SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
[X] Annual report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the fiscal year ended March 31, 1998
[ ] 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:
0-16106
APA Optics, Inc.
(exact name of registrant as
specified in its charter)
Minnesota 41-1347235
(State of Incorporation)
(I.R.S. Employer ID No.)
2950 N.E. 84th Lane, Blaine, MN
55449
(Address of principal executive offices)
(zip code)
Issuer's telephone number, including area code: (612) 784-4995
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
(Title of class)
Check whether the issuer (1) filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the
past 12 months and (2) has been subject to the filing
requirements for the past 90 days. Yes X No
Check if there is no disclosure of delinquent filers in
response to item 405 of Regulation S-B in this form, and no
disclosure will be contained to the best of issuer's
knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB. [
]
The issuer's revenues for its most recent fiscal year were
$2,190,637.
The aggregate market value of the voting stock held by non-
affiliates of the registrant as of May 29, 1998, was
approximately $34,946,074.
The shares of Common Stock outstanding as of May 29, 1998 were
8,512,274.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the annual report to shareholders for the fiscal
year ended March 31, 1998 (the "1998 Annual Report") , are
incorporated by reference into Part II. The Annual Report is
filed with this report as Exhibit 13.
Portions of the proxy statement for the annual shareholders
meeting to be held on August 19, 1998 ("Proxy Statement") are
incorporated by reference into Part III.
Part I
Item 1. Description of Business.
(a) General Development of Business.
APA Optics, Inc. manufactures and markets advanced
products for the fiber optic communications, optoelectronics
and laser industries, including wave-length division
multiplexed (WDM) components, ultraviolet (UV) detectors,
Nitride epitaxial layers and custom optics.
From its founding in 1979, the Company has focused on
leading edge research in sophisticated optoelectronic and
optical system areas with the primary goal of developing
advanced products for subsequent marketing and fabrication.
APA Optics, Inc. currently manufactures WDM optical modulator
components, offers a range of Gallium Nitride-based devices
and services, and markets custom optics products.
(b) Description of Business.
Products and Services
(i) Optical Lens Systems. The Company designs and builds
multi-element lens systems and components, including mounting
structures, for precision quality optical needs. Many
applications such as laser industrial imaging systems and
display systems require precision quality optics.
A lens is a transparent optical component, the surface of
which converges or diverges the light transmitted through it
to form a real or virtual image of an object. A lens system
consists of two or more lenses and is generally required for
photographic and laser devices, microscopes, and telescopes.
The design of a lens system involves selection of suitable
optical glass and a delicate balance of various radii of
lenses, lens thickness, and separation between various lenses.
To accomplish these tasks, the Company uses sophisticated
computer design programs, some of which it has purchased and
some of which have been internally developed.
The Company has designed and built lens systems for
various applications. These applications include laser-based
systems, imaging systems, inspection systems, display systems,
display optics, focusing optics for ultraviolet fire alarms,
alignment verification optics for dual magnetic recording
heads, and multi-magnification optics systems for optical
comparators.
(ii) Optical Thin Film Coatings. The Company custom
designs, develops, and fabricates optical thin film coatings
for optical components of lasers, laser systems, optical
instruments, and optical devices.
The Company uses its optical thin film coating services
in two major ways. Antireflective coatings are deposited onto
fabricated lens components. The Company also uses its thin
film coating facility to design, develop and fabricate coating
for lens components supplied by customers.
Applications for thin film coatings services are
concentrated primarily in optical components used in lasers
and laser systems. The Company provides high quality coatings
to meet the delicate demands required in these systems.
(iii) Optoelectronics Devices. The Company is focusing
its research and development effort on several optoelectronic
devices. Optoelectronic devices will be vital components of
future communication systems and optical instruments. To
foster development of fiber-optic high data rate communication
systems, certain miniature lightweight modules, including
amplifiers, switches, couplers, filters, and isolators, need
to be created. These modules must then be integrated into
microcircuit chips. Solving the problems of this technology is
the current focus of the Company's development effort.
The Company is developing the following major
optoelectronic devices:
Wavelength Divisional Multiplexed (WDM) Modulator.
Recently, the Company demonstrated the feasibility of a WDM
optical modulator capable of transmitting several channels
through a single optical fiber for communication applications.
APA Optics developed the optical modulator (single channel)
technology during the early 90's for fiber optic
communication. These modulators have the capability of direct
high speed (several billion bits per second) data loading and
unloading on laser beams going through optical fibers, either
for short distance or long distance. The WDM consists of a
Gallium Arsenide material chip (fabricated using conventional
semiconductor processing techniques) on which both laser beams
and electrical beams can travel independently or interact with
each other. This device, therefore, provides an easy way of
mixing computer data, video or cable information (which are
electrical in nature) with the laser beam going through the
optical fiber. As a result, the modulator will be very
valuable for fiber optic communication systems including Local
Area Networks (LANs). The WDM optical modulator, developed
recently, provides a major break-through in that information
can travel on several different channels within a single fiber
(A simple analogy is the expansion of a single lane highway to
multi-lane throughway). As a result, the WDM due to its
multiple channels provides: higher speed, increased and
regulated data handling capabilities as compared to a single
channel modulator.
The Company filed a patent for WDM optical modulator in June
1994, which was allowed on May 8, 1995. The Company is
building three sets of WDM optical modulators for internal
testing and characterization. The Company plans to build
several prototype and pre-production sets prior to
manufacturing of the WDM modulators.
UV Detector. The UV Detector is a high response solid
state detector based on single-crystal gallium nitride. The
GaN detector is expected to have applications in spectrometry,
solar radiation measurement, excimer-laser measurement and
calibration, biomedical instrumentation, and flame detection
and monitoring. The detector is visible blind, which allows
detection of UV radiation in the presence of room lights
without a filter. The Company believes the GaN detector has
advantages over photomultiplier tubes because of its
ruggedness and chemical inertness, which suit it for
application in high-vibration and harsh environments as well
as high-temperature operation.
Other Products
The Company is performing contract research on at least
two additional AlGaN based devices, namely: a UV/blue laser
and a transistor, which may form the basis for future
products.
Major Customers
Revenues from sales and contract fees to the following
unrelated customers constituted more than ten percent of the
Company's total operating revenues in the last two fiscal
years:
Year Ended March 31,
Name
1998 1997
Government Agencies *
89% 93%
*Represents services to several operating agencies of the
U.S. Government, as follows:
1998 1997
Air Force
20% 42%
Army
25 22
Navy
38 36
ARPA
17 0
Total
100% 100%
Backlog
The Company's backlog of uncompleted contracts at March
31, 1998, was approximately $1,300,000, as compared to
$3,200,000 at March 31, 1997. Of the current year's backlog,
all contracts will be completed within the next year.
Competition
Competition in the optics fabrication business is
significant. Many of the companies engaged in the business are
well-financed and have significantly greater research,
development, production, and marketing resources than those of
the Company. The Company believes that it has a competitive
advantage in the important factors of quality and performance
since it has a complete facility for the development, design,
and fabrication of optical systems. Also, the geographical
location of the Company gives it a competitive advantage in
marketing its products to companies located in the Midwest,
since most of the Company's competitors are located on the
East and West Coasts.
There is also significant competition for research and
development contracts for the development of optics
technologies. Many potential competitors have significantly
greater resources for product research and development than
the Company. However, the Company believes that an early start
in relatively new technologies will provide an edge in
procuring various development contracts.
Research and Development
During the fiscal years ended March 31, 1998, and 1997
the Company spent approximately $339,000 and $375,000,
respectively, on research and development sponsored by the
Company. In addition, in each of those years, the Company
spent approximately $1,431,000, and $1,610,000, respectively,
on research activities sponsored by customers.
Employees
As of March 31, 1998, the Company employed 30 full-time
employees (including its executive officers).
Item 2. Description of Property.
The Company's offices, manufacturing facilities, and
laboratories are located in an industrial building at 2950
N.E. 84th Lane, Blaine, Minnesota. The Company currently
leases 23,500 square feet of space in the building under
sublease from Jain-Olsen Properties, a partnership consisting
of Anil K. Jain and Kenneth A. Olsen, officers and directors
of the Company. See Note 9 of Notes to Financial Statements in
the 1998 Annual Report included as Exhibit 13 to this Report.
The Company completed this year a 24,000 square foot
production facility in Aberdeen, South Dakota, which will be
used for manufacturing the Company's new products. The land
upon which this facility is located was granted to the Company
as part of a financing package from the city of Aberdeen. See
Note 5 of Notes to Financial Statements in the 1998 Annual
Report included as Exhibit 13 to this Report for further
information on the financing of this facility. (The Company
also owns land directly west of the Blaine facility and may
use it for future expansion.)
Item 3. Legal Proceedings.
On or about November 22, 1997, the Company commenced
litigation in the Anoka County District Court (Minnesota)
against two of its former employees, Asif Khan and Jinwei
Yang, contending that the defendants are in breach of their
respective confidentiality agreements and that APA is entitled
to both damages and injunctive relief under the Uniform Trade
Secrets Act. Both of the defendants were employed by the
Company in the area of research and development of Gallium
Nitride and are the subjects of a confidentiality agreement.
APA's Motion for a Temporary Injunction was denied on February
19, 1998. Subsequently, the parties submitted to mediation and
reached agreement on the terms of a settlement, subject to
preparation and execution of appropriate documentation.
Item 4. Submission of Matters to a Vote of Security-Holders.
No matter was submitted to a vote of security holders
during the fourth quarter of the fiscal year covered by this
report.
PART II
Item 5. Market for Common Equity and Related
Stockholder Matters.
"Common Stock Information" on page 8 of the 1998 Annual
Report is incorporated herein by reference.
Item 6. Management's Discussion and Analysis or Plan of
Operations.
"Management's Discussion and Analysis of Financial
Condition and Results of Operations" on page 8 of the 1998
Annual Report is incorporated herein by reference.
Item 7. Financial Statements.
The financial statements included on pages 9-17 of the
1998 Annual Report are incorporated herein by reference.
Item 8. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure.
None.
PART III
Item 9. Directors, Executive Officers, Promoters, and Control
Persons; Compliance with Section 16(a) of the Exchange Act.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following is a list of APA Optics, Inc. executive
officers, their ages, positions and offices as of March 31,
1998.
Name Age
Position
Dr. Anil K. Jain 52
President & Treasurer
Kenneth A. Olsen 54
Vice President and Secretary
Randal J. Becker 45
Principal Accounting Officer
BUSINESS EXPERIENCE
Dr. Anil K. Jain has been a Director and President and
Treasurer since March 1979. From 1973 until October 15, 1983,
when Dr. Jain commenced full time employment with the Company,
he was employed at the Systems and Research Center at
Honeywell Inc. as a Senior Research Fellow, coordinating
optics-related development.
Kenneth A. Olsen has been a Director since 1980, Secretary
since 1983, and Vice President since 1992. Prior to joining
the Company, he had been with 3M Corp., St. Paul, Minnesota.
Randal Becker has been Principal Accounting Officer since
joining the Company in 1987. Prior to joining the Company he
was with Apache Corporation, Minneapolis, Minnesota.
Information regarding Directors is incorporated herein by
reference from the Proxy Statement.
Item 10. Executive Compensation.
Item 11. Security Ownership of Certain Beneficial Owners and
Management.
Item 12. Certain Relationships and Related Transactions.
The information requested by the above items 10, 11, and
12 is included in the Proxy Statement, which is incorporated
herein by reference.
Item 13. Exhibits and Reports on Form 8-K.
(a) Exhibits: See Exhibit Index on Page 9
(b) Reports filed on Form 8-K:
No reports on Form 8-K were filed during the fourth
quarter of the fiscal year ended March 31, 1998.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange
Act, the Registrant caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
APA Optics, Inc.
Date: 6/25/98 By
/s/s Anil K. Jain
Anil K. Jain, President
In accordance with the Exchange Act, this report has been
signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
/s/ Anil K. Jain
President, Chief 6/25/98
Anil K. Jain
Executive Officer,
treasurer, chief
financial officer,
and director
/s/ Kenneth A. Olsen
Secretary, Vice 6/25/98
Kenneth A. Olsen
President, and
director
/s/ Randal J. Becker
Principal 6/25/98
Randal J. Becker
accounting officer
/s/ Lincoln Hudson
Director 6/25/98
Lincoln Hudson
/s/ Gregory Von Wald
Director 6/25/98
Gregory Von Wald
EXHIBIT INDEX
Exhibit
Page Number or Incorporated
Number Description
by Reference to
3.1 Restated Articles
Exhibit 3.1 to Registrant's
of Incorporation, as amended
Report on Form 10-KSB for
to date, and Statement
the fiscal year ended March
regarding establishment of
31, 1995 (the "1995 10-KSB")
class of shares
3.2 Bylaws
Exhibit 3.2 to the
Registration statement on
Form S-18 filed with the
Chicago Regional Office of
the Securities and Exchange
Commission on June 26, 1986
(the "Registration
Statement")
4.1a First Restated and Amended
Exhibit 4.1a to
Loan Agreement by and between
Report on Form 10-K for the
the Minnesota Agricultural and
fiscal year ended March 31,
Economic Development Board
1991 ("1991 10-K")
(the "Board") and the
Registrant dated July 1, 1990
4.1b Security Agreement from the
Exhibit 4.1b to the 1991
Registrant to the Board dated
10-K
as of July 1, 1990
4.1c Registrant's Restated and
Exhibit 4.1c to the 1991
Amended Promissory Note in the
10-K
amount of $1.5 million payable
to the Board
4.1d Intercreditor Agreement and
Exhibit 4.1d to the 1991
Consent by and among the
10-K
Board, the Registrant, and
other parties dated July 1,
1990
4.2(a) State of South Dakota Board of
Exhibit 4.1(a) to the
Economic Development $300,000
Report on 10-QSB for
Promissory Note, REDI Loan: 95-13-A
the quarter ended June 30,
1996 (the "June 1996 10-QSB")
4.2(b) State of South Dakota Board of
Exhibit 4.1(b) to the June
Economic Development Security
1996 10-QSB
Agreement, REDI Loan No: 95-13-A
dated May 28, 1996
4.3(a) $700,000 Loan Agreement dated June 24,
Exhibit 4.2(a) to the June
1996 by and between Aberdeen Development
1996 10-QSB
Corporation and APA Optics, Inc.
4.3(b) $300,000 Loan Agreement dated June 24,
Exhibit 4.2(b) to the June
1996 between Aberdeen Development
1996 10-QSB
Corporation and APA Optics, Inc.
4.3(c) $250,000 Loan Agreement dated June 24,
Exhibit 4.2 (c) to the June
1996 by and between Aberdeen Development
1996 10-QSB
Corporation and APA Optics, Inc.
4.3(d) $300,000 Loan Agreement dated June 24
Exhibit 4.2(d) to the June
1996 by and between Aberdeen Development
1996 10-QSB
Corporation and APA Optics, Inc.
4.4(a) Loan Agreement between South Dakota
Exhibit 4.3(a) to the June
Economic Development Finance and
1996 10-QSB
APA Optics, Inc.
4.5(b) Mortgage and Security Agreement - One
Exhibit 4.3(b) to the June
Hundred Day Redemption from APA Optics,
1996 10-QSB
Inc. to South Dakota Economic Development
Finance Authority dated as of June 24, 1996
4.6(a) Subscription and Investment Representation
Exhibit 4.4(a) to the June
Agreement of NE Venture, Inc.
1996 10-QSB
4.6(b) Form of Common Stock Purchase Warrant
Exhibit 4.4(b) to the June
for NE Venture, Inc.
1996 10-QSB
10.1 Sublease Agreement between the
Exhibit 10.1 to the
Registrant and Jain-Olsen Properties and
Registration Statement
Sublease Amendment and Option Agreement
between the Registrant and
Jain-Olsen Properties
*10.2a Stock Option Plan for Nonemployee
Exhibit 10.3a to
Directors
Registrant's Report on Form
10-KSB for the fiscal year
ended March 31, 1994 (the
"1994 10-KSB")
*10.2b Form of option agreement issued
Exhibit 10.3b to 1994 10-KSB
under the plan
*10.3 1997 Stock Compensation Plan
Exhibit 10.3 Registrant's Report
on Form 10-KSB for the Fiscal
year ended March 31, 1997
*10.4 Insurance agreement by and
Exhibit 10.5 to Registrant's
between the Registrant and
Report on Form 10-K for
Anil K. Jain
the fiscal year ended March
31, 1990
*10.5 Form of Agreement regarding
Exhibit 10.1 to Registrant's
Repurchase of Stock upon change in
Report on Form 10-QSB for the
Control Event with Anil K. Jain and
quarter ended September 30, 1997
Kenneth A. Olsen
("September 1997 10-QSB")
*10.6 Form of Agreement regarding
Exhibit 10.2 to the September
Employment/Compensation upon Change
1997 10-QSB
in Control with Messrs. Jain and Olsen
13 Annual Report to Shareholders
Page 12
for year ended March 31, 1998
27 Financial data schedule
Page 32
* Indicates management contract or compensation plan or
arrangements required to be filed as an exhibit to this form.
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<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> MAR-31-1998
<PERIOD-END> MAR-31-1998
<CASH> 5,184,215
<SECURITIES> 0
<RECEIVABLES> 236,284
<ALLOWANCES> 0
<INVENTORY> 157,121
<CURRENT-ASSETS> 5,732,262
<PP&E> 2,702,887
<DEPRECIATION> 426,362
<TOTAL-ASSETS> 9,629,912
<CURRENT-LIABILITIES> 386,782
<BONDS> 0
0
0
<COMMON> 85,123
<OTHER-SE> 5,774,740
<TOTAL-LIABILITY-AND-EQUITY> 9,629,912
<SALES> 2,190,637
<TOTAL-REVENUES> 2,190,637
<CGS> 2,332,116
<TOTAL-COSTS> 2,332,116
<OTHER-EXPENSES> 955,147
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (129,859)
<INCOME-PRETAX> (966,767)
<INCOME-TAX> 1,000
<INCOME-CONTINUING> (967,767)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
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APA Optics, Inc. 1998 Annual Report
APA Optics, Inc. manufactures and markets advanced
products for the fiber optic communications, optoelectronics
and laser industries, including wavelength division
multiplexed (WDM) components, ultraviolet (UV) detectors,
Nitride epitaxial layers and custom optics.
From its founding in 1979, the Company has focused on
leading edge research in sophisticated optoelectronic and
optical system areas with the primary goal of developing
advanced products for subsequent marketing and fabrication.
APA Optics, Inc. currently manufactures WDM optical
modulator components, offers a range of Gallium Nitride-
based devices and services, and markets custom optics
products.
APA Optics, Inc. has its headquarters in Blaine,
Minnesota, a suburb of Minneapolis, and operates an
optoelectronics manufacturing center in Aberdeen, South
Dakota.
Forward-looking statements contained herein are made
pursuant to the safe harbor provisions of the Private
Litigation Reform Act of 1995. These statements are based
upon the Company's current expectations and judgments about
future developments in the Company's business. Certain
important factors could have a material impact on the
Company's performance, including, without limitation, delays
in or increased costs of production, delays in or lower than
anticipated sales of the Company's new products, and other
factors discussed from time to time in the Company's filings
with the Securities and Exchange Commission. Readers are
cautioned not to place undue reliance on forward-looking
statements. The Company undertakes no obligation to update
such statements to reflect actual events.
1998...FORGING AHEAD ON THE MARCH TO MANUFACTURING
INTRODUCING PRODUCTS THAT PERFORM
APA Optics moved ahead forcefully in the 1998 fiscal
year and achieved its goals of bringing to market
exceptional products that are in the forefront of
optoelectronics technology. This watershed in marketing is
in line with the Company's commitment to become a leading
player in product development and fabrication for the fiber
optic communications, optoelectronics and laser industries.
Substantial forward steps were taken before the end of
the fiscal year, March 31, 1998, and APA Optics is poised
for continued progress, and growth, in sales and production.
The achievements in fiscal 1998 encompass actions in the
product development, manufacturing and marketing sectors.
Breakthroughs in Fiber Optic Communications
"Ultra" WDM technology was introduced at OFC `98, the
international fiber communications conference, held this
year in the Silicon Valley city of San Jose, and APA Optics
is now receiving orders for its sophisticated multiplexer
components. The conference drew leaders from the
optoelectronics and fiber communications industries
worldwide.
Dense Wavelength Division Multiplexing (DWDM) is taking
the spotlight from wavelength division multiplexing among
engineers in the fiber communications industry and APA
Optics pushed the envelope further with its "ultra" DWDM
technology. The "ultra" relates to channel spacing. The
industry standard is 100 Gigahertz, but APA Optics has
achieved 50 GHz spacing, a key technological consideration
in developing WDM fiber optic communications networks, and
has done so with low cross talk levels. (See DWDM
discussion on page 4)
This advanced WDM technology attracted wide industry
interest and prompted initial sales of demonstration units.
APA Optics management expects these and other related
products to make a significant contribution to APA's future
success.
The fiber communications industry continues to see
dramatic growth as the demand for telecommunications and
data transfer expands year after year. There continue to be
new applications in communications services and Internet
accessing that build the need for greater and greater
capacity. Industry observers see WDM technology playing a
role in boosting speed on the Internet and in expanding
cable TV options.
New GaN Products and Sales
APA Optics is introducing a second offering in its
Gallium Nitride (GaN) ultraviolet detector line, a product
that is clearly superior to all competing entries in this
Schottky detector category. This second APA detector is
significantly improved, with performance that is 60 to 70
percent above the initial offering. The key is the
capability of GaN to permit unprecedented levels of
discrimination between ultraviolet light and sunlight. This
"solar blind" characteristic helps create a UV-detector with
exceptional value in flame sensing and other applications.
The Company has now sold Schottky UV-detector qualifying
units to some 15 to 20 customers. With the new product and
others to come, APA sees this area as a substantial
contributor to sales and product fabrication demand.
APA Optics has a global reputation for its pioneering
research on Nitride family minerals, materials that have
great potential for application in the optoelectronic
industry. Gallium Nitride is delivering important products
today, but other Nitrides also offer great promise. (See
Base Materials section on page 7)
Manufacturing Activities
Fabrication activity is underway at APA Optics' new
manufacturing center in Aberdeen, South Dakota, and the
facility is fulfilling its promise. Well staffed and well
equipped, this optoelectronics plant is functioning smoothly
and will be capable of handling substantial production
demands.
During fiscal 1998, Randy Bender, a native of Aberdeen,
was named manager of the APA Optics manufacturing center in
the South Dakota community. Production of both WDM
modulator components and UV-detectors is planned at the
Aberdeen fabrication center.
The Fiscal 1998 Year
APA Optics reported a loss of $967,767 on revenues of
$2,190,637 for the 1998 fiscal year, ended March 31, 1998.
"I am pleased by our financial performance during this
transition from being solely a research organization to the
role of manufacturer and marketer of advanced products,"
said Anil K. Jain, president and CEO of APA. "Getting
fabrication activities rolling and introducing two major
products in a transitional year, while incurring a loss of
less than $1 million, is an outstanding achievement."
Overall revenues for the Company in fiscal 1998 were
down from the prior year, reflecting the Company's decision
to reduce its contract research volume in favor of
fabrication. At the same time, the Company experienced
higher costs associated with the onset of manufacturing
activity, as well as higher marketing expense.
APA OPTICS ENDED THE FISCAL YEAR IN A SOUND FINANCIAL
POSITION, WITH A CASH BALANCE AT YEAR END OF $5,184,215,
COMPARED TO $3,875,205 AT THE END OF THE 1997 FISCAL YEAR.
A LETTER TO SHAREHOLDERS
I am pleased to report that after several years of
strategic product development, market planning and facility
construction, APA Optics, Inc. is now a full developer,
fabricator and marketer of sophisticated optoelectronic
products.
Your Company set challenging goals for itself and has
worked hard to accomplish them. First, APA wanted to create
the most sophisticated products possible, make them
proprietary and establish the facilities for product
production. Then, the objective was to assemble the staff
needed to fabricate and market these advanced products to
the fiber optics communications and optoelectronics
industries. All of these objectives have been met. The
challenge for APA now is to market aggressively and to
ensure that our production capability is in line with
anticipated demand.
APA Optics is now receiving orders for both of the major
new products introduced before the end of fiscal 1998, the
"ultra" DWDM modulator component and the Gallium Nitride-
based Schottky UV detector. The detector is believed to be
the first commercialized product ever to use Gallium Nitride
as a base. APA is now bringing out its second GaN UV-
detector, a device with performance that is far superior to
any other UV detector in its class. The Company will
utilize all of its patent-protected GaN technologies,
developing additional products to meet the needs of
industry. I see such product development activity as having
vast overall potential for APA.
The initial orders for our new WDM modulator reinforce
the future of this major product marketing area at APA
Optics. The Company has taken this technology a step
further, creating the "ultra" Dense Wavelength Division
Multiplexed (DWDM) modulator. APA Optics has seized
leadership with its leading position on high channel spacing
and low insertion loss. These are two of the major
considerations in designing and building fiber optics
communications systems. These technological advantages
augur well for the Company's marketing efforts. The product
development focus is now on units with 16, 32 or even higher
channel capacities.
In the manufacturing area, APA's new Aberdeen
fabrication center is up to speed. This manufacturing
center is operating smoothly and is ready to meet the
production challenges of the future.
As I cautioned earlier, losses were to be anticipated in
connection with the Company's move toward a product
emphasis. I am pleased to report that APA Optics
accomplished its key objectives in redirecting the Company
while experiencing a loss of less than $1 million. This is
impressive, given the deliberate reduction in contract
research activity. While the fiscal 1998 loss is not
insignificant, it is understandable. The Company
experienced the higher costs associated with staffing the
Aberdeen facility and marketing efforts, but did not benefit
from substantial production revenues. Losses can be
anticipated until product sales and revenues rise to more
satisfactory levels.
The APA management has strived mightily to turn the
Company in a new and more profitable direction. Much has
been accomplished, but the final pieces involve bringing our
marketing plans to fruition and gaining substantial product
orders. I anticipate improved financial performance in
forthcoming quarters.
Thank you for your support during this transition. I
believe the wisdom of these strategies will be demonstrated
as APA heads to the new Millennium and beyond.
Sincerely,
Anil K. Jain
June 22, 1998
THE EVOLUTION OF "ULTRA" DENSE WAVELENGTH DIVISION
MULTIPLEXED TECHNOLOGY: A TALK WITH DR. TIM BOORD
Q: Please tell us about the research origins of
wavelength division multiplexed technology (WDM) at APA
Optics.
A: APA's WDM work began with a U.S. Navy research
program where we had to identify an inexpensive way of
providing laser sources for WDM use. So, initially, it
started out with looking at just a single laser to obtain
several wavelengths that could be used for WDM, but over the
years, it evolved into a passive device, where we were using
many different lasers. This is the approach taken by the
telecommunications companies, but they needed ways to
essentially combine all these different lasers onto one
fiber at the transmitter end and then, at the receiver end,
separate them out, each wavelength on a different fiber.
So, essentially there were several key aspects of this early
work on the Navy device that were part of the approach to
developing the commercial product we now have. As the work
progressed, it focused more on the actual passive
multiplexer and demultiplexer units.
Currently, we have three WDM patents, and a fourth one
is pending. As we have modified, and improved, our basic
design to meet the developing system requirements for
implementing DWDM technology, APA's patents have been
extended to cover the new designs.
Q: APA's WDM technology differs from that of most
others in the industry. How does it work?
A: We use diffraction gratings, a very finely ruled
substream with a large number of parallel, evenly spaced
grooves incorporated in the surface. When certain light
beams are directed on the grooved surface, light is
scattered into several specific angular directions. Each
wavelength is sent in a different direction.
Another approach used for WDM utilizes a very narrow
band thin film filter. There are several companies offering
a WDM product line based on the film filter approach.
Reflectors fabricated in the core of an optical fiber are
also being used to separate and combine several wavelength
bands.
Q: You believe your technology has major advantages?
A: Yes. We have fabricated and demonstrated a DWDM
which can separate or recombine narrow wavelength bands
which are spaced in frequency by as little as 50 Gigahertz,
which is a wavelength spacing of 4 Angstroms. The DWDM
wavelength grid established by the telecommunications
industry uses narrow wavelength bands separated in frequency
by 100 GHz, which is a wavelength spacing of 8 Angstroms.
The telecommunications industry is looking towards future
use of 50 GHz channel spacing and APA has already
demonstrated this capability. Channel spacings of 50 GHz
would be difficult to achieve and implement with a thin film
filter approach.
Q: Operationally, are there any limitations that arise
from using the grating technology? Does it limit the type
of material you can transmit on the channels?
A: No. Our DWDM is best suited for systems that use a
consecutive series of equally spaced wavelengths in the
standard wavelength grid, and this is the approach that has
been requested by users of WDM.
Q: Where do you think WDM is now? What is the status of
implementation?
A: One of the major long distance carriers has upgraded
at least part of its telecommunications systems with DWDM
capability within the last year. Based on the interest in
DWDM at the 1998 Fiber Optics Components conference, I think
more of the telecommunications industry is committed to
upgrading the capacity of their systems through the use of
DWDM.
Q: The old technology couldn't keep up?
A: There is a limit to how much you can increase the
information carrying capacity of a fiber optic link by
electronic multiplexing. As the light beam is modulated
faster, signal degradation increases due to dispersion over
long transmission distances.
With WDM, you can increase the number of wavelength
bands from one to four, for example, and thereby increase
the information carrying capacity by a factor of four. This
is accomplished without the need to install new fiber or
faster electronics.
Q: Where are you going now?
A: System designers for the telecommunications industry
are requesting more optical wavelength channels, so we are
working on extending our approach to implement a DWDM with
48 channels. Also, we have received requests for
integration of the DWDM with couplers, to provide monitoring
and control capabilities. We are also considering offering
a wider range of components for fiber optic communications
by using integrated optics technology. Initially, these
would be passive components. However, as the all optical
systems comes closer to reality, APA will be a supplier of
active components, as well.
Q: Will it ever slow down?
A: It doesn't appear so. As system designers push for
optical fiber links which offer data, voice and video
communication, the need for information carrying capacity
will keep increasing. DWDM is an accepted method of meeting
this requirement for greater information carrying capacity.
Q: How difficult is it to create this- is fabrication
the challenge?
A: The DWDM requires high quality optical components
and has very tight assembly tolerances. However, APA Optics
has been in the business of fabricating high quality, high
precision optical components and systems for over 15 years.
We currently are assembling the DWDM in a laboratory
environment. But, we are working with a mechanical
engineering consulting firm to ensure a package design which
is both compatible with a more automated assembly process,
and which is also more stable and reliable when exposed to
anticipated environmental conditions.
W. Tim Boord Principal Investigator- APA Optics
Dr. Boord played a crucial role in developing APA's WDM
modulator for fiber optic communications systems. He headed
the U.S. Navy-funded phase two program for a prototype
demonstration of the modulator for future commercialization,
following the success of phase one.
Joining APA in 1984, Dr. Boord established its thin
film coating design and fabrication capability and initiated
the development of the integrated optic device design and
fabrication program. Dr. Boord came to APA from Honeywell,
Inc., where he was involved in R&D on solid state magnetic,
optical and pressure sensors compatible with silicon
integrated circuit processing. Earlier, he worked on thin
film systems.
Dr. Boord holds Ph.D and masters degrees in Physics
from Case Western Reserve University and did his
undergraduate work at Case Institute of Technology. He
holds four patents concerning thin film processes and
optical and magnetic devices. Dr. Boord also is the co-
author of several patents at APA.
ABERDEEN MANUFACTURING CENTER IS UP AND RUNNING
The 24,000 sq. ft. facility incorporates sophisticated
equipment that can accommodate the microscopic tolerances
and material layers used in photonics devices. The Aberdeen
center also has a "clean room," which is supported by the
most advanced air filtration and ventilating systems,
together with laboratory and office space.
Currently, production at the Aberdeen facility is
focused on the Company's Gallium Nitride ultraviolet
detectors and wavelength division multiplexed component
products.
Randy Bender, manager of the facility, said a strong
team has been assembled in Aberdeen. In addition to the
technical staff, Bender said "This plant was well-designed
from the outset and that facilitates operations. I have
been impressed by the performance of our systems."
Bender, who joined APA Optics in March, has extensive
experience in manufacturing management. Earlier assignments
included plant planning and management for Sheldahl, Inc.
and Control Data Corporation.
Dr. Jain said the Company is pleased to have the
facility up and running, and particularly to be a part of
the Aberdeen community.
The facility was constructed with financial assistance
provided by the Aberdeen Development Corporation and the
State of South Dakota.
"The Aberdeen facility was designed to meet the most
exacting standards for manufacturing and we expect it to
play a key role in the growth of APA Optics," said Dr. Jain.
FOCUS ON DIFFERING BASE MATERIALS, RARE MINERALS, LEADS TO
EXCEPTIONAL NEW OPTOELECTRONICS PRODUCTS
A basic principle followed at APA Optics is to focus on
research activities that offer the promise of marketable
products within a foreseeable time period. For example, the
Nitrides group at the Company is devoting its primary
attention to identifying product ideas and devices that can
be developed within three to six months. The goal is a
three-month time span.
Typifying this approach is APA's work on Gallium Nitride
devices, such as the Schottky ultraviolet detector
introduced last year. That innovative device was based on a
long period of research on the use of Gallium Nitride (GaN)
as a substrate material. This brought special, and
important, qualities to this UV detector, in that GaN as a
base material helps provide far greater ability to ignore
daylight and focus on ultraviolet light.
APA Optics is now introducing the second product in its
Schottky UV detector line and others are in the pipeline.
UV detectors are categorized by A, B and C classes, and the
Company will cover the spectrum. The key objective is to
get the maximum yield out of the GaN wafer. In addition,
fabrication procedures are being modified to further improve
performance. This is expected to lead to increases in
responsivity of 60 to 70 percent more than previously
available.
APA's president and chief executive officer, Anil K.
Jain, said the Nitrides research group is now working on
products to be used in flame sensing applications by
integrating the GaN devices with transistors.
The Company is recognized worldwide as a leader in research
on Nitride family materials. These include Aluminum Gallium
Nitride (AlGaN) and Indium Gallium Nitride (InGaN). Dr.
Qisheng Chen, other Ph.D.'s and the rest of the scientists
on APA's Nitrides team are considered authorities in this
area and they speak frequently before technical groups on
such topics and are published regularly in scientific
journals.
Management's Discussion and Analysis--Results of Operations:
Operating revenues for fiscal 1998 were $2,190,637, a
decrease of 21 percent from operating revenues of $2,769,270
for fiscal 1997. This significant decrease is the result of
decreased contract fees in fiscal 1998 ($1,950,844) as
compared to fiscal 1997 ($2,581,005) associated with
government contracts. It may be noted that the Company had
record contract fees during fiscal 1997 as compared to prior
fiscal years. For example, contract fees in fiscal year
1996 were $2,205,318. Contract revenues are down for two
reasons. First, the Company started to emphasize the
product development, manufacturing and marketing of its
technology based products. Second, there was a temporary
hold by the government on one of its main contracts, dating
back to November 10, 1997. This product emphasis has also
affected the Company's backlog of research contracts. The
Company's backlog of uncompleted contracts was down to $1.2
million at March 31, 1998, as compared to $3.2 million at
March 31, 1997. APA's product development efforts resulted
in the start of operations at its Aberdeen facility, with
the manufacture of Gallium Nitride-based ultraviolet
detectors. The Company currently employs 10 persons in its
Aberdeen, South Dakota production facility. The Company has
sold some test units, but has not yet recorded significant
revenues from Aberdeen.
The Company is reporting a net loss of $967,767 ($.12
per share) for fiscal 1998, as compared to a net loss of
$11,023 ($.00 per share) for fiscal 1997. The substantial
increase in losses is due to the costs associated with the
new production facility in Aberdeen, SD, and is reflected in
the cost of sales figure, $901,538 in fiscal year 1998, as
compared to $319,626 in fiscal year 1997. The Company also
incurred significantly increased legal expenses in fiscal
1998, approximately $198,000 as compared to approximately
$18,000 in fiscal 1997, due to certain litigation matters.
As the government contract work continues to diminish,
production will need to pick up in order to sustain the
revenue base. The Company anticipates these losses may
continue through fiscal 1999, depending upon the marketing
and manufacturing of ultraviolet detectors and other
products.
Liquidity & Capital Resources:
The Company's cash balance at March 31, 1998 is
$5,184,215 compared to $3,875,205 at March 31, 1997. The
increase in cash is attributable primarily to a draw on the
South Dakota Bond agreement. The Company used its working
capital to finance the Aberdeen facility during the
construction period and was subsequently reimbursed from the
South Dakota bond funds. Also, warrants outstanding from
the Company's 1995 private placement were exercised, netting
the Company in excess of $1.3 million. Most of the capital
expenditures for fiscal year 1999 will be for equipment at
the Aberdeen facility. The company will use the available
funds on the South Dakota bond agreement and other debt
agreements to finance the cost of approximately $1 million.
The Company believes it has sufficient cash reserves for
operations through fiscal 1999.
Common Stock Information
Common Stock Prices
FY '98 High Low FY'97 High Low
1st Qtr $6.50 $5.25 $6.25 $4.25
2nd Qtr 6.63 5.38 6.75 5.00
3rd Qtr 9.25 6.13 5.75 4.25
4th Qtr 8.00 5.50 5.87 4.37
The Common Stock of APA Optics, Inc. is listed on the
quotation system of The NASDAQ Small-Cap Market under the
symbol APAT. There were 372 shareholders of record on March
31, 1998. APA Optics, Inc. has not paid dividends on its
common stock and does not anticipate doing so in the
foreseeable future.
Balance Sheets
March 31
1998 1997
Assets
Current assets:
Cash and cash equivalents $5,184,215 $3,875,205
Accounts receivable 236,284 355,981
Inventories:
Raw materials11,965 1
5,666
Work-in-process and finished goods145,156 1
32,697
Prepaid expenses 22,975 27,408
Bond reserve funds 131,667 70,000
Total current assets 5,732,262 4,476,957
Property, plant and equipment 2,702,887 2,107,755
Other assets:
Bond reserve funds 653,458 2,233,362
Bond placement costs 260,012 308,012
Other 281,293 293,312
1,194,763 2
,834,686
Total assets $9,629,912 $9,419,398
Liabilities and shareholders' equity
Current liabilities:
Accounts payable $ 36,960 $ 59,210
Accrued expenses 123,437 118,216
Current maturities of long-term debt226,385 158,021
Total current liabilities 386,782 335,447
Long-term debt 3,383,267 3,670,983
Shareholders' equity:
Undesignated shares; 5,000,000 shares authorized,
none issued
Common stock, $.01 par value:
Authorized shares - 20,000,000
Issued and outstanding shares - 8,512,274 in 1998;
8,306,624 in 1997 85,123
83,066
Additional paid-in capital 9,657,028
8,244,423
Accumulated deficit (3,882,288 )
(2,914,521 )
Total shareholders' equity 5,859,863
5,412,968
Total liabilities and shareholders' equity$9,629,912
$9,419,398
See accompanying notes.
Statement of Operations
Year ended March 31
1998 1997
Revenues:
Net sales $ 239,793 $ 188,265
Contract fees 1,950,844 2,581,005
2,190,637 2,769,270
Costs and expenses:
Cost of sales 901,538 319,626
Cost of contract fees 1,430,578 1,609,574
Research and development 338,615 374,604
Selling, general and administrative616,532 594,234
3,287,263 2,898,038
Loss from operations (1,096,626) (128,768)
Interest income 310,925 274,976
Interest expense (181,066) (156,231)
Loss before income taxes (966,767) (10,023)
Income taxes 1,000 1,000
Net loss $ (967,767) $ (11,023)
Net loss per share
Basic and diluted $ (.12)$
- -
Weighted average shares outstanding
Basic and diluted 8,376,661 8,192,879
See accompanying notes.
Statement of Shareholders' Equity
Additional
Common Stock Paid-In Accumulated
Shares Amount Capital Defic
it
Balance March 31, 19967,990,007$79,900$6,930,826 $
(2,903,498 )
Stock options exercised, net2,000 203,605 -
Warrants exercised 24,625 246 81,017 -
Shares issued under private stock
offering to Aberdeen Group,
net of issuance costs289,9922,9001,197,100 -
Warrants issued for services in
connection with bond financing - -31,875 -
Net loss - - - (11,023)
Balance March 31, 19978,306,62483,0668,244,423 (
2,914,521 )
Stock options exercised, net3,500 357,871 -
Warrants exercised202,150 2,022 1,343,861 -
Warrants issued in lieu of debt
service payments - - 60,873 -
Net loss - - (967,767)
Balance March 31, 19988,512,274$85,123$9,657,028 $
(3,882,288 )
See accompanying notes.
Statement of Cash Flows
Year ended March
31 1998 1997
Operating activities
Net loss $ (967,767) $ (11,023
) Adjustments to reconcile net loss to net cash
(used in) provided by operating activities:
Depreciation and amortization 426,362 457,173
Changes in operating assets and liabilities:
Accounts receivable 119,697 50,871
Inventories (8,758) (17,564)
Costs in excess of billings on research contracts -
210,658
Prepaid expenses and other assets(31,548) (26,921)
Accounts payable and accrued expenses(17,029 )(
26,695 )
Net cash (used in) provided by operating activities(479,043)
636,499
Investing activities
Purchases of property and equipment(925,494) (
1,347,358)
Net cash used in investing activities (925,494)(1,347,358)
Financing activities
Proceeds from sales of Common Stock1,353,789 1,284,888
Long-term debt proceeds - 3,520,000
Repayment of long-term debt (158,479) (135,996)
Bond placement costs - (253,720)
Bond reserve funds (1,518,237) (2,085,417)
Net cash provided by financing activities2,713,547 2
,329,755
Increase in cash and cash equivalents1,309,010 1
,618,896
Cash and cash equivalents at beginning of year 3,875,205
2,256,309
Cash and cash equivalents at end of year$5,184,215 $
3,875,205
Supplemental disclosures of noncash investing
and financing activities
Warrants issued for services in connection
with bond financing $ - $
31,875
Warrants issued in lieu of debt service payments
60,873 -
See accompanying notes.
Notes to Financial Statements
1. Summary of Significant Accounting Policies
Nature of Business APA Optics, Inc. (the "Company") is
engaged in the business of developing, designing and
fabricating optical components and optical systems for laser
and other industrial applications.
Revenue Recognition Revenue on contract fees is recorded on
the percentage of completion method of accounting for long-
term government contracts. A portion of the total contract
price is recognized on the basis of contract costs incurred
to date as compared to the expected total cost of the
contract. Contract costs include direct materials, labor
and manufacturing overhead. Estimated losses on uncompleted
contracts are recorded in their entirety in the period in
which they are determined.
Cash Equivalents The Company considers all highly liquid
investments with a maturity of three months or less when
purchased to be cash equivalents. Investments classified as
cash equivalents consist primarily of certificates of
deposit. The market value of investments is based on quoted
market prices which approximates cost.
1. Summary of Significant Accounting Policies (continued)
Inventories Inventories are stated at the lower of cost or
market. Cost is determined by the first-in, first-out
(FIFO) method for raw materials, actual cost for direct
labor and average cost for factory overhead in work in
process.
Property and Equipment Property and equipment are stated at
cost. Depreciation is provided on the straight-line method
over the following estimated useful lives of the assets:
Years
Building 20
Manufacturing equipment 7 - 10
Tools 3 - 7
Office equipment 5 - 10
Leasehold improvements 15
Bond Placement Costs Bond placement costs are amortized
over 5 - 8 years.
Use of Estimates The preparation of financial statements in
conformity with generally accepted accounting principles
requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and
accompanying notes. Actual results differ from those
estimates.
Income Taxes The Company accounts for income taxes using
the liability method. Deferred tax assets and liabilities
are recognized for the future tax consequences attributable
to temporary differences between the financial statement
carrying amounts of assets and liabilities and their
respective tax basis.
Per Share Data The Company has adopted Financial Accounting
Standards Board Statement No. 128, "Earnings Per Share."
Statement 128 replaced the calculation of primary and fully
diluted earnings per share with basic and diluted earnings
per share. Unlike primary earnings per share, basic
earnings per share excludes any dilutive effects of options,
warrants and convertible securities. Diluted earnings per
share is very similar to the previously reported fully
diluted earnings per share. All earnings per share amounts
for all periods have been presented and, where appropriate,
restated to conform to the Statement 128 requirements.
Impairment of Long-Lived Assets The Company records losses
on long-lived assets in operations when indicators of
impairment are present and the undiscounted cash flows
estimated to be generated by those assets are less than the
assets' carrying amount.
2. Accounts Receivable Accounts receivable includes $34,907
billed under retainage provisions of government contracts in
1998 ($40,309 in 1997).
3. Property, Plant and Equipment Property and equipment
consists of the following:
March 31
1998 1997
Land $ 60,000$ 60,000
Building 1,679,424 1,217,599
Manufacturing equipment 3,665,116 3,218,627
Tools 88,092 88,092
Office equipment 186,621 185,448
Leasehold improvements 536,447 536,447
6,215,700 5,306,213
Less accumulated depreciation 3,512,813 3,198,458
$2,702,887 $2,107,755
4. Other Assets Other assets include $221,000 at March 31,
1998 and 1997 representing premiums paid by the company on a
life insurance policy owned by the Company's president.
5. Long-Term Debt Long-term debt consists of the following:
March 31
1998 1997
7% Minnesota Agricultural and Economic Development
Board Bond, due
in increasing serial maturities
through fiscal year ending March 31, 2000, secured
by manufacturing equipment $ 240,000 $345,000
Debt associated with the production facility in Aberdeen,
South Dakota 3,369,6523,484,004
3,609,6523,829,004
Less current maturities 226,385 158,021
$3,383,267 $3,670,983
In December 1989, the Company entered into a loan agreement
with the Minnesota Agricultural and Economic Development
Board to provide financing for the expansion of
manufacturing facilities. At March 31, 1998 and 1997, the
Company had on deposit with trustees $211,417 and $204,750
in reserve for future payments on these bonds of which
$76,667 and $70,000 is held in escrow for the payment of
current bond maturities. The loan agreement requires the
Company to maintain certain minimum levels of net worth and
to maintain certain income to outstanding debt ratios. The
Company was out of compliance with these covenants in fiscal
1998. Such noncompliance does not constitute an event of
default, but triggers further covenants under the loan
agreement with which the Company is in compliance at March
31, 1998. The carrying value of the bonds approximates
market value at March 31, 1998 and 1997.
In June 1996, the Company began construction of its new
production facility in Aberdeen, South Dakota to fabricate
wavelength division multiplexed modulators. As part of its
financing of the facility, the Company has received economic
assistance from the State of South Dakota Governor's Office
of Economic Development and the Aberdeen Development
Corporation (the parties) as follows:
Proceeds:
Bond financing for building construction and equipment
$1,895,000
Low interest loans 875,000
Forgivable loans 750,000
Equity investment of 288,992 shares of common stock
1,200,000
$4,720,000
The following is a summary of the outstanding debt at March
31 related to the Aberdeen facility:
1998 1997
South Dakota Governor's Office of Economic Development
and the Aberdeen Development Corporation Bond, 5% to
6.75% due in various installments through 2016$ 1,895,000
1,895,000
Low interest loans, 0% to 3% due in various installments
through 2016 785,525 839,004
Forgivable loans, 3% due in various installments
through 2003 689,127 750,000
$3,369,652 $3,484,004
5. Long-Term Debt (continued)
The forgivable loans are contingent upon employment levels
at the facility meeting preset criteria. In exchange for
any loans forgiven, the Company will issue warrants to
purchase common stock of the Company based on the number of
job credits earned by the Company in the twelve months
divided by the exercise price. The exercise price shall be
$4.00 per share for warrants issued as of June 23, 1997 and
shall increase $1.00 per year thereafter through June 23,
2001. As of March 31, 1998, 12, 175 warrants have been
issued for loans forgiven totaling $60,873. No warrants had
been issued as of March 31, 1997. The carrying value of the
low interest loans and forgivable loans approximates market
at March 31, 1998 and 1997.
At March 31, 1998, the Company had on deposit with trustees
$573,708 in reserve funds for current bond maturities of
which $55,000 is held in escrow. At March 31, 1997, the
Company had on deposit with trustees $2,098,612 in funds
available for project costs. These funds are included in
bond reserve funds in the accompanying balance sheets. The
loan agreement requires the Company to maintain certain
minimum levels of net worth and to maintain certain income
to outstanding debt ratios. The Company was out of
compliance with these covenants in fiscal 1998. Such
noncompliance does not constitute an event of default, but
triggers further covenants under the loan agreement with
which the Company is in compliance at March 31, 1998. The
carrying value of the bonds approximates market value at
March 31, 1998 and 1997.
In addition, the Company has available $750,000 in
promissory notes to be used for the purchase of equipment in
the new facility. There were no outstanding borrowings
under the notes at March 31, 1998 and 1997.
As partial payment of expenses related to the Aberdeen
financing, the Company issued warrants to purchase 31,875
shares of the Company's common stock at an exercise price of
$4.00 per share. The warrants expire in September 2000.
The value assigned to the warrants of $31,875 has been
capitalized as bond placement costs and is amortized over
the life of the loan agreement.
As part of the Company's plan to construct this production
facility, the city of Aberdeen, South Dakota gave the
Company land with an approximate fair market value of
$250,000. The gift was contingent upon the Company staying
in the new building through June 23, 2002.
Interest paid during fiscal year 1998 and 1997 was $181,066
and $156,231, respectively.
Maturities of long-term debt are as follows (assuming no
debt is forgiven): 1999 - $226,385; 2000 - $256,874; 2001 -
$138,525; 2002 - $376,501; 2003 - $576,354; thereafter -
$2,035,013.
6. Income Taxes As of March 31, 1998, the Company has
net operating loss carryovers for federal income tax
purposes of approximately $4,100,000 which expire in fiscal
years 2001 to 2012 and $43,000 in research and development
credits which can be used to offset federal income taxes.
Credits will expire in fiscal years 2000 to 2005.
Deferred income taxes reflect the net tax effects of
temporary differences between the carrying amounts used for
financial reporting purposes and the amounts used for income
tax purposes. Significant components of the Company's
deferred taxes are as follows:
March 31
1998 1997
Net operating losses $1,405,000 $1,037,000
Depreciation 11,000 54,000
Research and development credits 43,000 43,000
Other 24,000 21,000
Total deferred tax asset 1,483,000 1,155,000
Less valuation allowance (1,483,000) (1,155,000)
Net deferred taxes $ - $ -
Income tax expense consists of state taxes in 1998 and 1997.
7. Shareholders' Equity The Board of Directors may by
resolution establish from the undesignated shares different
classes or series of shares and may fix the relative rights
and preferences of shares in any class or series.
8. Stock Options and Warrants In fiscal years 1998 and
1997, certain shareholders tendered 2,500 and 2,000 shares,
respectively, of common stock as substantial payment for
6,000 and 4,000 shares, respectively, purchased upon
exercise of their stock options.
Option activity is summarized as follows:
Shares Weighted Average
Available Options Exercise Price
for Grant Outstanding Per Share
Balance March 31, 1996236,338 10,000
$ 3.94
Additional shares reserved500,000 -
-
Granted (75,000 )75,000
5.19
Exercised - (4,000 )
3.50
Balance March 31, 1997661,338 81,000
5.20
Additional shares reserved500,000 -
-
Granted (25,000 )25,000
6.19
Exercised - (6,000 )
4.22
Canceled 70,000 (70,000 )
5.19
Balance March 31, 19981,206,338 30,000 $ 6.10
The Company has an incentive and non-qualified stock option
plan for employees and has reserved an additional 500,000
shares for option grants at management's discretion.
The number of shares exercisable at March 31, 1998 and 1997
was 5,000 and 6,000, respectively, at a weighted average
exercise price of $5.65 and $4.88 per share, respectively.
The weighted average fair value of options granted in 1998
and 1997 was $2.83 and $2.99 per share, respectively. The
exercise price of options outstanding at March 31, 1998
ranged from $5.65 to $6.50 per share.
Pro forma information regarding net loss and net loss per
share is required by Statement 123, and has been determined
as if the Company had accounted for its employee stock
options under the fair value method of Statement 123. The
fair value for these options was estimated at the date of
grant using a Black-Scholes option pricing model with the
following weighted-average assumptions for 1998 and 1997,
respectively: risk-free interest rates ranging from 5.61% to
6.54%, volatility factor of the expected market price of the
Company's Common Stock of .44 and .60 and a weighted-average
expected life of the options of 5 years.
The Black-Scholes option valuation model was developed for
use in estimating the fair value of traded options which
have no vesting restrictions and are fully transferable. In
addition, option valuation models require the input of
highly subjective assumptions. Because the Company's
employee stock options have characteristics significantly
different from those of traded options, and because changes
in the subjective input assumptions can materially affect
the fair value statement, in management's opinion, the
existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
8. Stock Options and Warrants (continued)
For purposes of pro forma disclosures, the estimated fair
value of the options is amortized to expense over the
options' vesting period. The Company's pro forma
information is as follows:
1998 1997
Pro forma net loss $(991,568)
$(16,249)
Pro forma net loss per common share - basic and diluted
$(.12) $ -
These pro forma amounts may not be indicative of future
years' amounts since the Statement provides for a phase-in
of option values beginning with those granted in fiscal
1996.
The following is a table of the warrants to purchase shares
of the Company's Common Stock:
Warrants Exercise Price Expiration
Outstanding per Share Date
Balance at March 31, 1996415,000 $3.30 - $6.75
1996 - 2001
Granted 31,875 4.00 2000
Exercised (24,625) 3.30 2001
Expired (20,375) 3.30 1996
Balance at March 31, 1997401,875 3.30 - 6.75
1999 - 2001
Granted 12,175 5.00 2001
Exercised (202,150) 3.30 - 6.75 1999 - 2001
Expired (103,250) 6.75 1997
Balance at March 31, 1998108,650 3.30 - 6.95
1999 - 2001
9. Commitments The Company leases office and manufacturing
facilities from a partnership whose two partners are major
shareholders and officers of the Company. The lease
agreement, classified as an operating lease, expires
November 30, 1999 and provides for periodic increases of the
rental rate based on increases in the consumer price index.
Future minimum lease obligations under the lease as of March
31, 1998 are as follows:
Year ending March 31:
1999 $116,000 2000
77,000
$193,000
Rental expense was $118,000 during each of the fiscal years
ended March 31, 1998 and 1997, all of which was paid to the
partnership.
10. Major Customer Several operating agencies of the U.S.
Government account for more than 10% of the Company's net
sales and contract fees. Total revenue from the agencies
was $1,950,844 in 1998 and $2,581,005 in 1997 as follows:
1998 1997
Air Force 20% 42%
Army 25 22
Navy 38 36
ARPA 17 -
Total 100 %100 %
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Shareholders
APA Optics, Inc.
We have audited the accompanying balance sheets of APA
Optics, Inc. as of March 31, 1998 and 1997, and the related
statements of operations, shareholders' equity and cash
flows for the years then ended. These financial statements
are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally
accepted auditing standards. Those standards require that
we plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide
a reasonable basis for our opinion.
In our opinion, the financial statements referred to above
present fairly, in all material respects, the financial
position of APA Optics, Inc. at March 31, 1998 and 1997, and
the results of its operations and its cash flows for the
years then ended in conformity with generally accepted
accounting principles.
Minneapolis, Minnesota
April 29,1998
Ernst & Young LLP
Annual Meeting The Annual Meeting of Shareholders will
be held on August 19, 1998 at 3:30 PM at the Sheraton
Minneapolis Metrodome, 1330 Industrial Blvd., Minneapolis,
Minn.
Availability of Form 10-KSB Shareholders may obtain,
exclusive of exhibits, a copy of the annual report to the
Securities and Exchange Commission (Form 10-KSB) for the
year ended March 31, 1998 by writing to the Company,
Attention: Corporate Secretary, APA Optics, 2950 84th Lane,
Blaine, MN 55449.
Stock Transfer Agent Norwest Bank, 161 N. Concord
Exchange, So. St. Paul, MN 55075
Corporate Officers
Anil K. Jain, President and Treasurer
Kenneth A. Olsen, Vice President and Secretary
Randal J. Becker, Principal Accounting Officer
Counsel: Moss & Barnett, P. A.
Minneapolis, Minnesota
Independent Auditors: Ernst & Young, LLP
Minneapolis, Minnesota
Investor Relations: The Wallace Group,
Eagan, Minnesota
