<PAGE> 1
U.S. 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 MARCH 31, 2000
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 0-10902
INTERFACE SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
MICHIGAN 38-1857379
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5855 INTERFACE DRIVE, ANN ARBOR, MICHIGAN 48103
(Address of principal executive offices)
(734) 769-5900
(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. [ X ] Yes [ ] No
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date:
Common Stock, no par value, 4,686,432 shares as of April 30, 2000.
1
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INTERFACE SYSTEMS, INC.
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
Page No.
--------
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets at March 31, 2000
and September 30, 1999 3
Consolidated Statements of Operations for the Quarter
and Six Month Periods Ended March 31, 2000 and 1999 4
Consolidated Statements of Cash Flows for the
Six Months Ended March 31, 2000 and 1999 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations 7
Item 3. Quantitative and Qualitative Disclosures
About Market Risk 9
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders 9
Item 5. Other Information 9
Item 6. Exhibits and Reports on Form 8-K 10
SIGNATURES 10
</TABLE>
2
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PART 1 - FINANCIAL INFORMATION
Item 1. Financial Statements
INTERFACE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
March 31, September 30,
2000 1999
------------- ------------
(unaudited)
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 931,201 $ 1,575,139
Accounts receivable, net 2,655,961 3,689,511
Refundable income taxes -- 6,723
Inventories 527,499 915,977
Current portion of note receivable 6,751 --
Prepaid expenses and other 311,172 303,676
------------ ------------
Total current assets 4,432,584 6,491,026
Property and equipment, net 2,407,446 3,188,071
Goodwill, net 696,266 789,140
Note Receivable 262,972 --
Other assets 32,713 55,194
------------ ------------
$ 7,831,981 $ 10,523,431
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 877,718 $ 912,018
Accrued expenses 1,132,866 1,140,155
Deferred revenue 472,027 431,252
Current portion of long-term debt 50,200 50,200
------------ ------------
Total current liabilities 2,532,811 2,533,625
Long-term debt 45,633 70,633
Stockholders' equity:
Common stock, no par value, 12,500,000 shares authorized;
4,686,432 and 4,539,529 shares issued and outstanding at
March 31, 2000 and September 30, 1999, respectively 11,799,884 11,324,418
Cumulative translation adjustment (56,106) (53,117)
Accumulated deficit (6,490,241) (3,352,128)
------------ ------------
Total stockholders' equity 5,253,537 7,919,173
------------ ------------
$ 7,831,981 $ 10,523,431
============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE> 4
INTERFACE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Quarter ended Six months ended
March 31, March 31,
2000 1999 2000 1999
---- ---- ---- ----
(unaudited) (unaudited)
<S> <C> <C> <C> <C>
Net revenues $ 2,975,201 $ 4,862,042 $ 6,394,575 $ 10,073,228
Cost of revenues 591,852 2,066,374 1,959,428 4,167,813
------------ ------------ ------------ ------------
Gross profit 2,383,349 2,795,668 4,435,147 5,905,415
Expenses:
Product development 752,175 400,734 1,436,844 804,320
Selling, general and administrative 3,318,024 2,850,340 6,296,076 5,466,485
------------ ------------ ------------ ------------
Operating loss (1,686,850) (455,406) (3,297,773) (365,390)
Interest expense (12,036) (3,572) (14,791) (17,112)
Other income 23,836 8,233 181,175 70,855
------------ ------------ ------------ ------------
Loss before income taxes (1,675,050) (450,745) (3,131,389) (311,647)
Income tax expense (benefit) -- (9,000) 6,723 --
------------ ------------ ------------ ------------
Net loss $ (1,675,050) $ (441,745) $ (3,138,112) $ (311,647)
============ ============ ============ ============
Basic and diluted loss per share $ (0.36) $ (0.10) $ (0.68) $ (0.07)
============ ============ ============ ============
Weighted average shares outstanding 4,652,387 4,469,626 4,607,993 4,463,867
============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
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INTERFACE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Six Months Ended March 31,
2000 1999
---- ----
(unaudited)
<S> <C> <C>
Cash flows from operating activities:
Net loss $(3,138,112) $ (311,647)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:
Gain on sale of IGK (36,736) --
Depreciation and amortization 403,464 558,040
Change in operating assets and liabilities:
Accounts receivable 633,608 809,432
Refundable income taxes 6,723 1,459,874
Inventories (37,447) 577,523
Prepaid expenses and other (27,427) (54,354)
Other assets 22,481 1,774
Accounts payable 199,752 (121,881)
Accrued expense (44,479) (530,461)
Deferred revenue 40,775 (75,686)
----------- -----------
Net cash provided by (used in) operating activities (1,977,398) 2,312,614
----------- -----------
Cash flows from investing activities:
Proceeds from sale of IGK 1,078,556 --
Proceeds received on Note issued on sale of IGK 80,277 --
Additions to property and equipment (272,850) (233,886)
----------- -----------
Net cash provided by (used in) investing activities 885,983 (233,886)
----------- -----------
Cash flows from financing activities:
Change in notes payable -- (1,350,000)
Proceeds from issuance of stock 475,466 44,056
Reduction of long-term debt (25,000) (25,000)
----------- -----------
Net cash provided by (used in) financing activities 450,466 (1,330,944)
----------- -----------
Effect of exchange rate changes on cash (2,989) 49,632
----------- -----------
Net increase (decrease) in cash and cash equivalents (643,938) 797,416
Cash and cash equivalents, beginning of period 1,575,139 301,206
----------- -----------
Cash and cash equivalents, end of period $ 931,201 $ 1,098,622
=========== ===========
Supplemental disclosure of cash flow information:
Cash paid for interest $ 14,791 $ 17,112
=========== ===========
Cash refunded for income taxes $ -- $ 1,558,221
=========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
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INTERFACE SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
The interim consolidated financial statements of Interface Systems, Inc. have
been prepared by the Company without audit pursuant to the rules and regulations
of the Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations. The information included in this report
should be read in conjunction with the financial statements for the year ended
September 30, 1999 and notes thereto included in the Company's Annual Report on
Form 10-K.
In the opinion of management, the accompanying interim consolidated financial
statements reflect all adjustments (consisting only of normal recurring
adjustments) necessary for a fair presentation of the Company's financial
position, results of operations and cash flows for the periods presented. The
results for the quarter ended March 31, 2000 may not be indicative of the
results to be expected for future quarters or the fiscal year ending September
30, 2000.
For comparative purposes, certain amounts reported in prior years' financial
statements have been reclassified to conform to current year presentations.
2. Line-of-Credit
In May 2000, the Company and it's bank entered into a commitment to renew the
credit facility expanding the borrowing capability from $3.5 to $5.0 million
with a maturity date of May 31, 2001. As of March 31, 2000, there were no
borrowings outstanding under its current $3.5 million facility. Advances bear
interest at the bank's prime rate (9.0% at March 31, 2000) plus 1%, are payable
on demand and are collateralized by substantially all of the Company's assets.
The amount available for borrowing at any time is based on borrowing base
formulae relating to levels of accounts receivable and other bank covenants.
Under such formulae, $4.2 million will be available to the Company upon renewal.
Under the terms of its existing credit agreement, the Company is required to
maintain certain minimum working capital, net worth, and other specific
financial ratios. In addition, the credit agreement prohibits the payment of
cash dividends and contains certain restrictions on the Company's ability to
borrow money or purchase assets or interests in other entities without the prior
written consent of the bank. The Company was in compliance with the bank
covenants prior to and upon renewal.
In connection with its renewal, the Company will issue the bank warrants to
purchase 20,000 shares of common stock at fair market value at the date of
issuance. The warrants will be fully exercisable and expire three years from the
date of issuance.
3. Impact of Recently Issued Accounting Standards
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The Financial Accounting Standards Board has issued SFAS No. 133 "Accounting for
Derivative Instruments and Hedging Activities." The Company is required to adopt
the provisions of SFAS No. 133 in its current fiscal year. The Company expects
the adoption will not affect results of operations or financial statements.
4. Comprehensive Income
SFAS No. 130, "Reporting Comprehensive Income", establishes standards for
reporting and display of comprehensive income and its components in a full set
of financial statements. Comprehensive income is the total of net income and all
other non-owner changes in equity. The components of comprehensive income, are
as follows:
<TABLE>
<CAPTION>
Quarters ended March 31, Six months ended March 31,
------------------------ --------------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net Loss $ (1,675,050) $ (441,745) $ (3,138,112) $ (311,647)
Change in foreign currency translation 16,883 28,329 ( 2,989) 49,632
------------- --------------- -------------- --------------
Comprehensive Loss $ (1,658,167) $ (413,416) $ (3,141,101) $ (262,015)
============== ================ ============= ===============
</TABLE>
5. Sale of Wholly Owned Subsidiary
On December 22, 1999, the Company sold its subsidiary, IGK Industries, Inc. for
$1,450,000, which resulted in a $37,000 gain. The purchaser acquired all assets
and assumed all current liabilities of IGK. Also included in the sale was the
building that housed IGK's operations, which was owned by the Company and leased
by IGK.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OPERATIONS
The Company is currently completing a transition plan that is focused on the
movement from the manufacturing of hardware (printers, circuit boards, and
peripheral equipment) to the development and marketing of higher margin and
higher growth software solutions. The progress related to the plan is evidenced
by the current structure of the Company. Currently, the Company is organized
around two software solutions groups: L2i(TM) (Legacy-to-Internet) and Cleo.
RESULTS OF OPERATIONS
Net Revenues. Revenues for the second quarter ended March 31, 2000 were $3.0
million, a decrease of 38.8% over revenues of $4.9 million for the second
quarter of fiscal 1999. Revenues for the first six months of fiscal 2000 were
$6.4 million, a decrease of 36.5% over revenues of $10.1 million for the same
period of fiscal 1999. The decrease for the quarter and the six-month period was
primarily due to the planned curtailment of the printer business, the sale of
IGK that occurred at the end of the first quarter, and decreased sales of the
Cleo solutions group. The above declines were partially offset by the increased
sales of the L2i solutions; MyCopy(TM), e-Bill Bridge(TM), Document Server, and
related
7
<PAGE> 8
professional services.
Cost of Revenues. Cost of revenues were $592,000 and $2.1 million or 19.9% and
42.5% of net revenues for the quarters ended March 31, 2000 and 1999,
respectively; and $2.0 million and $4.2 million, or 30.6% and 41.4% of net
revenues for the first half of fiscal 2000 and 1999, respectively. The decrease
for the quarter and the six-month period resulted from a decline in overall
sales as well as a change in the sales mix from lower margin hardware products
to the more profitable L2i software solutions and consulting services.
Product Development Costs. Product development costs were $752,000 and $401,000,
or 25.3% and 8.2% of net revenues for the quarters ended March 31, 2000 and
1999, respectively; and $1.4 million and $804,000, or 22.5% and 8.0% of net
revenues for the first half of fiscal 2000 and 1999, respectively. The increase
for the quarter and six month periods was primarily due to the investment the
Company is making to enhance its L2i software solutions.
Selling, General, and Administrative Expenses. Selling, general, and
administrative expenses were $3.3 million and $2.9 million, or 111.5% and 58.6%
of net revenues for the quarters ended March 31, 2000 and 1999, respectively;
and $6.3 million and $5.5 million, or 98.5% and 54.3% of net revenues for the
first half of fiscal 2000 and 1999, respectively. The increase was primarily due
to the addition of sales and marketing staff located at the Company's
headquarters facility and the East Coast. Furthermore, the Company has invested
in the creation of a consulting team that has a broad array of technical
capabilities and is instrumental in the implementation of its L2i solutions.
Interest and Other Income. Interest and other income for the first half of
fiscal 2000 was mainly composed of the $37,000 gain on the sale of substantially
all assets of IGK Industries, Inc.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2000, the Company's primary sources of liquidity included cash and
cash equivalents of $931,000 and a short-term credit facility with a bank
providing for $3.5 million of borrowing prior to the renewal discussed below, of
which $1.3 million was available.
In May 2000, the Company and its bank entered into a commitment to renew the
credit facility expanding the borrowing capability from $3.5 to $5.0 million
with a maturity date of May 31, 2001. Advances bear interest at the bank's prime
rate (9.0% at March 31, 2000) plus 1%, are payable on demand and are
collateralized by substantially all of the Company's assets. The amount
available for borrowing at any time is based on borrowing base formulae relating
to levels of accounts receivable and other bank covenants. Under such formulae,
$4.2 million will be available to the Company upon renewal.
Under the terms of its existing credit agreement, the Company is required to
maintain certain minimum working capital, net worth, and other specific
financial ratios. In addition, the credit agreement prohibits the payment of
cash dividends and contains certain restrictions on the Company's ability to
borrow money or purchase assets or interests in other entities without the prior
written consent of the bank. The Company was in compliance with the bank
covenants prior to and upon renewal.
Cash provided by investing activities was $886,000 in the first half of fiscal
2000 primarily due to the proceeds received from the sale of IGK.
Cash provided by financing activities was $450,000 in the first half of fiscal
2000 and was primarily composed of the proceeds from the issuance of stock.
8
<PAGE> 9
The Company believes that its existing cash balances, available credit facility
and future operating cash flows will be sufficient for near term operating
needs. The foregoing statements are "forward looking statements" within the
meaning of the Securities Exchange Act of 1934. The extent to which such sources
will be sufficient to meet the Company's anticipated cash requirements is
subject to a number of uncertainties including the ability of the Company's
operations to generate sufficient cash to support operations, and other
uncertainties described in "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Uncertainties Relating to Forward-Looking
Statements."
YEAR 2000
We have not experienced any known material adverse impacts on our products,
services, or systems as a result of the Year 2000 issue. The Company believes
that its efforts to address Year 2000 issues for which it is responsible have
been successful. However, we cannot be sure that various factors relating to the
Year 2000 compliance issues will not have a material adverse impact on our
business or operating results. The costs associated with our Year 2000 efforts
were not material.
UNCERTAINTIES RELATING TO FORWARD-LOOKING STATEMENTS
"Management's Discussion and Analysis of Results of Operations" contain
"forward-looking statements" within the meaning of the Securities Exchange Act
of 1934, as amended, based on current management expectations. Actual results
could differ materially from those in the forward-looking statements due to a
number of uncertainties, including, but not limited to, those discussed in this
section. Factors that could cause future results to differ from these
expectations include general economic conditions particularly related to demand
for the Company's products and services; changes in Company strategy; product
life cycles; competitive factors (including the introduction or enhancement of
competitive products); pricing pressures; the Company's success in and expense
associated with developing, introducing and shipping new products; software
defects and latent technological deficiencies in new products; changes in
operating expenses; inability to attract or retain consulting, sales and/or
engineering talent; changes in customer requirements; evolving industry
standards; and the impact of undetected errors or defects associated with the
Year 2000 date function on the Company's current products and internal systems.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company has no material market risk exposure.
PART II - OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company's Annual Meeting of Shareholders was held on February 18, 2000 in
Ann Arbor, Michigan. There was voting on the following three issues: election of
directors, approval to increase the authorized common shares from 12.5 to 25
million, and an amendment to the 1992 Stock Option Plan increasing the available
shares by 300,000. The following table sets forth the results of the voting.
ITEM 5. OTHER INFORMATION
Policy on Sale or Other Disposition of Shares by Officers and Directors
On February 18, 2000, the Board of Directors adopted a policy with respect to
the sale or other disposition of shares of the Company's common stock. Under
this policy, officers and directors of the Company are permitted annually to
sell or otherwise dispose of up to 10% of the Company's securities held by such
officer or director. Company securities includes all outstanding common stock of
the Company as well as options to acquire the Company's common stock (to the
extent such options are vested).
The Board of Directors has determined that it is in the best interest of the
Company's shareholders that officers and directors of the Company share in the
ownership of the Company's common stock. The Board believes that adoption of
this policy reaffirms that belief.
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<PAGE> 10
<TABLE>
<CAPTION>
(1) Name Votes For Votes Withheld
---- --------- --------------
<S> <C> <C>
Garnel F. Graber 3,873,907 172,465
Robert A. Nero 3,875,407 170,965
Bruce E. Rhoades 3,874,301 172,071
David C. Seigle 3,872,114 174,258
Robert A. Seigle 3,874,392 171,980
Lloyd A. Semple 3,874,812 171,560
Thomas L. Thomas 3,872,525 173,847
</TABLE>
(2) Approval to Increase the Number of Shares of Common Stock
<TABLE>
<CAPTION>
Votes For Votes Against Votes Withheld
--------- ------------- --------------
<S> <C> <C> <C>
3,744,412 297,552 4,408
</TABLE>
(3) Amendment to 1992 Stock Option Plan
<TABLE>
<CAPTION>
Votes For Votes Against Votes Withheld
--------- ------------- --------------
<S> <C> <C> <C>
1,968,635 255,864 10,882
</TABLE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
27 Financial Data Schedule
(b) No reports on Form 8-K have been filed during the quarter for which
this report is filed.
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.
INTERFACE SYSTEMS, INC.
Date: May 15, 2000 /S/ Brian D. Brooks
-------------------
Brian D. Brooks
Vice President and Chief Financial Officer
10
<PAGE> 11
EXHIBIT INDEX
-------------
Exhibit No. Description
- ----------- -----------
27 Financial Data Schedule
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-2000
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 931,201
<SECURITIES> 0
<RECEIVABLES> 2,655,961
<ALLOWANCES> 0
<INVENTORY> 527,499
<CURRENT-ASSETS> 4,432,584
<PP&E> 2,407,446
<DEPRECIATION> 0
<TOTAL-ASSETS> 7,831,981
<CURRENT-LIABILITIES> 2,532,811
<BONDS> 0
0
0
<COMMON> 11,799,884
<OTHER-SE> (6,546,347)
<TOTAL-LIABILITY-AND-EQUITY> 7,831,981
<SALES> 2,975,201
<TOTAL-REVENUES> 2,975,201
<CGS> 591,852
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 12,036
<INCOME-PRETAX> (1,675,050)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,675,050)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,675,050)
<EPS-BASIC> (.36)
<EPS-DILUTED> (.36)
</TABLE>
