Defense Industry
The Company has been supplying components for United States defense programs for
over forty years. Reliance upon defense programs has certain inherent risks,
including the uncertainty of economic conditions, dependence on Congressional
appropriations and administrative allotment of funds, changes in governmental
policies that may reflect military and political developments and other factors
characteristic of the defense industry. The Company is unable to predict the
impact of decreases or shifts in defense appropriations for programs in which
the Company's products are incorporated.
Product Liability and Risk Management
As a manufacturer of ordnance products and specialized bearings for the defense
and aerospace industries, the Company is subject to the risk of claims arising
from injuries to persons or property. The Company maintains both general
liability insurance and product liability insurance. Although the Company has
instituted quality control procedures that it believes produce products of the
highest quality, the Company may become subject to future proceedings alleging
defects in its products.
No Earthquake Insurance
The Company's principal executive offices are located in a facility owned by the
Company in Chatsworth, California - an area which was damaged in the 1994
Northridge, California earthquake. The Company does not currently carry
insurance against earthquake-related risks. The Company suffered approximately
$1.2 million in damages, costs and renovations to its facility resulting from
that earthquake, and recovered only approximately $384,000 from insurers as a
result of insured flood damage caused by the earthquake.
Key Personnel
The Company's success is highly dependent on the efforts and abilities of its
Chairman, David Wachtel, and key members of staff. The loss of services of Mr.
Wachtel or any of these key members could have a material adverse effect on the
Company. The company does not maintain key man life insurance on Mr. Wachtel or
any other employee.
16
<PAGE> 17
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Factors That May Affect Future Results and Financial Condition
(Continued)
Control of Company
The Mihai D. Patrichi Trust (the "Trust") presently owns of record approximately
47.3% of the Company's outstanding voting stock. Accordingly, the Trust is able
to control the election of a majority of the directors, and, therefore, the
business and affairs of the Company and approve or disapprove any corporate
action submitted to a vote of the Company's shareholders, in each case,
regardless of how other shareholders of the Company may vote. The provisions of
the Trust provide that the trustees act in a prudent matter to dispose of the
Trust's interest in the Company. In the matter of In Re: Mihai D. Patrichi Trust
(Case No. BP03796), now pending in the Superior Court of California for the
county of Los Angeles, Michael Patrichi, one of the beneficiaries of the Trust,
is attempting to remove and replace the co-trustees of the Trust, Ileana Wachtel
and Rodica Patrichi. Sale by the Trust of its interest in the Company would
effect a change in the control of the Company. Sales of substantial amounts of
Common Stock in the public market under Rule 144 or otherwise, or even the
potential for such sales, could adversely affect the prevailing market prices
for the Common Stock and could impair the ability to raise capital through the
sale of its equity securities.
Volatility of Workload
To remain profitable, the Company is highly dependent on its ability to maintain
a suitably sized staff of qualified technical personnel commensurate with a
fluctuating volume of work. New contracts often arise at unscheduled or
unanticipated times. The Company endeavors to maintain adequate staff to respond
to these unscheduled opportunities. If the Company overestimates its projected
workload, the resulting financial burden can reduce profitability. Occasionally,
the Company is faced with the opposite problem - a shortage of suitable
technical personnel - or the funds to pay premium rates to obtain the necessary
skilled labor that is in short supply, and is unable to timely perform
contracts, potentially resulting in cost overruns or late delivery penalties.
17
<PAGE> 18
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Factors That May Affect Future Results and Financial Condition
(Continued)
Contracts
The Company generates substantially all of its revenues pursuant to procurement
contracts for custom designed or manufactured bearings or ordnance products. The
ability of the Company to generate additional revenues will depend upon its
ability to obtain additional contracts. Substantially all of the Company's
contracts are on a fixed-fee basis. Accordingly, the Company is subject to the
risk of cost overruns. Because the Company manufactures ordnance and specialized
bearings for the defense and aerospace industries, the Company is subject to
extremely stringent quality control standards and testing. These standards are
implemented through internal operational quality control procedures of the
Company and through customer audits. Furthermore, lot acceptance test procedures
("LATs") are required by the Company's customers. These LATs include
environmental testing and detonation and non-detonation tests. Generally, the
Company's ordnance products are manufactured in batches and then subjected to
LATs under standards that result in rejection of an entire manufactured batch if
a single unit fails. From time to time, the Company has experienced LATs
failures resulting from human error or technical problems. Occurrence of LATs
failures of this type on large contracts could adversely impact the revenues of
the Company and no assurance can be given that such failures will not occur in
the future.
Governmental Regulation
The Company's operations are subject to, and substantially affected by,
extensive federal, state and local laws, regulations, orders and permits, which
govern environmental protection, health and safety, zoning and other matters.
These regulations may impose restrictions on the Company's operations that could
adversely affect the Company's results, such as limitations on the expansion of
metals plating facilities of the Company, and limitations on or banning disposal
of hazardous waste generated by the Company's operations. Because of heightened
public concern, companies in the metals plating business, including the Company,
may become subject to judicial and administrative proceedings involving federal,
state or local agencies. These governmental agencies may seek to impose fines on
the Company or to revoke or deny renewal of the Company's waste generation and
disposal permits or licenses for violations of environmental laws or regulations
or to require the Company to remediate environmental problems resulting from its
operations, all of which could have a material adverse effect on the Company.
The Company may also be subject to actions brought by individuals or community
groups in connection with the permitting or licensing of its operations, any
alleged violations of such permits and licenses, or other such matters.
18
<PAGE> 19
NETWORKS ELECTRONIC CORP.
PART II
OTHER INFORMATION
Item 2. Shareholders Stock Information
Through January 4, 1993, Networks Electronic Corp.'s stock was traded in NASDAQ
OVER-THE-COUNTER MARKETS and was listed in NATIONAL MARKET ISSUES under NWRK.
Subsequent to that date, due to certain size and activity requirements, the
stock of Networks Electronic Corp. was removed from trading on the NASDAQ
national market system. The stock is currently traded on the OTC Electronic
Bulletin Board.
Item 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of Shareholders for Networks Electronic Corp. took place on
Friday, December 5, 1997.
Four of the Company's directors, namely, David Wachtel (Chairman of the Board),
Glenn Linderman, Rodica Patrichi, and Jack Friery (Corporate Secretary) were
re-elected and will continue to act in their same capacities in the ensuing
year.
Actual votes cast at the meeting were as follows: David Wachtel - 1,488,022
votes for, 14,482 votes withheld, Glenn Linderman - 1,491,869 votes for, 10,635
votes withheld, Rodica Patrichi - 1,490,325 votes for, 12,179 votes withheld,
and Jack Friery - 1,491,869 votes for, and 10,635 votes withheld.
No other matters were voted on by shareholders at the meeting.
At a Board of Directors meeting held on November 21, 1997 Jack Friery, an
attorney specializing in the areas of public contracts and employment law, was
elected as Corporate Secretary.
In a Board of Directors meeting held subsequent to the Annual Meeting of
Shareholders Ileana Wachtel (David Wachtel's wife) was re-appointed as a
Director of the Corporation.
Item 6. Exhibits and Reports on Form 8-K
Reports on Form 8-K: There were no reports on Form 8-K filed for the three
months ended December 31, 1997.
19
<PAGE> 20
NETWORKS ELECTRONIC CORP.
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.
NETWORKS ELECTRONIC CORP.
(Registrant)
BY: DAVID WACHTEL
---------------------------
DAVID WACHTEL
Chairman of the Board,
Chief Executive Officer,
President, Chief Financial
Officer
Date: February 6, 1998
20
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE
SHEET AND STATEMENT OF OPERATIONS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENT.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 453,899
<SECURITIES> 0
<RECEIVABLES> 1,036,797
<ALLOWANCES> 5,000
<INVENTORY> 1,384,513
<CURRENT-ASSETS> 2,980,073
<PP&E> 8,147,720
<DEPRECIATION> 5,786,817
<TOTAL-ASSETS> 5,431,704
<CURRENT-LIABILITIES> 1,592,472
<BONDS> 3,546,741
0
0
<COMMON> 417,805
<OTHER-SE> (125,314)
<TOTAL-LIABILITY-AND-EQUITY> 5,431,704
<SALES> 1,564,322
<TOTAL-REVENUES> 1,610,051
<CGS> 1,081,505
<TOTAL-COSTS> 1,213,021
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 75,746
<INCOME-PRETAX> 321,284
<INCOME-TAX> 64,100
<INCOME-CONTINUING> 257,184
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 257,184
<EPS-PRIMARY> .15
<EPS-DILUTED> .15
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