SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10K
(Mark one)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 or 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Fiscal Year ended April 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File No. 1-8061
FREQUENCY ELECTRONICS, INC.
(Exact name of Registrant as specified in its charter)
Delaware 11-1986657
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
55 CHARLES LINDBERGH BLVD., MITCHEL FIELD, N.Y. 11553
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 516-794-4500
Securities registered pursuant to Section 12 (b) of the Act:
Name of each exchange on
Title of each class which registered
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Common Stock (par value $1.00 per share) American Stock Exchange
Securities registered pursuant to Section 12 (g) of the Act:
None
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 by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12 b-2). Yes No X
--- ---
The aggregate market value of voting stock held by non-affiliates of the
Registrant as of October 31, 2003 - $56,400,000
APPLICABLE ONLY TO CORPORATE ISSUERS:
The number of shares outstanding of Registrant's Common Stock, par value $1.00
as of July 23, 2004 - 8,440,832
DOCUMENTS INCORPORATED BY REFERENCE: PART III incorporates information by
reference from the definitive proxy statement for the Annual Meeting of
Stockholders to be held on or about September 30, 2004.
(Cover page 1 of 59 pages)
Exhibit Index at Page 52
PART I
Item 1. Business
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GENERAL DISCUSSION
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Frequency Electronics, Inc. (sometimes referred to as "Registrant",
"Frequency Electronics" or "Company") was founded in 1961 as a research and
development firm in the technology of time and frequency control. Unless the
context indicates otherwise, references to the Registrant or the Company are to
Frequency Electronics, Inc. and its subsidiaries. References to "FEI" are to the
parent company alone and do not refer to any of the subsidiaries.
Frequency Electronics was incorporated in Delaware in 1968 and became the
successor to the business of Frequency Electronics, Inc., a New York
corporation, organized in 1961. The principal executive office of Frequency
Electronics is located at 55 Charles Lindbergh Boulevard, Mitchel Field, New
York 11553. Its telephone number is 516-794-4500 and its website is
www.frequencyelectronics.com.
In the mid-1990's, the Company transformed itself from primarily a defense
contract manufacturer into a high-tech provider of precision time and frequency
products for commercial applications found in both ground-based communication
stations and on-board satellites. The Company also continues to support the
United States government with products for defense and space applications.
The Company is a world leader in the design, development and manufacture
of high-technology frequency, timing and synchronization products for satellite
and terrestrial voice, video and data telecommunications. The Company's
technologies provide unique solutions that are essential building blocks for the
next generation of broadband wireless and for the ongoing expansion of existing
wireless and wireline networks. The Company's mission is to provide the most
advanced control of frequency and time - essential factors for synchronizing
communication networks and for providing reference frequencies for certain
military, commercial and scientific, terrestrial and space applications.
The Company has divided its operations into four principal markets:
(1) Products for commercial communications which are based either on the
ground or in space. The Company's space and terrestrial commercial
communications programs are produced by its wholly owned subsidiary, FEI
Communications, Inc. ("FEIC"). FEIC was incorporated in Delaware in December
1991, and was created as a separate subsidiary company to provide ownership and
management of assets and other services appropriate for commercial clients, both
domestic and foreign
(2) Products used by the United States Government for defense or space
applications. The Company's subsidiary, FEI Government Systems, Inc.
("FEI-GSI"), was formed to focus on supplying the Company's technology and
legacy proprietary products to the United States military and other U.S.
government agencies.
(3) Products for wireline and network synchronization systems. These
products are produced by Gillam-FEI, the Company's Belgian subsidiary, acquired
in September 2000. Products delivered by Gillam-FEI provide essential network
monitoring and wireline synchronization for a variety of industries and
telecommunications providers in Europe, Africa, the Middle East and Asia.
(4) Products that incorporate global positioning systems ("GPS")
technology. These precision time and frequency generation and synchronization
products are manufactured by the Company's newly-acquired subsidiary FEI-Zyfer,
Inc. ("FEI-Zyfer"). As described more fully below, early in fiscal year 2004,
the Company acquired the business and net assets of Zyfer, Inc. forming a new
wholly-owned subsidiary. FEI-Zyfer's GPS capability complements the Company's
existing technologies and permits the combined entities to provide a broader
range of embedded systems for a variety of timing functions.
During fiscal year 2002, the Company formed two new wholly-owned
subsidiaries to provide broader manufacturing capabilities and worldwide reach
for the Company's proprietary products. Frequency Electronics, Inc. Asia
("FEI-Asia") was established as an Asian-based low cost manufacturer of certain
of the Company's commercial communications products. FEI-Europe, GmbH
("FEI-Europe") was established as a European sales and marketing office to
promote the Company's new line of crystal
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oscillators as well as other proprietary products. FEI-Asia and FEI-Europe are
included in the Company's commercial communications operations.
Also in fiscal 2002 the Company made a strategic investment in Morion,
Inc., a Russian crystal oscillator manufacturer located in St. Petersburg,
Russia. The Company's equity investment in Morion permits the Company to secure
a low cost source for high precision quartz resonators and crystal oscillators,
many of which will be based on the Company's design and development work. In
late fiscal 2004, the Company increased its investment in Morion. (See Note 8 to
the financial statements.)
FISCAL 2004 AND 2003 SIGNIFICANT EVENTS
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Acquisition of FEI-Zyfer, Inc.
On May 9, 2003, the Company acquired the business and net assets of Zyfer,
Inc., a wholly-owned subsidiary of Odetics, Inc., in a cash transaction. (Note-
Subsequent to this transaction, Odetics changed its corporate name to Iteris,
Inc.) The Company paid $2.3 million at closing, plus acquisition costs of
approximately $400,000. According to the terms of the purchase agreement, the
Company will pay up to a maximum of $1 million to Iteris, Inc. in each of fiscal
years 2004 and 2005 if FEI-Zyfer achieves certain revenue levels in those years.
The contingent payments are based on a percentage of revenues in excess of $6
million in fiscal 2004 and as a percentage of revenues in excess of $8 million
in fiscal 2005. Based on FEI-Zyfer's performance in fiscal year 2004, the
Company will pay an additional $140,000 to Iteris, Inc. FEI-Zyfer, with its own
management team, is a fourth reportable segment in the Company's financial
statements.
Tax Adjustments
During fiscal year 2004, the Company realized a tax benefit of $400,000 as
the result of the reversal of certain tax liabilities. Such liabilities were
established in prior years to recognize the potential tax contingency for
certain judgmental tax adjustments and tax estimates. The Company's income tax
returns were examined by the Internal Revenue Service and no changes were
required for the years under audit. Accordingly, the tax liabilities established
in those years are no longer required and the reversal of such liabilities was
recorded as a tax benefit in the current year.
Goodwill Impairment
In the fourth quarter of fiscal year 2003, the Company performed an
impairment test of the Gillam-FEI reporting unit. The fair value of this
reporting unit was determined based upon valuations utilized in recent industry
acquisition transactions and current market values of publicly-traded
competitors and customers in the same industry as Gillam-FEI. Based on this
test, the Company further analyzed its investment in Gillam-FEI and concluded
that the goodwill associated with this acquisition was impaired. Consequently,
the Company recorded a non-cash charge of $6.2 million against operating income
for fiscal 2003 to reflect the write down of the full value of goodwill related
to the Gillam-FEI acquisition.
Inventory Adjustments
The Company reduced the value of its inventory by approximately $3.6
million during the fourth quarter of fiscal 2003 due to events occurring at the
end of the fiscal year. First, in April 2003, a customer notified the Company
that the customer had cancelled an export-related contract which required the
Company to write-off the related work-in-process inventory. Second, after
experiencing modest improvement in telecommunications-related revenues earlier
in the year, fourth quarter Commercial Communications segment revenue declined
nearly 40% from the third quarter of fiscal year 2003. As a consequence, noting
the competitive environment, the Company reduced certain inventory to estimated
realizable value based on lowered sales volume expectations. Finally, during the
fourth quarter of fiscal 2003, the Company completed certain process and product
improvement projects which resulted in re-valuation or disposal of certain
products built under previous designs.
REPORTABLE SEGMENTS
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The Company operates under four reportable segments, aligned with the four
markets described above: (1) Commercial Communications; (2) U.S. Government; (3)
Gillam-FEI; and (4) FEI-Zyfer. Within
3
each segment the Company designs, develops, manufactures and markets precision
time and frequency control products for different markets as described below.
The products for the Commercial Communications segment are principally
marketed to wireless communications networks and to the commercial satellite
market. The operations of FEI-Asia and FEI-Europe are included in the Commercial
Communications segment. Both the Commercial Communication segment and the US
Government segment are under common management and most product design,
development and manufacturing is conducted in the Company's facility located in
New York. The Company identifies the U.S Government business as a reportable
segment based upon the regulatory environment (Federal Acquisition Regulations
or "FAR") under which it operates when dealing with U.S. Government procurement
contracts versus the less restrictive commercial environment. The Gillam-FEI
segment designs, develops and manufactures products for wireline and network
synchronization. Its products are currently sold to non-U.S. customers. The
FEI-Zyfer segment designs and manufactures products which incorporate GPS
technologies. FEI-Zyfer sells its products to both commercial and US Government
customers and collaborates with other FEI segments on joint product development
activities.
During fiscal years 2004, 2003 and 2002 approximately 56%, 47%, and 63%,
respectively, of the Company's sales were for products used for terrestrial or
space-based commercial communications and foreign governments. Sales for
Gillam-FEI were approximately 17%, 25% and 26% of fiscal 2004, 2003 and 2002
revenues, respectively. For the years ended April 30, 2004, 2003 and 2002,
approximately 14%, 28% and 11%, respectively, of the Company's sales were for
U.S. Government end-use. In fiscal 2004, sales for the FEI-Zyfer segment were
13% of consolidated revenues. Sales information for the Commercial
Communications, U.S. Government, Gillam-FEI, and FEI-Zyfer markets during each
of the last five years are set forth in Item 6 (Selected Financial Data).
Consolidated revenues include sales to end-users in countries located
outside of the United States. During fiscal years 2004, 2003 and 2002, foreign
sales comprised 54%, 38% and 42%, respectively, of consolidated revenues.
Segment information regarding revenues, including foreign sales, operating
profits, depreciation and assets is more fully disclosed in Note 15 to the
accompanying financial statements.
Commercial Communications segment:
The Company provides high-tech precision time and frequency products that
are found in both ground-based communication stations and on-board commercial
satellites. The Company has made a substantial investment in research and
development to apply its core technologies to the commercial markets. In
previous years, the Company experienced accelerated growth in commercial
communications revenues. However, this revenue growth trend was interrupted in
fiscal years 2002 and 2003. Current overall market conditions in the
telecommunications industry have improved in the latter half of fiscal year
2004. The Company anticipates that this industry will provide an opportunity for
future sales growth based on increased capital spending by telecommunication
companies and new or replacement orders for commercial communication satellites.
Terrestrial- Wireless
The development of new or improved technologies brings expanded and more
reliable telecommunications services to the public. As digital cellular systems
and PCS networks grow they require more base stations to meet the demand for
better connectivity, higher data rates and quality of cell phone service.
Cellular infrastructure integrators and original equipment manufacturing
companies, consisting of some of the world's largest telecommunications
companies, are building out existing networks even as they develop new
technologies, such as EDGE (Enhanced Data rates for Global Evolution), 3G (3rd
Generation) and other systems, to provide not only improved voice connectivity
but also Internet, video and data transmission.
Wireless communication networks consist of numerous installations located
throughout a service area, each with its own base station connected by wire or
microwave radio through a network switch. Network operators are in the process
of converting older networks from analog to digital technology and enhanced
systems such as CDMA (Code Division Multiple Access). These upgrades require
more precise frequency control at the base stations to achieve a higher degree
of services.
With increased demand for wireless services on limited bandwidth, the
requirement for precise timing becomes paramount. The Company manufactures a
Rubidium Atomic Standard, a small, low cost,
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stable atomic "clock" as well as temperature stable quartz crystal oscillators,
which are ideally suited for use in advanced cellular communications base
stations. Whether the network uses CDMA, TDMA (Time Division Multiple Access) or
GSM (Global System for Mobile Communications) or a hybrid, such as EDGE, timing
to ensure signal synchronization is essential.
Space-based
The commercial use of satellites launched for communications, navigation,
weather forecasting, video and data transmissions has increased the need to
transmit information to earth-based receivers. This requires precise timing and
frequency control at the satellite. The Company manufactures the master clocks
(quartz, rubidium and cesium) and other significant timing products for many
satellite communication systems. The Company's space hybrid assemblies are used
onboard spacecraft for command, control and power distribution. Efficient and
reliable DC-DC power converters are also manufactured for the Company's own
instruments and as stand-alone products for space applications. The Company's
subminiature oven-controlled quartz crystal oscillator is a low cost, small
size, precision crystal oscillator suited for high-end performance required in
satellite transmissions, airborne telephony and geophysical survey positioning
systems. Commercial satellite programs such as Intelsat, ANIK, Eutelsat,
Inmarsat and Worldstar have utilized the Company's space-qualified products.
U.S. Government segment:
The Company's sales in the U.S. Government segment are made under fixed
price contracts either directly with U.S. Government agencies or indirectly
through subcontracts intended for government end-use. The price paid to the
Company is not subject to adjustment by reason of the costs incurred by the
Company in the performance of the contract, except for costs incurred due to
contract changes ordered by the customer. These contracts are on a negotiated
basis under which the Company bears the risk of cost overruns and derives the
benefit from cost savings.
Negotiations on U.S. Government contracts are sometimes based in part on
Certificates of Current Costs. An inaccuracy in such certificates may entitle
the government to an appropriate recovery. From time to time, the Defense
Contracts Audit Agency ("DCAA") of the Department of Defense audits the
Company's accounts with respect to these contracts. The Company is not aware of
any basis for recovery with respect to past certificates.
All government end-use contracts are subject to termination by the
purchaser for the convenience of the U.S. Government and are subject to various
other provisions for the protection of the U.S. Government. In the event of such
termination, the Company is entitled to receive compensation as provided under
such contracts and in the applicable U.S. Government regulations.
The Company's proprietary products have been used in guidance, navigation,
communications, radar, sonar surveillance and electronic countermeasure and
timing systems. Products are built in accordance with Department of Defense
standards and are in use on many of the United States' most sophisticated
military aircraft, satellites and missiles. The Global Positioning Satellite
System, the MILSTAR Satellite System and the AEHF Satellite System, are examples
of the programs in which the Company participates. The Company has manufactured
the master clock for the Trident missile, the basic timing system for the
Voyager I and Voyager II deep space exploratory missions and the quartz timing
system for the Space Shuttle. The Company's cesium beam atomic clock is
presently employed in low frequency secure communications, surveillance and
positioning systems for the United States Air Force, Navy and Army.
Gillam-FEI segment:
Gillam-FEI extends the Company's competencies into wire-line
synchronization, network monitoring, specialized test equipment, and power
supply products. With the advent of new digital broadband transmission
technologies, reliable synchronization has become the warranty to quality of
service for telecom operators. Gillam-FEI is among the world leaders in the
field of wireline synchronization, and its products are targeted for
telecommunication operators and network equipment manufacturers that utilize
modular and flexible platforms to build reliable digital-network-systems
worldwide. Telecommunications operators such as Belgacom, France Telecom,
Telefonica and other service providers are among Gillam-FEI's major customers.
5
Network monitoring systems marketed under the brand name LYNX, are a
flexible suite of complementary software modules that are arranged to satisfy
the specific needs of telecom operators, electrical utilities, and other
operators of distribution networks. The multi-task capability of the LYNX system
allows operators to supervise and manage the distribution of electricity, gas,
video cables, public lighting, and other networks. Deregulation of utilities,
especially in Europe, has created a greater demand for the LYNX product. Major
customers presently using LYNX include SIG Electrical Services of Geneva,
Switzerland; Electricity Distribution Management for the city of Lausanne,
Switzerland; UEM Electricity Distribution Management for the city of Metz,
France; Brussels International Airport and Belgian Railways.
Specialized test equipment and power supply products are mainly targeted
for the telecommunications industry.
FEI-Zyfer segment:
FEI-Zyfer designs, develops and manufactures products for precision time
and frequency generation and synchronization, primarily incorporating GPS
technology. The products make use of both "in-the-clear" civil and
"crypto-secured" military signals from GPS. In most cases, FEI-Zyfer's products
are integrated into communications systems, computer networks, test equipment,
and military command and control terminals for ground and satellite link
applications. Approximately 50% of revenues are derived from sales where the end
user is the US Government. FEI-Zyfer's products are an important extension of
FEI's core product line, particularly in the area of GPS capabilities.
PRODUCTS
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The Company's products are manufactured from raw material which, when
combined with conventional electronic parts available from multiple sources,
become finished products used for commercial wireless and wireline
communications, satellite applications, space exploration, position location,
radar, sonar and electronic counter-measures. These products are employed in
ground-based earth stations, fixed, transportable, portable and mobile
communications installations, domestic and international satellites, as well as
aircraft, ships, submarines and missiles. The Company's products are marketed as
components, instruments, or complete systems. Prices are determined based upon
the complexity, design requirement, purchased quantity and delivery schedule.
Components - The Company's key technologies utilize quartz, rubidium and
cesium to manufacture precision time and frequency standards and higher level
assemblies which allow the users to generate, transmit, and receive synchronous
signals in order to communicate effectively, locate their position, secure a
communications system, or guide a missile. The components class of the Company's
products includes crystal filters and discriminators, surface acoustic wave
resonators, and high-reliability thick and thin film hybrid assemblies for space
and other applications.
Precision quartz oscillators use quartz resonators in conjunction with
electronic circuitry to produce signals with accurate and stable frequency. The
Company's products include several types of quartz oscillators, suited to a wide
range of applications, including ultrastable and low-g sensitivity units for
moving platforms and satellite systems, and fast warm-up, low power consumption
units for mobile applications, including wideband-CDMA voice and data
communications.
The ovenized quartz oscillator is the most accurate type, wherein the
oscillator crystal is enclosed in a temperature controlled environment called a
proportional oven. The Company manufactures several varieties of temperature
controlling devices and ovens.
The voltage-controlled quartz oscillator is an electronically controlled
device wherein the frequency may be stabilized or modulated, depending upon the
application.
The temperature compensated quartz oscillator is electronically controlled
using a temperature sensitive device to directly compensate for the effect of
temperature on the oscillator's frequency.
The rubidium lamp, filter and resonance cell provide the optical
subassembly for the manufacture of the Company's optically pumped atomic
rubidium frequency standards. The cesium tube resonator is used in the
manufacture of the Company's cesium primary standard atomic clocks.
6
High reliability hybrid assemblies are manufactured in thick and thin film
technologies for applications from DC to 44 GHz. These are used in manufacturing
the Company's products and also supplied directly to customers, for space and
other high reliability systems.
Efficient and reliable DC-DC power converters are manufactured for the
Company's own instruments and as stand alone products, for space applications.
The Company manufactures filters and discriminators using its crystal
resonators for its own radio-frequency and microwave receiver, signal
conditioner and signal processor products.
Instruments - The Company's instrument line consists of three basic time
and frequency generating instruments and a number of instruments which test and
distribute the time and frequency. The Company's time and frequency generating
instruments are the quartz frequency standard, rubidium atomic standard and
cesium beam atomic standard.
The quartz frequency standard is an electronically controlled solid-state
device which utilizes a quartz crystal oscillator to produce a highly stable
output signal at a standardized frequency. The Company's frequency standard is
used in communications, guidance and navigation and time synchronization. The
Company's products also include a precision frequency standard with battery
back-up and memory capability enabling it to remain in operation if a loss of
power has occurred.
The optically pumped atomic rubidium frequency standard is a solid-state
instrument which provides both timing and low phase noise frequency references
used in commercial communications systems. Rubidium oscillators combine
sophisticated glassware, light detection devices and electronics packages to
generate a highly stable frequency output. Rubidium, when energized by a
specific radio frequency, will absorb less light. The oscillator's electronics
package generates this specific frequency and the light detection device
ensures, through monitoring the decreased absorption of light by the rubidium
and the use of feedback control loops, that this specific frequency is
maintained. This highly stable frequency is then captured by the electronics
package and generated as an output signal. Rubidium oscillators provide atomic
oscillator stability, at lower costs and in smaller packages.
The cesium beam atomic standard utilizes the atomic resonance
characteristics of cesium atoms to generate precise frequency several orders of
magnitude more accurate and stable than other types of quartz frequency
generators. The Company's atomic standard is a compact, militarized solid-state
device which generates these precision frequencies for use with advanced
communications and navigation equipment. A digital time-of-day clock is
incorporated which provides visual universal time display and digital timing for
systems use. The atomic standard manufactured by the Company is a primary
standard, capable of producing time accuracies of better than one second in
seven hundred thousand years.
As the demands on communications systems increase, the requirement for
precise frequency signals to drive a multitude of electronic equipment is
greatly expanded. To meet this requirement, the Company manufactures a
distribution amplifier which is an electronically controlled solid-state device
that receives a base frequency from a frequency standard and provides multiple
signal outputs of the input frequency. A distribution amplifier enables many
items of electronic equipment in a single facility, aircraft or ship to receive
a standardized frequency and/or time signal from a quartz, rubidium or cesium
atomic standard.
Systems - The systems portion of the Company's business includes
manufacturing and integrating selections of its specialized components into
higher level subsystems and systems that meet customer-defined needs. The
Company has a unique knowledge of interfacing these technologies and experience
in applying them to a wide range of systems. The systems generate electronic
frequencies of predetermined value and then divide, multiply, mix, convert,
modulate, demodulate, filter, distribute, combine, separate, switch, measure,
analyze, and/or compare these signals depending on the system application.
This portion of the Company's business includes a complete line of time
and frequency control systems, capable of generating many frequencies and time
scales that may be distributed to widely dispersed users, or within the confines
of a facility or platform, or for a single dedicated purpose. Time and frequency
control systems combine the Company's cesium, rubidium and/or crystal
instruments with its other components, to provide systems for wireless,
wireline, space and defense applications.
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For the wireless industry, the Company integrates its core components such
as quartz oscillators and rubidium atomic standards with software applications,
microprocessors, and other digital circuitry into complete subsystems. These
subsystems supply frequency and time reference signals that facilitate wireless
communications and are necessary for the various wireless technologies to
operate properly. The customers for these subsystems are global wireless
infrastructure manufacturers.
For the wireline industry, the Company integrates its core components with
other electronic modules into high-level platforms that provide a total
synchronization solution. These signal synchronization units ("SSUs") are
primarily designed and manufactured by Gillam-FEI. SSUs are inserted into
digital telecommunication networks and provide reliable synchronization for
proper operation of the network. The systems are primarily sold to
telecommunication operators and vary from a few SSUs for a simple network to
hundreds of units for complex networks. For operators of distribution networks
such as electrical utilities and telecommunications operators, the Company
offers the LYNX system--a flexible suite of complementary software modules that
are distinctively combined to satisfy the requirements of the users. With the
advent of digital broadband transmission technologies, reliable synchronization
has become the Quality of Service for telecommunications operators world-wide.
For the space and defense sectors the Company combines its core products
in a wide range of diverse applications that provide systems for space and
ground based communications, space exploration, satellite tracking stations,
satellite-based navigation and position location, secure communication,
submarine and ship navigation, calibration, and electronic counter-measures
applications. These time and frequency control systems can provide up to
quadruple redundancy to assure operational longevity and dependability.
The Company's new subsidiary, FEI-Zyfer, manufactures products
incorporating GPS technology by utilizing GPS signals to derive time and
frequency information. These systems and subsystems are used in Enhanced
wireless 911 (E911), secure government (SAASM- Selective Acquisition
Anti-spoofing Module) and commercial communications and other applications.
The GPS expertise of FEI-Zyfer has been joined with the technological
capabilities and experience of FEIC in building crystal oscillators for harsh
environments, to jointly develop a new system to be utilized in deep earth
drilling.
BACKLOG
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As of April 30, 2004, the Company's consolidated backlog amounted to
approximately $36 million (see Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations). Approximately 80% of this
backlog is expected to be filled during the Company's fiscal year ending April
30, 2005. The backlog, which reflects only firm purchase orders and contracts,
is subject to change by reason of several factors including possible
cancellation of orders, change orders, terms of the contracts and other factors
beyond the Company's control. Accordingly, the backlog is not necessarily
indicative of the revenues or profits (losses) which may be realized when the
results of such contracts are reported.
CUSTOMERS AND SUPPLIERS
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The Company markets its products both directly and through approximately
50 independent sales representative organizations located in the United States,
Europe and Asia. Sales to non-U.S. customers, including all of the sales of
Gillam-FEI, totaled approximately 54%, 38% and 42% of net sales in fiscal years
2004, 2003 and 2002, respectively.
The Company's products are sold to a variety of customers, both commercial
and governmental. For the years ended April 30, 2004, 2003 and 2002,
approximately 14%, 28% and 11%, respectively, of the Company's sales were made
under contracts to the U.S. Government or subcontracts for U.S. Government
end-use.
The Company's consolidated sales for each of the years ended April 30,
2004, 2003 and 2002 included sales to Motorola Corp. ("Motorola") of
approximately $16.1 million, $10.0 million and $15.5 million, respectively.
These amounts represent 32%, 32% and 38%, respectively, of consolidated sales
for each of those years. Lucent Technologies ("Lucent") accounted for $5.5
million of revenues in fiscal year 2004 or 11% of consolidated sales. In fiscal
year 2003, Northrop Grumman Corporation ("Northrop") accounted for $3.5 million
of revenues or 11% of consolidated sales.
8
During the three years ended April 30, 2004, sales to Motorola and Lucent
were made by the Company's Commercial Communications segment, accounting for 74%
in fiscal 2004, 73% in fiscal 2003 and 59% in fiscal 2002 of that segment's
total sales.
Fiscal year 2004 and 2003 revenues in the U.S. Government segment included
sales to three customers, Northrop, Raytheon Missile Systems, Inc. ("Raytheon")
and BAE Systems Aerospace, Inc. ("BAE"), accounting for 82% and 76%,
respectively, of total segment sales. In fiscal year 2002, Boeing Satellite
Systems, Inc. ("Boeing"), Raytheon and BAE accounted for 77% of total segment
revenues.
During fiscal years 2004, 2003 and 2002, France Telecom and Belgacom were
major customers of the Gillam-FEI segment. These European telecom companies
accounted for 31%, 23% and 30%, respectively, of the segment's revenues in those
fiscal years.
In fiscal year 2004, General Dynamics accounted for 19% of the revenues in
the FEI-Zyfer segment. The loss by the Company of any one of these customers
would have a material adverse effect on the Company's business.
The Company believes its relationship with these companies to be mutually
satisfactory and is not aware of any prospect for the cancellation or
significant reduction of any of its commercial or existing U.S. Government
contracts.
The Company purchases a variety of components such as transistors,
resistors, capacitors, connectors and diodes for use in the manufacture of its
products. The Company is not dependent upon any one supplier or source of supply
for any of its component part purchases and maintains alternative sources of
supply for all of its purchased components. The Company has found its suppliers
generally to be reliable and price-competitive.
RESEARCH AND DEVELOPMENT
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The Company's technological expertise continues to be an important factor
to support future growth in revenues and earnings. The Company has focused its
internal research and development efforts on improving the core physics and
electronic packages in its time and frequency products, conducting research to
develop new time and frequency technologies, improving product manufacturability
by seeking to reduce its production costs through product redesign and process
improvements and other measures to take advantage of lower cost components.
The Company continues to focus a significant portion of its own resources
and efforts on developing hardware for satellite and terrestrial commercial
communications systems, including wireless, wireline and GPS-related systems.
During fiscal years 2004, 2003 and 2002, the Company expended $5.3 million, $4.6
million and $6.6 million of its own funds, respectively, on such research and
development activity. (See also Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations.) For fiscal year 2005, the
Company is targeting to spend from $4.5 million to $6.0 million on research and
development in similar areas. The actual amount spent will depend on market
conditions and identification of new opportunities.
PATENTS AND LICENSES
- --------------------
The Company believes that for the most part, its business is not dependent
on patent or license protection. Rather, it is primarily dependent upon the
Company's technical competence, the quality of its products and its prompt and
responsible contract performance. However, the rights to inventions of employees
working for the Company are assigned to the Company and the Company presently
holds such patents and licenses. In certain limited circumstances, the U.S.
Government may use or permit the use by the Company's competitors, certain
patents or licenses the government has funded. During fiscal 2003, the Company
received a broad and significant patent for new, proprietary quartz oscillator
technology which the Company will exploit in both legacy and new applications.
COMPETITION
- -----------
The Company experiences competition in all areas of its business. The
Company competes primarily on the basis of the accuracy, performance and
reliability of its products, the ability of its products to function under
severe conditions, such as in space or other extreme hostile environments,
prompt and
9
responsive contract performance, technical competence and price. The Company has
a unique and broad product line which includes all three frequency standards -
quartz, rubidium, and cesium. Because of the very high precision of certain of
its components, the Company has few competitors. For lower precision components
there is significant competition from a number of suppliers.
In recent years, the Company has successfully outsourced certain component
manufacturing processes to third parties and more recently to its wholly-owned
subsidiary, FEI-Asia in Tianjin, China and to Russian-based Morion, Inc., in
which the Company is a minority shareholder. The Company expects this
outsourcing to enhance its competitive position on cost while maintaining its
high quality standards. The Company believes its ability to obtain raw
materials, manufacture finished products, integrate them into systems and
sub-systems and interface these systems with end-user applications provides a
strong competitive advantage.
Certain of the Company's competitors are larger, have greater financial
resources and have larger research and development and marketing staffs.
With respect to its instruments and systems, the Company competes with
Hewlett-Packard Company, Symmetricom, Inc, E. G. and G., Inc. and others.
Systems for the wireline industry produced by the Gillam-FEI segment compete
with Symmetricom, Inc. which recently merged with another competitor. The
Company's principal competition for space products is the in-house capability of
its major customers.
EMPLOYEES
- ---------
The Company employs approximately 460 persons worldwide. None of the U.S.
employees are represented by labor unions, while in Europe approximately five
employees in one facility are represented by a French labor union.
OTHER ASPECTS
- -------------
The Company's business is not seasonal although it expects to experience
some fluctuation in revenues during the second fiscal quarter as a result of
extended holiday periods in August. No unusual working capital requirements
exist.
EXECUTIVE OFFICERS OF THE COMPANY
- ---------------------------------
The executive officers hold office until the annual meeting of the Board
of Directors following the annual meeting of stockholders, subject to earlier
removal by the Board of Directors.
The names of all executive officers of the Company and all positions and
offices with the Company which they presently hold are as follows:
Joseph P. Franklin - Chairman of the Board of Directors
Martin B. Bloch - President, Chief Executive Officer and Director
Markus Hechler - Executive Vice President, President of FEI Government Systems,
Inc. and Assistant Secretary
Michel Gillard - President, Gillam-FEI
Hugo Fruehauf - President, FEI-Zyfer
Charles S. Stone - Vice President, Low Noise Development
Leonard Martire - Vice President, Marketing and Sales
Oleandro Mancini - Vice President, Business Development
Thomas McClelland - Vice President, Commercial Products
Alan Miller - Treasurer and Chief Financial Officer
Harry Newman - Secretary and Assistant to the Executive Vice President
None of the officers and directors is related.
10
Joseph P. Franklin, age 70, has served as a Director of the Company since
March 1990. In December 1993 he was elected Chairman of the Board of Directors.
He also served as Chief Executive Officer from December 1993 through October
1998 and as Chief Financial Officer from September 1996 through October 1998.
From August 1987 to November 1993, he was the Chief Executive Officer of
Franklin S.A., a Spanish business consulting company located in Madrid, Spain,
specializing in joint ventures, and was a director of several prominent Spanish
companies. General Franklin was a Major General in the United States Army until
he retired in July 1987.
Martin B. Bloch, age 68, has been a Director of the Company and of its
predecessor since 1961. Mr. Bloch is the Company's President and Chief Executive
Officer and has held such positions since inception of the Company, except for
the period from December 1993 through October 1998 when General Franklin held
the CEO position. Previous to forming the Company, Mr. Bloch served as chief
electronics engineer of the Electronics Division of Bulova Watch Company.
Markus Hechler, age 58, joined the Company in 1967. He was elected to the
position of Executive Vice President in February 1999, prior to which he served
as Vice President, Manufacturing since 1982. In October 2001, he was named
President of the Company's subsidiary, FEI Government Systems, Inc. He has
served as Assistant Secretary since 1978.
Michel Gillard, age 63, became an officer and director of the Company when
Gillam S.A. was acquired in September 2000. Gillam S.A., a company engaged in
the design, manufacture and marketing of wireline and network synchronization
systems, was founded by Mr. Gillard in 1974.
Hugo Fruehauf, age 65, became an officer of the Company when Zyfer, Inc.
was acquired in May 2003. Mr. Fruehauf served as CEO and CTO of Zyfer, Inc. for
6 years. Prior to joining Zyfer, Mr. Fruehauf was vice president of Alliant
Techsystems from 1995 to 1997 and from 1982 to 1995 was president of
Datum-Efratom and its predecessor, Ball-Efratom.
Charles S. Stone, age 73, joined the Company in 1984, and has served as
its Vice President since that time. Prior to joining the Company, Mr. Stone
served as Senior Vice President of Austron Inc., from 1966 to 1979, and Senior
Scientist of Tracor Inc., from 1962 to 1966.
Leonard Martire, age 67, joined the Company in August 1987 and served as
Executive Vice President of FEI Microwave, Inc., the Company's wholly-owned
subsidiary, until May 1993 when he was elected Vice President, Marketing and
Sales.
Oleandro Mancini, age 55, joined the Company in August 2000 as Vice
President, Business Development. Prior to joining the Company, Mr. Mancini
served from 1998 as Vice President, Sales and Marketing at Satellite
Transmission Systems, Inc. and from 1995 to 1998 as Vice President, Business
Development at Cardion, Inc., a Siemens A.G. company. From 1987 to 1995, he held
the position of Vice President, Engineering at Cardion, Inc.
Thomas McClelland, age 49, joined the Company as an engineer in 1984 and
was elected Vice President, Commercial Products in March 1999.
Alan Miller, age 55, joined the Company in November 1995 as its corporate
controller and was elected to the position of Treasurer and Chief Financial
Officer in October 1998. Prior to joining the Company, Mr. Miller served as an
operations manager and a consultant to small businesses from 1992 through 1995
and as a Senior Audit Manager with Ernst & Young, L.L.P. from 1980 to 1991.
Harry Newman, age 57, Secretary, has been employed by the Company since
1979, prior to which he served as Divisional Controller of Jonathan Logan, Inc.,
apparel manufacturers, from 1976 to 1979, and as supervising Senior Accountant
with Clarence Rainess and Co., Certified Public Accountants, from 1971 to 1975.
11
Item 2. Properties
- -------------------
The Company operates out of several facilities located around the world.
Each facility is used for manufacturing its products and for administrative
activities. The following table presents the location, size and terms of
ownership/occupation:
Location Size (sq. ft.) Own or Lease
-------- -------------- ------------
Long Island, NY 93,000 Lease
Anaheim, CA 20,000 Lease
Liege, Belgium 34,000 Own
Chalon Sur Saone, France 37,000 Own
Tianjin, China 6,000 Lease
The Company's facility located in Mitchel Field, Long Island, New York, is
part of the building that the Company constructed in 1981 and expanded in 1988
on land leased from Nassau County. In January 1998, the Company sold this
building and the related land lease to Reckson Associates Realty Corp.
("Reckson"), leasing back the space that it presently occupies.
The Company leases its manufacturing and office space from Reckson under
an 11-year lease at an annual rental of $400,000 per year with the Company
paying its pro rata share of real estate taxes along with the costs of utilities
and insurance. The lease provides for two 5-year renewal periods, exercisable at
the option of the Company, with annual rentals of $600,000 during the first
renewal period and $800,000 during the second renewal period. Under the terms of
the lease, new office and engineering facilities for the Company were
constructed at the cost of Reckson. The leased space is adequate to meet the
Company's domestic operational needs which encompasses the principle operations
of the Commercial Communication and US Government segments.
The sale of its building to Reckson, a real estate investment trust
("REIT") whose shares are traded on the New York Stock Exchange, was effected
through a tax-deferred exchange of the building for approximately 486,000
participation units of Reckson Operating Partnership, L.P. ("REIT units") which
were valued at closing at $12 million. Each REIT unit is convertible into one
share of the common stock of the REIT. In addition, approximately 27,000 REIT
units have been placed in escrow which may be released to the Company based upon
the price per share of the REIT on the date of conversion of REIT units. Under
the accounting provisions for sale and leaseback transactions, the sale of this
building is considered a financing and the REIT units received are reflected as
a noncurrent liability while the related building continues to be reflected as
an asset. Upon liquidation of the REIT units, a portion of the resulting gain on
this sale will be deferred and recognized into income over the term of the
leaseback with the balance recognized in income on the date of liquidation. (See
Note 6 to the accompanying financial statements.)
The properties located in Belgium and France were acquired upon completion
of the Gillam S.A. acquisition. These facilities are adequate to meet the
present and future operational requirements of Gillam-FEI. During the year ended
April 30, 2003, the Company sold a portion of the building owned by its
subsidiary in France, receiving proceeds of $275,000 and realizing a gain of
$152,000 which amount is included in other income and expense.
The Tianjin, China facility is the location of the Company's wholly-owned
subsidiary, FEI-Asia. Space has been leased within a manufacturing facility
located in the Trade-Free Zone. The lease is renewable annually with rent of
$9,850 payable quarterly. The amount of space is adequate for the near-term
manufacturing expectations for the Company.
The Anaheim, California facility is leased by the Company's newly acquired
subsidiary, FEI-Zyfer, Inc. The facility consists of a combination office and
manufacturing space. The lease, which expires in November 2004, requires monthly
payments of $20,400.
12
Item 3. Legal Proceedings
- --------------------------
A judgment in favor of the Company, dated September 3, 2002, was entered
by the United States District Court for the Eastern District of New York in
connection with its dismissal of a qui tam action which was brought in March
1994 by Ralph Muller, a former FEI employee. A qui tam action is an action
wherein an individual may, under certain circumstances, bring a legal action
against one or more third persons on behalf of the Government for damages and
other relief by reason of one or more alleged wrongs perpetrated against the
Government by such third persons. The judgment is based on the Court's decision
on the merits in favor of Frequency Electronics, Inc. and its CEO, Martin B.
Bloch, dated August 23, 2002. The judgment preserves all of FEI's rights to
recover costs and its causes of action against the plaintiff and third party
defendants. (For a more complete description of the litigation brought against
the Company and the related settlement actions, see Item 3. Legal Proceedings in
the Company's Annual Report on Form 10-K for the year ended April 30, 2001, a
copy of which is on file with the Securities and Exchange Commission.)
Directors' and Officers' Insurance Coverage
-------------------------------------------
On April 30, 2002, FEI settled the arbitration proceeding it had commenced
in June 2001 before the American Arbitration Association against The Home
Insurance Company ("Home") under a $2.0 million excess directors and officers
liability insurance policy. FEI had asserted claims for its loss relating to,
among other matters, sums it paid in connection with the Settlement Agreement
and Global Disposition with the Government on June 19, 1998. (For a description
of these litigations, the Settlement Agreement and Global Disposition, refer to
Item 3 of the Registrant's Annual Report on Form 10-K for the year ended April
30, 1998, a copy of which is on file with the Securities and Exchange
Commission.) Under the terms of the settlement agreement, Home paid FEI $1.5
million, FEI released its claims and the arbitration was discontinued.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
No matters were required to be submitted by Registrant to a vote of
security holders during the fourth quarter of fiscal 2004.
PART II
-------
Item 5. Market for the Company's Common Equity and Related Stockholder Matters
- -------------------------------------------------------------------------------
The Common Stock of the Company is listed on the American Stock Exchange
under the symbol "FEI". The following table shows the high and low sale price
for the Company's Common Stock for the quarters indicated, as reported by the
American Stock Exchange.
FISCAL QUARTER HIGH SALE LOW SALE
-------------- --------- --------
2004 -
FIRST QUARTER $10.80 $ 8.00
SECOND QUARTER 11.05 9.35
THIRD QUARTER 14.99 10.18
FOURTH QUARTER 17.13 12.25
2003 -
FIRST QUARTER $13.04 $ 5.62
SECOND QUARTER 8.00 5.00
THIRD QUARTER 11.50 7.34
FOURTH QUARTER 10.25 8.16
13
As of July 23, 2004, the approximate number of holders of record of common
stock was 600. The closing share price of the Company's stock on April 30, 2004
was $13.60. The closing share price of the Company's stock on July 23, 2004 was
$12.20.
DIVIDEND POLICY
- ---------------
On March 24, 1997, the Company announced a policy of distributing a cash
dividend to shareholders of record on April 30 and October 31, payable on June 1
and December 1, respectively. The Board of Directors will determine dividend
amounts prior to each declaration based on the Company's financial condition and
financial performance.
EQUITY COMPENSATION PLAN INFORMATION
- ------------------------------------
Number of Securities
Remaining available for
Number of Securities to Weighted-Average Future Issuance under
be Issued upon exercise Exercise Price of Equity Compensation Plans
of Outstanding Options Outstanding Options (Excluding Securities
Plan Category Warrants and Rights Warrants and Rights Reflected in Column (a))
- ------------------------------------------------------------------------------------------------------------------------------
(a) (b) (c)
Equity Compensation Plans
Approved by Security Holders 412,250 $8.61 169,250
Equity Compensation Plans Not
Approved by Security Holders 802,737 $12.62 219,500
------- ------ -------
TOTAL 1,214,987 $11.26 388,750
========= ====== =======
Item 6. Selected Financial Data
- --------------------------------
The following table sets forth selected financial data including net sales
and operating profit (loss) for the five-year period ended April 30, 2004. The
information has been derived from the audited financial statements of the
Company for the respective periods.
CONSOLIDATED STATEMENTS OF OPERATIONS DATA
------------------------------------------
Years Ended April 30,
2004 2003 2002 2001 2000
---- ---- ---- ---- ----
(in thousands, except share data)
Net Sales
Commercial Communications $29,066 $15,051 $26,663 $36,290 $22,554
U.S. Government 7,053 8,906 4,513 3,727 3,981
Gillam-FEI 12,197(1) 8,137 11,223 9,276 --
FEI-Zyfer 6,560 -- -- -- --
less intersegment sales (4,770)(1) (567) (1,220) (83) --
----------- ----------- ----------- ----------- ----------
Total Net Sales $50,106 $31,527 $41,179 $49,210 $26,535
=========== =========== =========== =========== ==========
Operating (Loss) Profit $(1,646) ($12,490)(3) $89(4) $5,939(6) $1,008
=========== =========== =========== =========== ==========
Net Income (Loss) $162(2) ($8,860) $1,378(5) $5,644(7) $3,144
=========== =========== =========== =========== ==========
Average Common Shares Outstanding
Basic 8,374,399 8,331,785 8,350,735 8,198,569 7,673,497
Diluted 8,542,575 8,331,785 8,529,175 8,431,823 8,043,727
Earnings per Common Share
Basic $0.02 ($1.06) $0.17 $0.69 $0.41
=========== =========== =========== =========== ==========
Diluted $0.02 ($1.06) $0.16 $0.67 $0.39
=========== =========== =========== =========== ==========
14
CONSOLIDATED BALANCE SHEET DATA
- -------------------------------
Total Assets $92,660 $85,729 $96,011 $102,039 $80,847
=========== =========== =========== =========== ==========
Long-Term Obligations
and Deferred Items $17,610 $17,903 $17,796 $18,074 $16,849
=========== =========== =========== =========== ==========
Cash dividend declared
per common share $0.20 $0.20 $0.20 $0.20 $0.20
=========== =========== =========== =========== ==========
(1) Includes intercompany sale to FEI Communications of $3.52 million for
development of US5G product.
(2) Includes $400,000 reversal of tax liabilities established in prior years.
(3) Includes goodwill impairment of $6.2 million and adjustments to inventory
of $3.6 million.
(4) Includes insurance reimbursement of $1.5 million for expenses related to
certain litigation with the U.S. Government less inventory reserves and
writeoffs aggregating $1.0 million.
(5) In addition to items in (3) above, includes $300,000 investment loss for
an other than temporary decline of value in a marketable security.
(6) Includes insurance reimbursement of $2.8 million (net of professional
fees) for expenses related to certain litigation with the U.S. Government,
increased inventory reserves of $2.0 million related to certain product
lines and $300,000 of acquisition-related nonrecurring costs.
(7) In addition to items in (5) above, includes $287,000 investment loss for
an other than temporary decline of value in a marketable security.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
- -------------------------------------------------------------------------------
of Operations
- -------------
"Safe Harbor" Statement under the Private Securities Litigation
Reform Act of 1995:
The statements in this Annual Report on Form 10K regarding future earnings
and operations and other statements relating to the future constitute
"forward-looking" statements pursuant to the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Forward-looking statements
inherently involve risks and uncertainties that could cause actual results to
differ materially from the forward-looking statements. Factors that would cause
or contribute to such differences include, but are not limited to, continued
acceptance of the Company's products in the marketplace, competitive factors,
new products and technological changes, product prices and raw material costs,
dependence upon third-party vendors, competitive developments, changes in
manufacturing and transportation costs, the availability of capital, and the
outcome of certain litigation and arbitration proceedings. By making these
forward-looking statements, the Company undertakes no obligation to update these
statements for revisions or changes after the date of this report.
Critical Accounting Policies and Estimates
The Company's significant accounting policies are described in Note 1 to
the consolidated financial statements. The Company believes its most critical
accounting policies to be the recognition of revenue and costs on production
contracts and the valuation of inventory. Each of these areas requires the
Company to make use of reasoned estimates including estimating the cost to
complete a contract, the realizable value of its inventory or the market value
of its products. Changes in estimates can have a material impact on the
Company's financial position and results of operations.
Revenue Recognition
-------------------
Revenues under larger, long-term contracts, generally defined as orders in
excess of $100,000, are reported in operating results using the percentage of
completion method. For U.S. Government and other fixed-price contracts that
require initial design and development of the product, revenue is recognized on
the cost-to-cost method. Under this method, revenue is recorded based upon the
ratio that incurred costs bear to total estimated contract costs with related
cost of sales recorded as the costs are incurred. Each month management reviews
estimated contract costs. The effect of any change in the estimated gross margin
percentage for a contract is reflected in revenues in the period in which the
change is known. Provisions for anticipated losses on contracts are made in the
period in which they become determinable.
15
On production-type contracts, revenue is recorded as units are delivered
with the related cost of sales recognized on each shipment based upon a
percentage of estimated final contract costs. Changes in job performance may
result in revisions to costs and income and are recognized in the period in
which revisions are determined to be required. Provisions for anticipated losses
on contracts are made in the period in which they become determinable.
For contracts in the Company's Gillam-FEI and FEI-Zyfer segments, smaller
contracts or orders in the other business segments and sales of products and
services to customers are reported in operating results based upon shipment of
the product or performance of the services pursuant to contractual terms. When
payment is contingent upon customer acceptance of the installed system, revenue
is deferred until such acceptance is received and installation completed.
Costs and Expenses
------------------
Contract costs include all direct material, direct labor costs,
manufacturing overhead and other direct costs related to contract performance.
Selling, general and administrative costs are charged to expense as incurred.
Inventory
---------
In accordance with industry practice, inventoried costs contain amounts
relating to contracts and programs with long production cycles, a portion of
which will not be realized within one year. Inventory reserves are established
for slow-moving and obsolete items and are based upon management's experience
and expectations for future business. Any changes in reserves arising from
revised expectations are reflected in cost of sales in the period the revision
is made.
Equity-based Compensation
-------------------------
The Company applies the disclosure-only provisions of FAS No. 148,
"Accounting for Stock-Based Compensation- Transition and Disclosure" and
continues to measure compensation cost in accordance with Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees." Historically,
this has not resulted in compensation cost upon the grant of options under a
qualified stock option plan. However, in accordance with FAS No. 148, the
Company provides pro forma disclosures of net earnings (loss) and earnings
(loss) per share as if the fair value method had been applied beginning in
fiscal 1996.
The following table illustrates the effect on the Company's consolidated
statements of operations had compensation cost for stock option awards under the
plans been determined based on the fair value at the grant dates consistent with
the provisions of FAS No. 148:
(in thousands, except per share data)
2004 2003 2002
---- ---- ----
Net Income (Loss), as reported $162 ($8,860) $1,378
----------- ----------- -----------
Cost of stock options, net of taxes (772) (714) (904)
----------- ----------- -----------
Net (Loss) Income - pro forma ($610) ($9,574) $474
=========== =========== ===========
Earnings (Loss) per share, as reported:
Basic $0.02 ($1.06) $0.17
=========== =========== ===========
Diluted $0.02 ($1.06) $0.16
=========== =========== ===========
(Loss) Earnings per share- pro forma
Basic ($0.07) ($1.15) $0.06
=========== =========== ===========
Diluted ($0.07) ($1.15) $0.06
=========== =========== ===========
The weighted average fair value of each option has been estimated on the
date of grant using the Black-Scholes options pricing model with the following
weighted average assumptions used for grants in each of the three years ended
April 30, 2004, 2003 and 2002; dividend yield of 1.83%; expected volatility of
63% (65% in fiscal year 2002), risk free interest rate of 5.5%; and expected
lives of ten years.
16
RESULTS OF OPERATIONS
- ---------------------
The table below sets forth for the fiscal years ended April 30 the
percentage of consolidated net sales represented by certain items in the
Company's consolidated statements of operations:
2004 2003 2002
---- ---- ----
Net Sales
Commercial Communications 55.5% 46.9% 63.4%
U.S. Government 14.1 28.3 11.0
Gillam-FEI 17.3 24.8 25.6
FEI-Zyfer 13.1 -- --
--------- --------- ---------
100.0 100.0 100.0
Cost of Sales 68.9 81.5 65.8
--------- --------- ---------
Gross Margin 31.1 18.5 34.2
Selling and Administrative expenses 22.9 24.0 21.7
Restructuring Charge 0.9 -- --
Goodwill impairment -- 19.5 --
Insurance Reimbursement, net -- -- (3.6)
Research and Development expenses 10.6 14.6 15.9
--------- --------- ---------
Operating (Loss) Profit (3.3) (39.6) 0.2
Other Income,net & Minority Interest 3.8 5.9 3.9
Provision (Benefit) for Income Taxes 0.2 (5.6) 0.8
--------- --------- ---------
Net Income (Loss) 0.3% (28.1%) 3.3%
========= ========= =========
Significant Events
------------------
As more thoroughly described elsewhere in this Form 10-K and in the notes
to the financial statements, the Company's fiscal year 2004, 2003 and 2002
results of operations were materially impacted by several specific events.
During fiscal year 2004, the Company acquired the business and net assets of
Zyfer, Inc. In addition to the purchase price, the Company invested an
additional $2.5 million of working capital to support the operations of
FEI-Zyfer until it could return to profitability. Also, in fiscal year 2004, the
Company realized a $400,000 tax benefit as the result of the reversal of certain
tax liabilities established in prior years. In fiscal 2003, the Company
determined that the goodwill associated with its investment in Gillam-FEI had
become impaired and wrote off the full amount of goodwill in the amount of $6.2
million. In fiscal year 2002, the Company recovered $1.5 million from an
insurance company related to expenses incurred in defense and settlement of the
Company's litigation with the U.S. Government. (See Item 3. Legal Proceedings
and Note 9 to the financial statements.)
Without these significant events, the Company's operating (loss) profit,
pre-tax earnings (loss) and net earnings (loss) would be materially different
from that reported in the financial statements. See Note 12 to the financial
statements for pro forma presentation related to the acquisition of FEI-Zyfer,
Inc.
Operating Loss
--------------
The operating loss for the year ended April 30, 2004, decreased $10.8
million (87%) to $1.6 million from the operating loss of $12.5 million reported
in fiscal year 2003. The improvement is directly attributable to the
year-over-year increase in sales volume during fiscal year 2004 as well as the
significant fiscal year 2003 events which did not recur in fiscal year 2004: the
$6.2 million goodwill impairment and $3.6 million in inventory adjustments (see
next paragraph). These improvements were offset by the fiscal year 2004
operating loss of $1.1 million recorded by FEI-Zyfer. Much of the improvement in
sales occurred in the second half of the fiscal year but these increases were
not sufficient to overcome the operating losses recorded in the first half of
the year. During the first half of the year, the Company continued to experience
the effects of a slow-down in the telecommunications industry, a trend which
appears to have reversed itself in the latter half of fiscal year 2004 and is
expected to show continued strength into fiscal year 2005.
17
The operating loss for the year ended April 30, 2003, was $12.5 million
compared to an operating profit of $89,000 reported for fiscal year 2002. The
primary causes of this decline were reduced revenues in fiscal year 2003 plus
the $6.2 million goodwill impairment and the write-off or reserve against
certain work-in-process and component inventory in the amount of $3.6 million.
Also, in fiscal year 2002, the Company obtained a $1.5 million insurance
reimbursement which was offset by $1.0 million of inventory adjustments.
Revenues declined by 23% while gross margins decreased to 19% of revenue from
37% in fiscal year 2002. This includes the fiscal year 2003 inventory
adjustments which reduced gross margins by 11% of revenues compared to a 2%
effect in fiscal year 2002. These results reflect the low level of
telecommunication-related business during these fiscal years. The Company's
response was to reduce costs in all categories, while maintaining its core
operational capabilities and continuing to invest in new products, efficient
manufacturing processes and development of non-US manufacturing capacity.
Net Sales
---------
Net sales for fiscal year 2004 increased by $18.6 million (59%) to $50.1
million from fiscal year 2003 revenues of $31.5 million. These revenues include
$6.5 million from FEI-Zyfer or 21% of the year-over-year increase while sales
from the other segments increased by $12.0 million (38%) over the prior year.
This increase is attributable to strong second half revenues in the Commercial
Communications segment and in the Gillam-FEI segment compared to both the first
half of the fiscal year as well as to fiscal year 2003 revenues. Commercial
Communication revenues were up 93% ($14 million) over the prior year on the
strength of increased capital spending on cellular network infrastructure and
sales related to commercial satellites. Gillam-FEI revenues (exclusive of $3.5
million in intersegment sales related to a research and development program)
increased by over $500,000 (6%) from the prior year, benefiting primarily from
the 20% year-over-year increase in the value of the euro to the dollar. Fiscal
year 2004 revenues from the US Government segment declined by $1.8 million (20%)
from the prior year as the Company worked on several developmental programs
under US Government contracts as compared to more production-type contracts in
the prior year.
Net sales for fiscal year 2003 decreased by $9.7 million (23%) to $31.5
million from fiscal year 2002 net sales of $41.2 million. The principal cause
for the decline was attributable to the world-wide slowdown in capital spending
in the telecommunications industry which the Company serves. Revenues for the
Commercial Communications segment decreased by $11.6 million (44%) and
Gillam-FEI revenues decreased by $3.1 million (28%). Offsetting these declines,
revenues for the US Government segment almost doubled from the fiscal year 2002
levels, to $8.9 million, as the Company responded to the US Government's need
for more sophisticated secure communications and weaponry.
The telecommunications markets appear to be rebounding from a period of
low activity. World-wide capital spending on commercial satellites, cellular
network infrastructure and wireline synchronization systems is increasing.
Accordingly, the Company believes future sales in the Commercial Communications,
Gillam-FEI and FEI-Zyfer segments will continue at the levels achieved in the
second half of fiscal year 2004. The Company anticipates revenues for its U.S.
Government segment to also increase as more funding is provided by the
government for such projects as secure radios, new communication satellites,
unmanned aerial vehicles and weapons guidance systems.
Gross Margin Rates
------------------
The gross margin rate for fiscal year 2004 improved to 31% of net sales
compared to 19% in fiscal year 2003. The fiscal year 2003 rate was reduced by
11% due to the $3.6 million inventory adjustment as previously discussed.
Although fiscal year 2004 sales increased substantially over the prior year, the
volume was insufficient to fully absorb the overhead, particularly in the first
half of the current fiscal year when lower revenues were recorded. In the second
half of the year, the Company experienced rising revenues but also built up its
support structure to sustain the expected higher level of sales. The Company
also reduced the value of its inventory by $530,000 as the result of an
inventory revaluation.
The gross margin rate for fiscal year 2003 decreased to 19% of net sales
compared to 34% in fiscal year 2002. As noted above, the fiscal year 2003
inventory adjustments reduced the gross margin rate by 11% compared to a 2%
reduction for inventory adjustments in fiscal year 2002. The additional decline
in the fiscal year 2003 gross margin rate were due to the lower level of sales
which were unable to absorb a greater percentage of fixed overhead costs and the
higher level of warranty expenses the Company experienced which reduced gross
margin rates by approximately 3%.
18
The Company's target is to achieve an overall gross margin rate of 40% or
better through greater sales volume, continued process improvements and
utilization of lower cost manufacturing in Russia and China. During fiscal year
2005, the Company expects to realize gross margin rates approaching its targeted
rate.
Restructuring Charge
--------------------
During fiscal year 2004, the Company's majority-owned subsidiary in France
substantially completed a restructuring of its operations as a result of the
Company's decision to convert it from a manufacturing facility to a regional
sales office. This resulted in a charge to earnings of $428,000 for the year
ended April 30, 2004. The Company does not expect to incur significant costs in
the future related to this restructuring although it may recognize a gain upon
the sale of the subsidiary's current manufacturing facility during fiscal year
2005.
Selling and Administrative expenses
-----------------------------------
Selling and administrative costs in fiscal year 2004 increased by $3.9
million (51%) to $11.5 million from $7.6 million in fiscal year 2003. The
largest component of this increase is the approximately $2.8 million of selling
and administrative expenses incurred at newly-acquired FEI-Zyfer. The additional
$1.1 million of expenses is commensurate with the increased volume of business
that the Company experienced in fiscal year 2004. Costs such as commission
expenses, salaries of additional marketing and support personnel and performance
related compensation all contributed to increased selling and administrative
expenses in fiscal year 2004. These increases were offset by declines in
deferred compensation expenses. In addition, the value of the euro to the US
dollar continued to rise throughout fiscal year 2004. As a result, Gillam-FEI's
euro-denominated selling and administrative costs declined by 5% but, when
converted to US dollars, reflected a 13% increase over fiscal year 2003.
Selling and administrative costs in fiscal year 2003 decreased by $1.4
million (15%) to $7.6 million from $8.9 million in fiscal year 2002 as the
Company responded to the lower level of business volume. During the year,
Gillam-FEI lowered its administrative support costs by 18% when denominated in
euros but the savings were reduced to $175,000 (7%) when translated to US
dollars due to the 13% increase in the value of the euro to the US dollar during
fiscal 2003. Costs associated with the establishment of the Company's FEI-Asia
facility were halved (approximately $250,000 lower) as less time was required by
US-based personnel to support that operation and more costs were borne in the
China facility where operating expenses are much lower than in the US.
Offsetting those cost reductions was an increase in the costs to support the new
European sales office. In the US subsidiaries, cost savings in fiscal 2003 of
$1.1 million were related to personnel reductions, lower charges to deferred
compensation expense, reduced sales commissions and reduction in legal and other
professional fees.
As a percentage of sales, selling and administrative expenses were 22.8%
in fiscal year 2004; 24.0% in fiscal year 2003 and 21.7% in fiscal year 2002.
The Company targets selling and administrative expenses not to exceed 20% of
consolidated sales. The lower level of sales in fiscal year 2003 and into the
first half of fiscal year 2004 prevented the Company from achieving its target.
As revenues improve in fiscal year 2005, the Company expects to achieve its
targeted level of selling and administrative expenses.
Research and Development expenses
---------------------------------
Research and development expenses in fiscal year 2004 increased by
$731,000 (16%) to $5.3 million from $4.6 million in fiscal year 2003. This
increase is entirely attributable to development costs incurred at FEI-Zyfer
which approximated $840,000. Without FEI-Zyfer, research and development expense
would have declined by 2% from fiscal year 2003. During fiscal year 2004, those
resources previously devoted to the Company's internal research and development
efforts were often redirected to funded research projects. Consequently, the
costs of these resources are reflected in cost of sales rather than in research
and development expenses. Internal development efforts during fiscal year 2004
were focused on completion of Gillam-FEI's US5G (wireline synchronization
system), developing a digital rubidium oscillator, further improving the
performance of crystal oscillators, including low-g (gravity) sensitivity
crystal oscillators which have broad applications in both commercial and US
Government systems.
19
Research and development expenses in fiscal year 2003 decreased $2.0
million (30%) to $4.6 million from $6.6 million in fiscal 2002. During fiscal
year 2003, the Company completed development of certain manufacturing process
improvements and new product designs. Related personnel and other resources were
refocused on production activities as development projects were concluded. Other
research and development activities involved further product and process
improvements, development of a common platform for time and frequency generators
which will enable the interchange of a crystal or rubidium oscillator, and to
maintain the Company's competitive position in the markets it serves.
The Company will continue to focus its research and development activities
on those products which it expects will provide the best return on investment
and greatest prospects for the future growth of the Company. For fiscal year
2005, the Company will complete development of Gillam-FEI's US5G wireline
synchronization product and will make further investment in developing
manufacturing process improvements. Additional funds will be invested in
improving and miniaturizing the rubidium atomic clocks and further enhancing the
capabilities of its line of crystal oscillators. The Company's target is to
spend approximately 10% of revenues on research and development activities,
although the actual level of spending is dependent on new opportunites and the
rate at which it succeeds in bringing new products to market. Internally
generated cash and cash reserves will be adequate to fund these development
efforts.
Other Income, (expense)
-----------------------
Other income (expense), decreased by $49,000 (3%) to $1.78 million in
fiscal year 2004 from $1.82 million in fiscal year 2003 and increased by
$216,000 (13%) in fiscal year 2003 compared to $1.61 million in fiscal year
2002.
Investment income during fiscal year 2004 increased by $491,000 (27%) over
fiscal year 2003, and fiscal year 2003 investment income decreased by $34,000
compared to fiscal year 2002. In all three years, the Company recorded realized
gains and losses on marketable securities. In fiscal year 2004, the Company
realized gains of $590,000 on the sale of certain marketable securities. In
fiscal year 2003, realized losses on marketable securities of $130,000 were
partially offset by realized gains of $90,000. Similarly, during fiscal 2002 the
Company recorded a $300,000 writedown to market value of a certain marketable
security whose decline in value was deemed to be other than temporary which loss
was offset by realized gains on sales of marketable securities of $172,000.
Investment income also includes interest and dividends earned on marketable
securities, including dividend income from its REIT units. Interest income has
declined in each of fiscal years 2004 and 2003 from that realized in prior years
due to a combination of lower interest rates and a decreased level of invested
assets as a result of the FEI-Zyfer acquisition early in fiscal year 2004. The
Company anticipates that investment income in fiscal year 2005 will remain
approximately the same as fiscal year 2004 as interest rate increases provide
better earnings on interest sensitive investments but reduce the potential for
larger realized gains on those securities.
Interest expense for the year ended April 30, 2004 increased by $82,000
(29%) compared to fiscal year 2003 and decreased by $19,000 (6%) compared to
fiscal 2002. The increase in fiscal 2004 is attributable to short-term
borrowings by the Company to fund its working capital requirements. Rather than
liquidating certain marketable securities, the Company established a credit line
with a financial institution and borrowed approximately $3 million. The interest
rate on this line (approximately half of what marketable securities are earning
for the Company) plus similar short-term financing in the European subsidiaries
increased interest expense during fiscal year 2004. As the Company retires its
short and long-term financing obligations, interest expense is expected to
decline. The Company also incurs interest expense on the financing arrangement
for the leaseback of the U.S. manufacturing facility and for certain deferred
compensation payments. The Company anticipates that interest expense in fiscal
year 2005 will be lower than that recorded in fiscal year 2004.
Other, net was net expense of $181,000 in fiscal year 2004 compared to net
income of $277,000 in fiscal year 2003 and net income of $46,000 in fiscal year
2002. The variances in this account were impacted primarily by costs and income
recorded at the Company's French subsidiary. During fiscal year 2004, this
subsidiary incurred certain one-time charges of approximately $100,000 whereas
during fiscal year 2003, the same subsidiary realized a gain of approximately
$150,000 on the sale of a portion of real property and received a government
agency subsidy of approximately $200,000 to support a
20
development activity. The Company anticipates that in future years other, net,
will not be a significant contributor to pretax earnings.
Income Taxes
------------
The Company is subject to taxation in several countries. The statutory
federal rates vary from 34% in the United States to 35% in Europe. The effective
rate for the Company for the year ended April 30, 2004 was 41% compared to a 17%
(benefit) in fiscal year 2003 and 19% in fiscal year 2002. In fiscal year 2004,
the rate was higher than the statutory rates primarily because the Company was
unable to benefit from the losses incurred by certain of its European and Asian
subsidiaries. Offsetting this increased provision was the reversal of certain
tax liabilities which had been established in prior years to cover certain tax
contingencies. During fiscal year 2004, the Company's income tax returns were
examined by the Internal Revenue Service and no changes were required for the
years under audit. Accordingly, the tax liabilities established for the audited
years are no longer required and the reversal of such tax liabilities were
recorded as a tax benefit in the current year.
In fiscal year 2003, the effective tax rate was impacted by the
non-deductibility of goodwill impairment. In fiscal year 2002, the effective
rate was lower than the statutory rate primarily due to the availability of
research and development tax credits in the United States. (See Note 14 to the
Consolidated Financial Statements.)
The Company's European subsidiaries have available net operating loss
carryforwards of approximately $2.6 million to offset future taxable income.
These loss carryforwards have no expiration date.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
The Company's balance sheet continues to reflect a highly liquid position
with working capital of $61.0 million at April 30, 2004. Included in working
capital at April 30, 2004 is $31.4 million consisting of cash, cash equivalents
and short-term investments, including approximately $12.0 million representing
the fair market value of REIT units which are convertible to Reckson Associates
Realty Corp. common stock. (See Note 6 to the financial statements.) The
Company's current ratio at April 30, 2004 is 6.2 to 1.
Net cash used in operating activities for the year ended April 30, 2004,
was $2.6 million compared to cash provided by operations of $2.4 million in
fiscal year 2003. In fiscal year 2004, cash was absorbed primarily during the
first half of the fiscal year as the Company's European subsidiaries recorded
operating losses and the Company made working capital investments in the
operations of newly-acquired FEI-Zyfer to enable it to return to profitability.
With increasing sales in the second half of fiscal year 2004, the Company
realized net inflows of cash but these were not sufficient to overcome the
larger outlays in the earlier part of the year. In fiscal year 2003, the Company
recorded an $8.9 million net loss which included substantial non-cash charges,
such as the writedown of goodwill for $6.2 million and certain adjustments to
inventory. Additionally, cash was provided by collections on accounts receivable
and reductions of inventory offset by payments against accounts payable and
other liabilities.
Net cash provided by investing activities for the year ended April 30,
2004, was $529,000. Approximately $4.4 million was generated by the sale or
maturity of certain marketable securities, net of purchases. Most of this cash
was used to acquire FEI-Zyfer for $2.5 million (excludes $120,000 of acquisition
expenses paid in fiscal year 2003) and to provide additional working capital
support for this subsidiary as indicated above. (See Note 12 to the accompanying
financial statements.) Approximately $1.3 million was used to acquire additional
capital equipment. Investing activities in fiscal year 2003 resulted in cash
inflow of $506,000 consisting of net transactions in marketable securities of
$1.2 million offset by capital expenditures of $834,000. The Company may
continue to invest cash equivalents in longer-term securities or to convert
short-term investments to cash equivalents as dictated by its investment and
acquisition strategies. The Company will continue to acquire more efficient
equipment to automate its production process. It intends to spend less than $2
million on capital equipment during fiscal year 2005. Internally generated cash
will be adequate to acquire this capital equipment.
In fiscal year 2004, the Company established a $5 million line of credit
with the financial institution which also manages a substantial portion of its
investment in marketable securities. The line is secured
21
by the investments which earn, on average, approximately a 5.5% annual return.
Rather than liquidate some of these investments to meet short-term working
capital requirements, during the year the Company borrowed $2.7 million against
the line of credit at fixed and variable interest rates between 2.39% and 2.77%.
The Company must annually repay any borrowings under the line of credit on their
anniversary date but may also obtain new funding up to the credit limit. In
addition, the Company's European subsidiaries have available approximately $7.6
million in bank credit lines to meet short-term cash flow requirements. As of
April 30, 2004, $634,000 was outstanding under such lines of credit. The rate of
interest on these borrowings was 2.056% based on the one month EURO Interbank
Offered Rate (EURIBOR).
Net cash provided by financing activities in fiscal year 2004 was $1.5
million. The principal source of funds was short-term financing from financial
institutions in the amount of $3.4 million. (See above and Note 7 to the
financial statements.) Cash was used to pay the Company's semi-annual cash
dividend of $1.7 million and $479,000 was used to make regularly scheduled
long-term liability payments. These outflows were partially offset by the
receipt of $252,000 for repayment of a stock loan and the exercise of stock
options. Net cash used by financing activities for the year ended April 30,
2003, was $2.7 million and included dividend payments of $1.7 million and
long-term liability payments of $741,000. During fiscal year 2003, the Company
also acquired 80,000 shares of its common stock for treasury at a cost of
$501,000. These outflows were partially offset by proceeds of $111,000 from new
borrowings and payments of $67,000 received from the sale of shares of common
stock from treasury to satisfy the exercise of stock options granted to certain
officers and employees in prior years. The Company will continue to use treasury
shares to satisfy the future exercise of stock options granted to officers and
employees. The Company may repurchase shares of its common stock for treasury
whenever appropriate opportunities arise but it has neither a formal repurchase
plan nor commitments to purchase additional shares in the future.
The Company will continue to expend resources to develop and improve
products for wireless and wireline communication systems which management
believes will result in future growth and continued profitability. During fiscal
year 2005, the Company intends to make a substantial investment of capital and
technical resources to develop new products to meet the needs of the commercial
communications marketplace and to invest in more efficient product designs and
manufacturing procedures. Where possible, the Company will secure partial
customer funding for such development efforts but is targeting to spend its own
funds at a rate of approximately 10% of revenues to achieve its development
goals. Internally generated cash will be adequate to fund these development
efforts.
OFF-BALANCE SHEET ARRANGEMENTS
- ------------------------------
The Company does not have any off-balance sheet arrangements that have or
are reasonably likely to have a current or future effect on the Company's
financial condition, changes in financial condition, revenues or expenses,
results of operations, liquidity, capital expenditures or capital resources that
is material to investors.
CONTRACTUAL OBLIGATIONS
- -----------------------
As of April 30, 2004
Total Less than More than More than
Contractual Obligations (in thousands) 1 Year 1 to 3 Years 3 to 5 Years 5 Years
- ------------------------------- -------------- ----------- ------------ ------------ -----------
Long-Term Debt Obligations $ 63 $ 24 $ 39 $ 0 $ 0
Operating Lease Obligations 2,049 582 800 667 0
Lease Financing Liability 1,606 305 1,041 260 0
Deferred Compensation 6,854* 244 425 342 5,843
Other Long -Term Liabilities 9,110**
----------- ----------- ----------- ----------- -----------
Total $19,682 $1,155 $2,305 $1,269 $5,843
=========== =========== =========== =========== ===========
*Deferred Compensation liability (See Note 12 in the accompanying
financial statements) reflects payments due to current retirees receiving
benefits. The amount of $5,843 in the more than 5 years
22
column includes benefits due to participants in the plan who are not yet
receiving benefits although some participants may opt to retire and begin
receiving benefits within the next 5 years.
**Consists of deferred income and related liabilities associated with the
REIT units received on sale of the Company's building to Reckson Associates in
1998. (See Item 2. Properties and Note 6. Property, Plant and Equipment in the
accompanying financial statements.) These liabilities have no defined maturity.
As of April 30, 2004, the Company's consolidated backlog amounted to
approximately $36 million (see Item 1). Approximately 80% of this backlog is
expected to be filled during the Company's fiscal year ending April 30, 2005.
*******
The Company's liquidity is adequate to meet its foreseeable operating and
investment needs. In addition, with its available cash and marketable
securities, the Company is able to continue paying semi-annual dividends,
subject to the review and approval of its Board of Directors.
RECENT ACCOUNTING PRONOUNCEMENTS
- --------------------------------
The Company has evaluated all recent accounting pronouncements and their
related effective dates. The adoption of these statements did not have a
material impact on the Company's financial position, results of operations or
cash flows.
OTHER MATTERS
- -------------
The financial information reported herein is not necessarily indicative of
future operating results or of the future financial condition of the Company.
Except as noted, management is unaware of any impending transactions or events
that are likely to have a material adverse effect on results from operations.
INFLATION
- ---------
During fiscal 2004, as in the two prior fiscal years, the impact of
inflation on the Company's business has not been materially significant.
Item 7a. Quantitative and Qualitative Disclosures about Market Risk
- --------------------------------------------------------------------
Interest Rate Risk
The Company is exposed to market risk related to changes in interest rates
and market values of securities, including participation units in the Reckson
Operating Partnership, L.P. (REIT units, see Item 2. Properties and Note 6 to
the financial statements). The Company's investments in fixed income and equity
securities were $13.7 million and $12.0 million, respectively, at April 30,
2004. The investments are carried at fair value with changes in unrealized gains
and losses, net of taxes, recorded as adjustments to stockholders' equity. The
fair value of investments in marketable securities is generally based on quoted
market prices. Typically, the fair market value of investments in fixed interest
rate debt securities will increase as interest rates fall and decrease as
interest rates rise. Based on the Company's overall interest rate exposure at
April 30, 2004, a 10% change in market interest rates would not have a material
effect on the fair value of the Company's fixed income securities or results of
operations (investment income).
Foreign Currency Risk
With its investment in Gillam-FEI, FEI-Europe and FEI-Asia, the Company is
subject to foreign currency translation risk. For each of these investments, the
Company does not have any near-term intentions to repatriate its invested cash.
For this reason, the Company does not intend to initiate any exchange rate
hedging strategies which could be used to mitigate the effects of foreign
currency fluctuations. The effects of foreign currency rate fluctuations will be
recorded in the equity section of the balance sheet as a component of other
comprehensive income. As of April 30, 2004, the amount related
23
to foreign currency exchange rates is a $3,561,000 unrealized gain. Note that
the value of the Chinese Yuan is "pegged" to the value of the US dollar.
Accordingly, no foreign currency gains or losses have been realized or are
included in the unrealized gain indicated above. If the Chinese government
decides to change its policy and permits the Yuan to "float" against other world
currencies, the Company would report the effect in other comprehensive income,
as appropriate.
The results of operations of foreign subsidiaries, when translated into US
dollars, will reflect the average rates of exchange for the periods presented.
As a result, similar results in local currency can vary significantly upon
translation into US dollars if exchange rates fluctuate significantly from one
period to the next.
24
Item 8. Financial Statements and Supplementary Data
- ----------------------------------------------------
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
------------------
To the Board of Directors and Stockholders of Frequency Electronics, Inc.:
In our opinion, the consolidated financial statements listed in the index
appearing under Item 15(a)(1) on page 50 present fairly, in all material
respects, the financial position of Frequency Electronics, Inc. and Subsidiaries
at April 30, 2004 and 2003, and the results of their operations and their cash
flows for each of the three years in the period ended April 30, 2004 in
conformity with accounting principles generally accepted in the United States of
America. In addition, in our opinion, the financial statement schedule listed in
the index appearing under Item 15(a)(2) on page 50 presents fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements. These financial statements
and financial statement schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and financial statement schedule based on our audits. We conducted
our audits of these statements in accordance with the standards of the Public
Company Accounting Oversight Board (United States). 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, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
PRICEWATERHOUSECOOPERS LLP
Melville, New York
July 6, 2004
25
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Consolidated Balance Sheets
April 30, 2004 and 2003
-----------
ASSETS: 2004 2003
---- ----
(In thousands)
Current assets:
Cash and cash equivalents $ 5,699 $ 5,952
Marketable securities 25,690 27,829
Accounts receivable, net of allowance for
doubtful accounts of $140 in 2004 and $124 in 2003 15,036 9,565
Inventories, net 21,925 17,734
Deferred income taxes 2,585 4,435
Income taxes receivable 242 1,223
Prepaid expenses and other 1,658 1,198
----------- -----------
Total current assets 72,835 67,936
Property, plant and equipment, at cost,
less accumulated depreciation and
amortization 11,486 11,105
Deferred income taxes 593 436
Goodwill and other intangible assets 616 --
Cash surrender value of life insurance 5,355 4,869
Other assets 1,775 1,383
----------- -----------
Total assets $92,660 $85,729
=========== ===========
Continued
26
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Consolidated Balance Sheets
April 30, 2004 and 2003
(Continued)
-----------
LIABILITIES AND STOCKHOLDERS' EQUITY: 2004 2003
---- ----
(In thousands)
Current liabilities:
Short-term credit obligations $ 3,408 $ 179
Accounts payable - trade 3,470 1,294
Accrued liabilities 4,106 3,615
Dividend payable 843 834
----------- -----------
Total current liabilities 11,827 5,922
Deferred compensation 6,854 6,752
REIT liability and other liabilities 10,755 11,151
----------- -----------
Total liabilities 29,436 23,825
----------- -----------
Minority interest in consolidated subsidiary 48 195
----------- -----------
Commitments and contingencies (Notes 6 and 9)
Stockholders' equity:
Preferred stock - authorized 600,000 shares
of $1.00 par value; no shares issued -- --
Common stock - authorized 20,000,000 shares
of $1.00 par value; issued - 9,163,940 shares 9,164 9,164
Additional paid-in capital 44,442 43,806
Retained earnings 8,897 10,415
----------- -----------
62,503 63,385
Common stock reacquired and held in treasury -
at cost (738,428 shares in 2004 and
824,739 shares in 2003) (2,797) (3,062)
Other stockholders' equity (17) (116)
Accumulated other comprehensive income 3,487 1,502
----------- -----------
Total stockholders' equity 63,176 61,709
----------- -----------
Total liabilities and stockholders' equity $92,660 $85,729
=========== ===========
The accompanying notes are an integral part of these financial statements.
27
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Consolidated Statements of Operations
Years ended April 30, 2004, 2003 and 2002
-----------
2004 2003 2002
---- ---- ----
(In thousands, except share data)
Net sales $50,106 $31,527 $41,179
Cost of sales 34,529 25,681 27,090
----------- ----------- -----------
Gross margin 15,577 5,846 14,089
Selling and administrative expenses 11,459 7,573 8,932
Restructuring charge 428 -- --
Research and development expenses 5,336 4,605 6,568
Insurance reimbursement, net -- -- (1,500)
Goodwill impairment -- 6,158 --
----------- ----------- -----------
Operating (loss) profit (1,646) (12,490) 89
Other income (expense):
Investment income 2,321 1,830 1,864
Interest expense (365) (283) (302)
Other, net (181) 277 46
----------- ----------- -----------
Income (loss) before minority interest and
provision (benefit) for income taxes 129 (10,666) 1,697
Minority interest in loss of
consolidated subsidiary (144) (33) (1)
----------- ----------- -----------
Income (loss) before provision (benefit)
for income taxes 273 (10,633) 1,698
Provision (benefit) for income taxes 111 (1,773) 320
----------- ----------- -----------
Net income (loss) $162 ($8,860) $1,378
=========== =========== ===========
Net income (loss) per common share:
Basic $0.02 ($1.06) $0.17
=========== =========== ===========
Diluted $0.02 ($1.06) $0.16
=========== =========== ===========
Average shares outstanding:
Basic 8,374,399 8,331,785 8,350,735
=========== =========== ===========
Diluted 8,542,575 8,331,785 8,529,175
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
28
FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity Years ended
April 30, 2004, 2003 and 2002
(In thousands, except share data)
Treasury stock
Common Stock Additional (at cost)
------------ paid in Retained ---------
Shares Amount capital earnings Shares Amount
------ ------ ------- -------- ------ ------
Balance at May 1, 2001 9,163,940 9,164 42,860 21,226 872,669 (3,127)
- ----------------------
Exercise of stock options 52 (14,375) 43
Amortization of independent
contractor stock options 45
Contribution of stock to 401(k) plan 120 (28,220) 278
Amor