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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
[x] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT
OF 1934.
For the quarterly period ended October 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 Number 0-3319
DEL GLOBAL TECHNOLOGIES CORP.
(Exact name of registrant as specified in its charter)
New York 13-1784308
- -------- -----------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One Commerce Park, Valhalla, NY 10595
(Address of principal executive offices) (Zip Code)
914-686-3650
------------
(Registrant's telephone number including area code)
None
(Former name, former address and former fiscal year, if changed since last report)
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 whether the registrant is an accelerated filer (as
defined in Rule 12b-25 of the Exchange Act)
Yes / / No /X/
The number of shares of Registrant's common stock outstanding as of December 12,
2004 was 10,486,548.
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
Table of Contents
Part I. Financial Information: Page No.
--------
Item 1. Financial Statements (Unaudited)
Consolidated Statements of Operations for the Three Months 3
Ended October 30, 2004 and November 1, 2003
Consolidated Balance Sheets - October 30, 2004 and July 31, 2004 4-5
Consolidated Statements of Cash Flows for the Three Months Ended 6
October 30, 2004 and November 1, 2003
Notes to Consolidated Financial Statements 7-15
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 16-24
Item 3. Quantitative and Qualitative Disclosures about Market
Risk 24
Item 4. Controls and Procedures 24
Part II. Other Information:
Item 1. Legal Proceedings 26-28
Item 6. Exhibits and Reports on Form 8-K 28
Signatures 29
Certifications 30-35
2
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in Thousands except share data)
(Unaudited)
Three Months Ended
October 30, 2004 November 1, 2003
------------------ ----------------
NET SALES $18,758 $16,889
COST OF SALES 14,205 13,105
------------- -------------
GROSS MARGIN 4,553 3,784
------------- -------------
Selling, general and administrative 3,276 3,445
Research and development 373 306
------------- -------------
Total operating expenses 3,649 3,751
------------- -------------
OPERATING INCOME 904 33
Interest expense 422 310
Other income (14) (71)
------------- -------------
INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE
INCOME TAX PROVISION AND MINORITY INTEREST 496 (206)
INCOME TAX PROVISION 377 183
------------- -------------
INCOME (LOSS) FROM CONTINUING OPERATIONS 119 (389)
BEFORE MINORITY INTEREST
MINORITY INTEREST 71 67
------------- --------------
INCOME (LOSS) FROM CONTINUING OPERATIONS 48 (456)
DISCONTINUED OPERATIONS 199 (153)
------------ -------------
NET INCOME(LOSS) $ 247 $ (609)
============ =============
INCOME(LOSS)PER COMMON SHARE(BASIC AND DILUTED)
Continuing operations $ - $ (0.05)
Discontinued operations .02 (0.01)
------ ------
Net income(loss) per basic and diluted share $ .02 $ (0.06)
======= =======
Weighted average number of common
shares outstanding:
Basic 10,351,746 10,332,548
Diluted 11,397,939 10,332,548
See notes to consolidated financial statements
3
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands)
(Unaudited)
ASSETS
October 30, July 31,
2004 2004
------------- -------------
CURRENT ASSETS
Cash and cash equivalents $ 707 $ 4,755
Trade receivables (net of allowance
for doubtful accounts of $929 and $888
at October 30, 2004 and July 31, 2004,
respectively) 12,011 12,900
Inventory 15,179 15,122
Assets attributable to discontinued operations,
at net realizable value - 4,369
Prepaid expenses and other current
assets 975 1,068
------------ -------------
Total current assets 28,872 38,214
FIXED ASSETS - Net 6,708 6,907
DEFERRED INCOME TAX ASSET-NON CURRENT 1,181 1,102
GOODWILL 1,911 1,911
INTANGIBLES - Net 87 103
OTHER ASSETS 1,019 1,024
------------- --------------
TOTAL ASSETS $39,778 $49,261
============= ==============
See notes to consolidated financial statements
4
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands)
(Unaudited)
LIABILITIES AND SHAREHOLDERS' EQUITY
October 30, July 31,
2004 2004
------------- -------------
CURRENT LIABILITIES
Short-term credit facilities $ 2,130 $ 2,699
Current portion of long-term debt 752 730
Accounts payable - trade 8,249 10,926
Accrued liabilities 8,717 8,920
Net liabilities attributable to
discontinued operations - 958
Litigation settlement reserves 126 5,148
Income taxes payable 1,562 1,069
------------ --------------
Total current liabilities 21,536 30,450
NON-CURRENT LIABILITIES
Long-term debt 4,850 5,076
Subordinated note 1,985 1,962
Other long-term liabilities 2,587 2,462
Other liabilities attributable to
discontinued operations - 147
------------ --------------
Total liabilities 30,958 40,097
------------ --------------
MINORITY INTEREST IN SUBSIDIARY 989 1,389
------------ --------------
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY
Common stock, $.10 par value;
Authorized 20,000,000 shares;
Issued - 11,018,581 and 10,978,581
at October 30,2004 and July 31, 2004 1,102 1,098
Additional paid-in capital 64,118 64,072
Accumulated other comprehensive income 551 792
Accumulated deficit (52,394) (52,641)
Less common stock in treasury - 643,533
shares at October 30,2004 and
July 31, 2004 (5,546) (5,546)
------------- --------------
Total shareholders' equity 7,831 7,775
------------- --------------
TOTAL LIABILITIES AND SHAREHOLDERS'
EQUITY $ 39,778 $ 49,261
============ ==============
See notes to consolidated financial statements
5
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
(Unaudited)
Three Months Ended
Oct 30, 2004 Nov. 1, 2003
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Income(loss) from continuing operations $ 48 $(456)
Adjustments to reconcile net loss to
net cash provided by operating activities:
Depreciation and amortization 327 544
Imputed interest - Subordinated note 22 45
Minority interest 71 67
Stock based compensation expense 10 10
Deferred income tax (56) -
Changes in operating assets and liabilities:
Decrease in trade receivables 1,049 1,305
Decrease in inventory 148 482
Decrease (Increase) in prepaid expenses and
other current assets 104 (220)
Decrease in other assets 24 45
Increase (Decrease) in accounts payable - trade (2,818) (452)
Decrease in accrued liabilities (665) (110)
Payment of litigation settlement costs (5,023) -
Increase in income taxes payable 441 170
Increase in other long-term liabilities 76 1
----------- -----------
Net cash provided by (used in) operating
activities (6,242) 1,431
----------- -----------
Cash Flows from discontinued operations
and sale proceeds 3,463 (153)
CASH FLOWS FROM INVESTING ACTIVITIES: ----------- -----------
Fixed asset purchases (22) (96)
---------- ----------
Net cash used in investing activities (22) (96)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of bank borrowings (885) (302)
Stock option exercise 40 -
Dividend to Villa minority shareholders (493) -
----------- ----------
Net cash used in financing activities (1,338) (302)
----------- ----------
EFFECT OF EXCHANGE RATE CHANGES 91 48
----------- -----------
NET CHANGE IN CASH AND CASH EQUIVALENTS (4,048) 928
CASH AND CASH EQUIVALENTS AT THE BEGINNING
OF THE PERIOD 4,755 1 381
----------- ----------
CASH AND CASH EQUIVALENTS AT THE END OF
THE PERIOD $ 707 $ 2,309
=========== ==========
See notes to consolidated financial statements
6
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share data)
(Unaudited)
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by accounting principles generally accepted
in the United States of America for complete financial statements. In the
opinion of management, all adjustments (consisting only of normal recurring
adjustments) considered necessary for a fair presentation of the results for the
interim period have been included. Results of operations for the interim periods
are not necessarily indicative of the results that may be expected for the full
year. These consolidated financial statements should be read in conjunction with
the financial statements and the notes thereto included in the Company's annual
report on Form 10-K filed with the Securities and Exchange Commission for the
year ended July 31, 2004. Certain prior year's amounts have been reclassified to
conform to the current period presentation.
As of July 31, 2004, the Company's Board had committed to a plan to dispose of
its Del High Voltage Division ("DHV") and on October 1, 2004, we sold this
division for a purchase price of $3.1 million, plus the assumption of
approximately $0.8 million of liabilities. Accordingly, the results of
operations have been reclassified to show this division as a discontinued
operation.
On October 4, 2004, the Company announced that it had entered into non-binding
letters of intent for the sale of both the Medical Systems Group Segment and the
remainder of the Power Conversion Group Segment. The Company intends to call a
meeting of stockholders to seek approval under New York law for the sale of the
Medical Systems Group Segment in the event a definitive agreement is entered
into for such sale. There can be no assurance that these non-binding letters of
intent will result in the consummation of the sale of these segments or that the
strategic alternatives process initiated by the Company will lead to any other
transactions. The Company may seek stockholder approval of a plan of
liquidation; however, the Board of Directors of the Company has not yet approved
any plan of liquidation. Any proceeds that may be received by stockholders of
the Company as a result of any plan of liquidation may be greater or less than
the current market price of the Common Stock of the Company.
The Company's fiscal year is based on a 52/53 week cycle ending on the Saturday
nearest to July 31. Results of the Company's Milan, Italy based Villa Sistemi
Medicali S.p.A ("Villa") subsidiary are reported on a one-month lag.
The Company recognizes revenue upon shipment, provided there is persuasive
evidence of an arrangement, there are no uncertainties concerning acceptance,
the sales price is fixed, collection of the receivable is probable and only
perfunctory obligations related to the arrangement need to be completed. The
Company's products are covered primarily by one year warranty plans and in some
cases optional extended warranties for up to five years are offered. The Company
establishes allowances for warranties as more fully described in the Product
Warranty footnote herein. The Company recognizes service revenue when repairs or
out of warranty repairs are completed. The Company has an FDA obligation to
7
continue to provide repair service for certain medical systems for up to seven
years past the warranty period, which are billed to the customers at market
rates.
SFAS No. 148, Accounting for Stock-based Compensation-Transition and Disclosure,
an amendment of FASB Statement No. 123, amends SFAS No. 123 to provide
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation. It also amends the
disclosure provisions of SFAS No. 123 to require prominent disclosure in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The Company has elected to continue to account for stock-based awards
to employees using the intrinsic value method of accounting in accordance with
Accounting Principles Board Opinion No 25, "Accounting for Stock Issued to
Employees." The Company's practice in granting these awards to employees is to
set the exercise price of the stock options equal to the market price of our
underlying stock on the date of grant. Therefore under the intrinsic value
method, no compensation expense is recognized in the Company's Consolidated
Statements of Operations.
Had compensation cost for the Company's stock option plans been determined based
on the fair value at the grant dates for awards under those plans consistent
with the methods recommended by SFAS 123, the Company's net income or loss and
net income or loss per share for the three months ended October 30, 2004 and
November 1, 2003 would have been stated at the pro forma amounts indicated
below:
Three Months Ended
------------------
Oct 30, Nov. 1,
2004 2003
----------- -----------
Net income (loss) - as reported $247 $(609)
Deduct: Total stock-based
awards determined under
fair value method (114) (114)
----------- -----------
Proforma Net Income (loss) $133 $(723)
=========== ===========
Income (loss) per share -
Basic
As reported $ .02 $(0.06)
Proforma $ .01 $(0.07)
Income (loss) per share -
Diluted
As reported $ .02 $(0.06)
Proforma $ .01 $(0.07)
8
NEW ACCOUNTING PRONOUNCEMENTS
In November 2004, the Financial Accounting Standards Board ("FASB") issued FASB
Statement No. 151, "Inventory Costs, an amendment of ARB No.43, Chapter 4". This
Statement amends the guidance in ARB No. 43, Chapter 4, "Inventory Pricing," to
clarify the accounting for abnormal amounts of idle facility expense, freight,
handling costs, and wasted material (spoilage), requiring that those items be
recognized as current-period charges. In addition, this Statement requires that
allocation of fixed production overheads to the costs of conversion be based on
the normal capacity of the production facilities. The provisions of this
statement are effective for fiscal years beginning after June 15, 2005, with
early application permitted. The Company is in the process of evaluating the
impact the adoption of this statement will have on its financial statements
DISCONTINUED OPERATIONS
On October 1, 2004, the Company completed the sale of its Del High Voltage
Division ("DHV") for a purchase price of $3,100, plus the assumption of
approximately $800 of liabilities. This division was formerly part of the Power
Conversion Group and designed, manufactured and marketed proprietary precision
power conversion subsystems for medical as well as critical industrial
applications. The results of operations of this division are shown as
discontinued operations in the accompanying financial statements.
Certain information is summarized below:
Quarter Ended
Oct. 30, Nov. 1,
2004 2003
---------- --------
Revenues $1,896 $4,753
Net income (loss) before income tax provision 199 (153)
Income tax provision - -
Income (loss) from discontinued operations 199 (153)
Income (loss) from discontinued operations, net for fiscal year 2005, includes a
gain on sale of $21 in addition to the fourth quarter fiscal 2004 write down of
the DHV assets to net realizable value of $3,481 and the second quarter fiscal
2004 goodwill write off of $1,328 and intangible asset write off of $125 related
to the DHV business.
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill represents the excess of the cost of acquisitions over the fair value
of the identifiable assets acquired and liabilities assumed. Other intangible
assets are the Company's distribution network and non-compete agreements
acquired with the purchase of certain assets of a subsidiary. Intangibles are
being amortized on a straight-line basis over their estimated useful lives,
which range from 5 to 10 years. The components of our amortizable intangible
assets are as follows:
October 30, 2004 July 31, 2004
---------------- --------------
Gross Carrying Accumulated Gross Carrying Accumulated
9
Amounts Amortization Amounts Amortization
Distribution
Network $ 653 S 566 $ 653 $ 550
------- ------- ------- -------
Total $ 653 $ 566 $ 653 $ 550
======= ======= ======= =======
Amortization expense for intangible assets during the first quarter of fiscal
years 2005 and 2004 was $16 and $37, respectively. Estimated amortization
expense for the remainder of 2005 and the five succeeding fiscal years is as
follows:
2005 (remainder) 50
2006 37
2007-2009 None
There are no components of intangible assets that have an indefinite life.
There were no changes in goodwill balances during the first quarter of fiscal
year 2005.
INVENTORY
Inventory is stated at the lower of cost (first-in, first-out) or market.
Inventories and their effect on cost of sales are determined by physical count
for annual reporting purposes and are evaluated using perpetual inventory
records for interim reporting periods. For certain subsidiaries during interim
periods we estimate the amount of labor and overhead costs related to finished
goods inventories. The estimation methodologies used for interim reporting
purposes are described in Management's Discussion and Analysis of Financial
Condition and Results of Operations under the subtitle "Critical Accounting
Policies".
October 30, 2004 July 31, 2004
----------------- ------------------
Raw materials and purchased parts $ 11,568 $ 10,839
Work-in-process 2,760 2,974
Finished goods 3,579 3,845
---------- ----------
17,907 17,658
Less allowance for obsolete and excess
inventory (2,728) (2,536)
----------- ----------
Total inventory $ 15,179 $ 15,122
=========== ==========
PRODUCT WARRANTIES
The Company's products are covered primarily by one-year warranty plans and in
some cases optional extended contracts may be offered covering products for
periods up to five years, depending upon the product and contractual terms of
sale. The Company establishes allowances for warranties on an aggregate basis
for specifically identified, as well as anticipated, warranty claims based on
contractual terms, product conditions and actual warranty experience by product
line.
During the first quarter of fiscal 2005, the Company incurred payments of $86
related to warranty claims submitted and accrued $153 related to product
10
warranties issued during the first quarter of fiscal 2005. The liability related
to warranties is included in accrued expenses on the accompanying Consolidated
Balance Sheets and is $1,112 and $1,030 at October 30, 2004 and July 31, 2004,
respectively.
COMPREHENSIVE LOSS
Comprehensive loss for the Company includes foreign currency translation
adjustments and net loss reported in the Company's Consolidated Statements of
Operations.
Comprehensive loss for 2005 and 2004 was as follows:
Three Months Ended
October 30, 2004 November 1, 2003
---------------- ----------------
Net income(loss) $ 247 $(609)
Foreign currency translation adjustments (241) 77
-------- ---------
Comprehensive income(loss) $ 6 $(532)
========= =========
INCOME (LOSS) PER SHARE Three Months Ended
October 30, 2004 November 1, 2003
----------------- ----------------
Numerator:
Net income(loss) $ 247 $ (609)
=========== =========
Denominator:
Denominator for basic income (loss) per share -
Weighted average shares outstanding 10,351,746 10,332,548
Effect of dilutive securities 1,046,193 -
----------- ----------
Denominator for diluted loss per share 11,397,939 10,332,548
----------- ----------
Income (loss) per common share
Basic $ .02 $ (0.06)
Diluted $ .02 $ (0.06)
Common shares outstanding for the current and prior period ended were reduced by
643,533 shares of treasury stock. The computation of dilutive securities
includes the assumed conversion of warrants and employee stock options to
purchase company stock. The fiscal 2004 computation of diluted shares
outstanding at November 1, 2003 does not include 2,116,815 employee stock
options and 1,065,000 warrants to purchase Company common stock since the effect
of their assumed conversion would be anti-dilutive.
11
SEGMENT INFORMATION
The Company has three reportable segments: Medical Systems Group, Power
Conversion Group and Other. The "Other" segment includes unallocated corporate
costs. Interim segment information is as follows:
Medical Power
For three months ended Systems Conversion
October 31, 2004 Group Group Other Total
- ----------------------- --------- -------- -------- -------
Net Sales to Unaffiliated Customers $15,373 $ 3,385 - $18,758
Cost of sales 11,802 2,403 - 14,205
------- -------- ------- ------
Gross margin 3,571 982 - 4,553
Operating expenses 2,375 534 740 3,649
------ ------- ------ ------
Operating income (loss) $1,196 $ 448 $ (740) $ 904
====== ======= ====== ======
Medical Power
For three months ended Systems Conversion
November 1, 2003 Group Group Other Total
- ----------------------- --------- -------- -------- -------
Net Sales to Unaffiliated Customers $13,701 $ 3,188 - $16,889
Cost of sales 10,416 2,689 - 13,105
------- -------- ------- ------
Gross margin 3,285 499 - 3,784
Operating expenses 2,379 572 $ 800 3,751
------ ------- ------ ------
Operating income (loss) $ 906 $ (73) $ (800) $ 33
====== ======= ====== ======
CONTINGENCIES
US DEPARTMENT OF DEFENSE ("DOD") INVESTIGATION - On March 8, 2002, RFI
Corporation, a subsidiary of the Company and the remaining part of the Power
Conversion Group segment, was served with a subpoena by the US Attorney Eastern
District of New York in connection with an investigation by the DOD. RFI
supplies electro magnetic interference filters for communications and defense
applications. Since March 2002, the DOD has been investigating certain past
practices at RFI which date back more than six years and pertain to RFI's
Military Specification testing, record keeping and general operating procedures.
Management retained special counsel to represent the Company on this matter. The
Company has cooperated fully with this investigation, including voluntarily
providing employees to be interviewed by the Defense Criminal Investigative
Services division of the DOD.
In June 2003, the Company was advised that the US Government was willing to
enter into negotiations regarding a comprehensive settlement of this
investigation. Prior to the preliminary discussions with the US Government in
June 2003, the Company had no basis to estimate the financial impact of this
12
investigation. Based on preliminary settlement discussions with the US
Government, discussions with the Company's advisors, consideration of
settlements reached by other parties in investigations of this nature, and
consideration of the Company's capital resources, management then developed an
estimate of the low end of the potential financial impact. Accordingly, during
the third quarter of fiscal 2003, the Company recorded a charge of $2,347 which
represented its estimate of the low end of a range of potential fines and legal
and professional fees.
Following negotiations, Del Global reached a global settlement in February 2004
with the US Government that resolves the civil and criminal matters relating to
the DOD's investigation. The settlement included the Company pleading guilty to
one criminal count and agreeing to pay fines and restitution to the US
Government of $4,600 if paid by June 30, 2004 and $5,000 if paid by September
30, 2004.
In connection with this settlement, Del Global recognized an additional charge
of approximately $3,199 in the second quarter of fiscal 2004. This charge
represented the difference between the $2,347 charge taken during the third
quarter of fiscal 2003, and the up to $5,000 in fines and restitution, plus
estimated legal and professional fees related to this settlement. The liability
associated with these charges is included in Litigation settlement reserves on
the July 31, 2004 balance sheet.
On September 30, 2004, pursuant to the terms of the settlement, Del Global
fulfilled its obligation under this agreement by paying to the US Government the
sum of $5 million representing fines and restitution. On October 7, 2004, RFI
entered a criminal guilty plea to a single count conspiracy charge pursuant to
the settlement and a criminal plea agreement. Sentencing will occur at a later
date to be determined. There can be no assurance that the court will not impose
additional fines or restitution, or that the combined civil and criminal
restitution imposed by the court will not vary significantly from the amount of
fines and restitution the Company has paid to date.
Del Global has been working with the Defense Logistics Agency, a component of
the DOD, to avoid any future limitations on the ability of the Company to do
business with US Government entities. Such limitation could include the US
Government seeking a "debarment" or exclusion of the Company from doing business
with US Government entities for a period of time. The Company has made a written
and oral submission to that agency detailing the remedial measures that the
Company has taken to help ensure future compliance. If the US Government decides
not to debar RFI, Del Global, RFI and the US Government will need to execute a
written compliance agreement. No assurance can be given that the Company, RFI
and the US Government will enter into any such agreement or that the debarment
will be avoided.
ERISA MATTERS - During the year ended July 28, 2001, management of the Company
concluded that violations of the Employee Retirement Income Security Act,
("ERISA") existed relating to a defined benefit plan for which accrual of
benefits had been frozen as of May 3, 1986. The violations related to excess
concentrations of the Common stock of the Company in the plan assets. In July
2001, management of the Company decided to terminate this plan, subject to
having available funds to finance the plan in accordance with rules and
regulations relating to terminating pension plans. The Company started the
process of terminating this plan in September 2004. At the time of settlement,
which is expected in the third quarter of fiscal 2005, the Company expects to
13
recognize a related charge of approximately $500, including a cash disbursement
of approximately $100.
EMPLOYMENT MATTERS - The Company has an employment agreement with Samuel Park,
the previous Chief Executive Officer ("CEO"), for the period May 1, 2001 to
April 30, 2004. The terms of this agreement provided a base salary, bonuses and
deferred compensation. The bonus provided by this agreement was based on a
percentage of the base salary, if certain performance goals established by the
board were achieved. In addition, the employment agreement provided for certain
payments in the event of death, disability or change in the control of the
Company.
On October 10, 2003, the Company announced the appointment of Walter F.
Schneider as President and CEO to replace Mr. Park, effective as of such date.
As a result, the Company recorded a charge of $200 during the first quarter of
fiscal 2004 to accrue the balance remaining under Mr. Park's employment
agreement.
In addition, the Company's Board of Directors, elected at the Company's Annual
Meeting of Shareholders held on May 29, 2003, had previously reviewed the
"change in control" provisions regarding payments totaling up to approximately
$1,800 under the employment agreement between the Company and Mr. Park. As a
result of this review and based upon, among other things, the advice of special
counsel, the Company's Board of Directors determined that no obligation to pay
these amounts has been triggered. Prior to his departure from the Company on
October 10, 2003, Mr. Park orally informed the Company that, after reviewing the
matter with his counsel, he believes that the obligation to pay these amounts
has been triggered. On October 27, 2003, the Company received a letter from Mr.
Park's counsel demanding payment of certain sums and other consideration
pursuant to the Company's employment agreement with Mr. Park, including these
change in control payments. On November 17, 2003, the Company filed a complaint
against Mr. Park seeking a declaratory judgment that no change in control
payment was or is due to Mr. Park and that an amendment to the employment
contract with Mr. Park regarding advancement and reimbursement of legal fees is
invalid and unenforceable. Mr. Park answered the complaint and asserted
counterclaims seeking payment from the Company based on his position that a
"change in control" occurred in June 2003. Mr. Park is also seeking other
consideration he believes he is owed under his employment agreement. The Company
filed a reply to Mr. Park's counterclaims denying that he is entitled to any of
these payments. The suit is now in the discovery phase. The parties are in the
process of exchanging documents, and depositions are to be conducted in December
2004. If Mr. Park prevails on his claims and the payments he seeks are required
to be paid in a lump sum, these payments may have a material adverse effect on
the Company's liquidity. It is not possible to predict the outcome of these
claims. However, the Company's Board of Directors does not believe that such a
claim is reasonably likely to result in a material decrease in the Company's
liquidity in the foreseeable future.
During fiscal 2004, the Company began employment termination proceedings against
an executive of the Company. Subsequently, the executive instituted legal
proceedings alleging certain damages based on change in control provisions of
the executive's employment contract and various additional actions or damages.
The Company believes the former executive's change in control provision has not
been triggered and that such termination was justified. Thereafter, the court
issued an order directing a subsidiary of the Company to pay damages. The
Company believes it has meritorious defenses to this matter and has filed an
14
appeal. However, based on the courts order, the Company has recorded a charge in
fiscal 2004 of approximately $363 in connection with this matter included in
Litigation Settlement reserves in the accompanying consolidated financial
statements.
INDEMNIFICATION LEGAL EXPENSES - Pursuant to indemnification and undertaking
agreements with certain former officers, directors and employees, the Company
has advanced legal expenses in connection with the Company's previously reported
accounting irregularities and the related shareholder litigation and
governmental enforcement actions. During fiscal 2004, the Company did not
advance any amounts pursuant to these agreements and during fiscal 2003, the
Company spent approximately $310 in the advancement of legal expenses pursuant
to these agreements. Management is unable to estimate at this time the amount of
legal fees that the Company may have to pay in the future related to these
matters. Further, there can be no assurance that those to whom we have been
advancing expenses will have the financial means to repay the Company pursuant
to undertaking agreements that they executed, if it is later determined that
such individuals were not entitled to be indemnified.
OTHER LEGAL MATTERS -In addition, the Company is a defendant in several other
legal actions arising from the normal course of business in various US and
foreign jurisdictions. Management believes the Company has meritorious defenses
to such actions and that the outcomes will not be material to the Company's
consolidated financial statements.
15
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Dollars in Thousands except share data)
This Management's Discussion and Analysis of Financial Condition and Results of
Operations contains forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. These statements are based on current
expectations and the current economic environment. We caution that these
statements are not guarantees of future performance. They involve a number of
risks and uncertainties that are difficult to predict including, but not limited
to, our ability to implement our business plan, retention of management,
changing industry and competitive conditions, obtaining anticipated operating
efficiencies, securing necessary capital facilities, favorable determinations in
various legal and regulatory matters, including a settlement of the Department
of Defense investigation on terms that we can afford and that does not include a
debarment from doing business with the US Government, and favorable general
economic conditions. Actual results could differ materially from those expressed
or implied in the forward-looking statements. Important assumptions and other
important factors that could cause actual results to differ materially from
those in the forward-looking statements are specified in the Company's filings
with the Securities and Exchange Commission including our Form 10-K for the
fiscal year ended July 31, 2004.
OVERVIEW
The Company is primarily engaged in the design, manufacture and marketing of
cost-effective medical imaging and diagnostic systems consisting of stationary
and portable x-ray systems, radiographic/fluoroscopic systems, dental imaging
systems and proprietary high-voltage power conversion subsystems for medical and
other critical industrial applications. The Company also manufactures electronic
filters, high voltage capacitors, pulse modulators, transformers and reactors,
and a variety of other products designed for industrial, medical, military and
other commercial applications. We manage our business in two operating segments:
our Medical Systems Group and our Power Conversion Group. In addition, we have a
third reporting segment, Other, comprised of certain unallocated corporate
General and Administrative expenses. See "Segment Information" in Part I, Item 1
of this Quarterly Report on Form 10Q for the fiscal quarter ended October 30,
2004( this "Quarterly Report) for discussions of the Company's segments.
As of July 31, 2004, the Company's Board had committed to a plan to dispose of
the Del High Voltage Division ("DHV") and on October 1, 2004, we sold this
division for a purchase price of approximately $3.1 million, plus the assumption
of approximately $0.8 million of liabilities. Accordingly, the results of
operations have been restated to show this division as a discontinued operation.
On October 4, 2004, the Company announced that it had entered into non-binding
letters of intent for the sale of both the Medical Systems Group Segment and the
remainder of the Power Conversion Group Segment. The Company intends to call a
meeting of stockholders to seek approval under New York law for the sale of the
Medical Systems Group Segment in the event a definitive agreement is entered
into for such sale. There can be no assurance that these non-binding letters of
intent will result in the consummation of the sale of these segments or that the
strategic alternatives process initiated by the Company will lead to any other
16
transactions. The Company may seek stockholder approval of a plan of
liquidation; however, the Board of Directors of the Company has not yet approved
any plan of liquidation. Any proceeds that may be received by stockholders of
the Company as a result of any plan of liquidation may be greater or less than
the current market price of the Common Stock of the Company.
CRITICAL ACCOUNTING POLICIES
Complete descriptions of significant accounting policies are outlined in Note 1
of our Form 10-K for the fiscal year ended July 31, 2004. Within these policies,
we have identified the accounting for deferred tax assets and the allowance for
obsolete and excess inventory as being critical accounting policies due to the
significant amount of estimates involved. In addition, for interim periods, we
have identified the valuation of finished goods inventory as being critical due
to the amount of estimates involved.
DEFERRED INCOME TAXES
We account for deferred income taxes in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," whereby we
recognize an asset related to our net operating loss carry forwards and other
temporary differences between financial reporting basis and income tax basis.
The valuation of our deferred tax assets and the recognition of tax benefits in
each period assumes future taxable income and profitability. We periodically
evaluate the likelihood of the recoverability of our deferred tax asset
recognized, based upon our actual operating results and expectations of future
operating profits.
During fiscal year 2004, as part of our customary six month planning and review
cycle, management updated each business unit's forecast and operating results,
and concluded that it was prudent to record additional valuation allowances,
increasing the total valuation allowance to $19.9 million against 100% of both
long and short-term US domestic deferred tax assets. The valuation allowance
recorded is the estimate of the amount of deferred tax assets that are more
likely than not to go unrealized by the Company.
We anticipate it is more likely than not the remaining deferred tax asset which
relates to our Villa subsidiary will be utilized against future operating
profits or as an offset to dividend income received from our Villa subsidiary.
However, we can make no assurances that our Villa subsidiary will generate
profits in the future.
OBSOLETE AND EXCESS INVENTORY
Another significant estimate is our allowance for obsolete and excess inventory.
We re-evaluate our allowance for obsolete inventory once a quarter, and this
allowance comprises the most significant portion of our inventory reserves. The
re-evaluation of reserves is based on a written policy, which requires at a
minimum that reserves be established based on our analysis of historical actual
usage on a part-by-part basis. In addition, if management learns of specific
obsolescence in addition to this minimum formula, these additional reserves will
be recognized as well. Specific obsolescence might arise due to a technological
or market change, or based on cancellation of an order. As we typically do not
purchase inventory substantially in advance of production requirements, we do
not expect cancellation of an order to be a material risk. However, market or
technology changes can occur.
17
VALUATION OF FINISHED GOODS INVENTORIES
In addition, we use certain estimates in determining interim operating results.
The most significant estimates in interim reporting relate to the valuation of
finished goods inventories. For certain subsidiaries, for interim periods, we
estimate the amount of labor and overhead costs related to finished goods
inventories. As of October 30, 2004, finished goods represented approximately
20.0% of the gross carrying value of our total gross inventory. We believe the
estimation methodologies used to be appropriate and are consistently applied.
CONSOLIDATED RESULTS OF OPERATIONS
Consolidated net sales of $18.8 million for the first quarter of fiscal 2005
increased by $1.9 million or 11.1% from fiscal 2004 first quarter net sales of
$16.9 million, with increases at both the Power Conversion Group and our Medical
Systems Group. The Medical Systems Group's first quarter fiscal 2005 sales of
$15.4 million improved by $1.7 million or 12.2% from the prior year's first
quarter with increases at international locations offsetting delayed shipments
of digital units at its domestic locations. International sales for the first
quarter of fiscal 2005 were also impacted by favorable exchange rate effects
from the translation of Villa's financial statements from euros to dollars of
approximately $0.7 million. The Power Conversion Group's first quarter fiscal
2005 sales of $3.4 million increased by $0.2 million or 6.2% from last year's
levels.
Consolidated backlog at October 30, 2004 was $24.0 million versus backlog at
July 31, 2004 of approximately $25.9 million. The backlog in the Power
Conversion Group decreased $0.3 million from levels at beginning of the fiscal
year while there was a $1.6 million decrease in the backlog at our Medical
Systems Segment. Substantially all of the backlog should result in shipments
within the next 12 months.
Gross margins as a percent of sales were 24.3% for the first quarter of fiscal
2005, compared to 22.4% in the first quarter of fiscal 2004. The Power
Conversion Group's margins for the first quarter of fiscal 2005 were 29.0%,
versus 15.7% in the prior year quarter. First quarter fiscal 2005 Power
Conversion group margins benefited from improvements in procurement, decreased
material costs as a percent of sales and lower waste levels. For the Medical
Systems Group, first quarter gross margins of 23.2% declined from the 24.0%
level in the prior year first quarter due to unfavorable product mix at both
locations.
Selling, General and Administrative expenses ("SG&A") for the first quarter
of fiscal 2005 were $3.3 million (17.5% of sales) compared to $3.4 million
(20.4% of sales) in the prior year's first quarter. The decrease in SG&A in
the first quarter of fiscal 2005 reflects reduced corporate legal and accounting
costs, and reduced selling costs in the Power Conversion Group.
As a result of the foregoing, we recognized a first quarter fiscal 2005
operating income of $0.9 million compared to an operating income of $0.03
million in the first quarter of fiscal 2004. The Medical Systems Group posted a
first quarter fiscal 2005 operating profit of $1.2 million and the Power
Conversion Group showed operating profit of $0.4 million, offset by unallocated
corporate costs of $0.7 million.
18
Interest expense for the first quarter of fiscal 2005 was higher than the prior
year's first quarter due to fees incurred in conjunction with modifications to
the Company's domestic revolving credit facility.
The Company has not provided for a U.S. domestic income tax benefit in the first
quarter of fiscal 2004. With the exception of tax provisions and adjustments
recorded at Villa, our Italian subsidiary, we recorded no adjustments to our
current or net deferred tax accounts during the first quarter of fiscal 2005 or
fiscal 2004.
As discussed above, Discontinued Operations are related to our DHV division,
which was sold on October 1, 2004. Discontinued operations in the first quarter
of fiscal 2005 reflect the operations of the DHV division through the date of
sale, which recorded income from operations of $0.2 million during the first
quarter. The prior year's loss from operations was $0.2 million for the first
quarter.
Reflecting the above, we recorded net income of $0.2 million or $0.02 per
share(basic and diluted) in the first quarter of fiscal 2005, as compared to a
net loss of $0.6 million, or $0.06 per share(basic and diluted), during the
first quarter of fiscal 2004.
FINANCIAL CONDITION
LIQUIDITY AND CAPITAL RESOURCES
We fund our investing and working capital needs through a combination of cash
flow from operations and short-term credit facilities.
Working Capital -- At October 30, 2004 and July 31, 2004, our working capital
was approximately $7.3 million and $7.8 million, respectively. At such dates, we
had approximately $0.7 million and $4.8 million, respectively, in cash and cash
equivalents, the majority of which is at our Villa Subsidiary in Italy. As of
October 30, 2004, we had approximately $2.9 million of excess borrowing
availability under our domestic revolving credit facility compared to $5.8
million at July 31, 2004, reflecting payments of a $5.0 million fine to the DOD.
In addition, as of October 30, 2004 and July 31, 2004, our Villa subsidiary had
an aggregate of approximately $7.5 million of excess borrowing availability
under its various short-term credit facilities. Terms of the Italian credit
facilities do not permit the use of borrowing availability to directly finance
operating activities at our US subsidiaries.
Cash Flows from Operating Activities - For the quarterly period ended October
30, 2004, the Company used approximately $6.2 million of cash for operations,
compared to a generation of $1.4 million in prior fiscal year. Contributing to
cash usage in fiscal 2005 was the payment of a $5.0 million fine related to the
DOD investigation as explained in "Legal Proceedings" in Part II, Item 1 of this
Quarterly Report.
Cash Flows from Investing Activities -- We have made minimal facility
improvements and capital equipment for the quarterly period ended October 30,
2004 compared to $0.1 million for the prior fiscal year period.
Cash Flows from Financing Activities -- During the quarterly period ended
October 30, 2004, we repaid a total of approximately $0.9 million of
19
indebtedness on our domestic and Italian borrowings. In addition the Villa
subsidiary paid a dividend of approximately $2.5 million, of which $0.5 million
was paid to Villa's minority shareholders. The remaining $2.0 million, net of
withholding taxes was an intercompany transaction with the Parent Company and
therefore eliminated in the accompanying consolidated financial statements.
The following table summarizes our contractual obligations, including debt and
operating leases at July 31, 2004 (in thousands):
Within 2-3 4-5 After 5
Obligations Total (1) 1 Year Years Years Years
- ----------------------------------------- --------- ------ ------------ ------------ ------------
Long-Term Debt Obligations................ $ 2,733 $ 564 $ 1,155 $ 568 $ 446
Capital Lease Obligations................. 3,073 368 897 994 814
Subordinated Note......................... 2,000 -- 2,000 -- --
Operating Lease Obligations............... 953 514 421 18 --
----------- --------- ------------ ------------ -------------
Total Contractual Cash Obligations........ $ 8,759 $ 1,446 $ 4,473 $ 1,580 $ 1,260
=========== ========= ============ ============ =============
(1) In addition, as of July 31, 2004 we had approximately $2.7 million in
revolving credit debt in the US and $0.3 million in Italy. The Italian
credit facilities are generally renewed on a yearly basis and the GECC
Facility, as amended matures in August 2005. The maturity of the GECC
Facility is subject to acceleration upon certain events of default as
defined in the credit agreement, including uncured covenant defaults. The
maturity is also subject to acceleration upon the consummation of the
transactions contemplated by the non-binding letters of intent the Company
signed in October 2004 for the sale of the Company's remaining businesses.
Credit Facility and Borrowing -- The Company has a $5 million senior revolving
credit agreement, as amended, entered into on June 10, 2002 with Transamerica
Corporation ( the "GECC Facility"). In January 2004, GECC completed the
acquisition of Transamerica Corporation and assumed the ownership and
administration of our US credit facility. This facility, as amended, expires on
the earlier of August 1, 2005 or the sale of substantially all of the assets or
stock of RFI or the Medical Systems Group Segment. Interest under the GECC
Facility is based on thirty day commercial paper rates plus a margin of 3.5%.
The interest rate on the GECC Facility was 4.75% at October 30, 2004 and 5.0% at
July 31, 2004. The GECC Facility is subject to commitment fees of 3/8% on the
daily unused portion of the Facility, payable monthly. Under terms of the GECC
Facility, interest is calculated based on the higher of the actual balance, or a
floor revolving credit balance of $5 million. The GECC Facility is secured by
substantially all of the Company's accounts receivable, inventory, and fixed
assets in the US. The terms of the GECC Facility require the Company to comply
with various operational and financial covenants, and place limitations on the
Company's ability to make capital expenditures and to pay dividends. The Company
is currently in compliance with these various covenants.
On October 25, 2004, the Company signed a Sixth Amendment to the GECC Facility.
This Sixth Amendment: (i) extends the maturity of the credit facility to the
earlier of (a) August 1, 2005 or (b) the sale of substantially all of the assets
20
or stock of RFI or the Medical Systems Group segment, (ii) reduces the maximum
formula based borrowing cap from $10 million to $5 million (iii) accelerates the
payment of the $0.5 million Performance Fee immediately upon signing as a charge
against the credit facility, (iv) provides for a $50,000 extension fee payable
immediately as a charge against the facility and (v) provides for an additional
fee of $10,000 per month for each month the credit facility remains outstanding
subsequent to December 2004.
Our Villa subsidiary is a party to various short-term credit facilities with
interest rates ranging from 6% to 14%. These facilities generally renew on a
yearly basis and include overdraft, receivables and import export financing
facilities. In addition, Villa is a party to various medium-term commercial and
Italian Government long-term loans. Medium term facilities have interest rates
ranging from 3 to 6%, with principal payable semi-annually through maturity in
March 2007, and interest payable quarterly. The Government long-term facilities
have an interest rate of 3.4% with principal payable annually through September
2010. Villa's manufacturing facility is subject to a capital lease obligation
which matures in 2011 with an option to purchase. Villa is in compliance with
all related financial covenants under these short and long-term financings.
As of May 1, 2004, the Company has a frozen defined benefit plan that is under
funded. In accordance with SFAS No. 88, at the time of final settlement of the
pension plan, the Company will recognize an expense to recognize its unfunded
status. In September 2004, the Company began the process of terminating this
plan. At time of settlement, which is expected in the third quarter of fiscal
2005, the Company expects to recognize a related charge of approximately $0.5
million, including a cash disbursement of approximately $0.1 million.
On February 6, 2004, a motion was filed for summary judgment to enforce a
January 2002 class action settlement agreement entered into by the Company. The
motion sought damages in the amount of $1,250,000, together with interest, costs
and disbursements, and a declaration that $2,000,000 in promissory notes issued
as part of the class action settlement are immediately due and payable, as the
value of damages due to the Company's failure to complete the registration
statement noted above. On March 23, 2004, we filed a registration statement with
the SEC covering the issuance of one million shares of our common stock
underlying warrants that were issued to certain shareholders in connection with
the previous shareholder litigation. The SEC declared this registration
statement effective on May 7, 2004. Shareholders are able to exercise the
warrants issued as part of the shareholder litigation settlement and purchase
the Company's common stock at a price, as amended of $1.50 per share subject to
compliance with applicable blue sky laws. These warrants are also callable by
the Company at a price of $0.25 per warrant, if the Common Stock trades at or
above $4 per share for ten (10) consecutive days. We anticipate using any
proceeds received from the exercise of the warrants to pay down our GECC
Facility. In July 2004, in settlement of this matter, Del Global modified the
exercise, or "strike," price of the warrants issued in 2002 from $2.00 to $1.50
per share, and extended the expiration date of such warrants by one year to
March 28, 2009. During the fourth quarter of Fiscal 2004, the Company recorded a
charge of approximately $0.5 million to Litigation Settlement Costs in
recognition of the modification to the warrants and the related legal and
professional fees incurred
As described in Legal Proceedings on March 8, 2002, RFI, a subsidiary of the
Company and the remaining part of the Power Conversion Group segment, was served
with a subpoena by the US Attorney for the Eastern District of New York in
connection with an investigation by the DOD. RFI supplies electro magnetic
21
interference filters for communications and defense applications. Since March
2002, the DOD has been investigating certain past practices at RFI which date
back more than six years and pertain to RFI's Military Specification testing,
record keeping and general operating procedures. Management retained special
counsel to represent the Company on this matter. The Company has cooperated
fully with this investigation, including voluntarily providing employees to be
interviewed by the Defense Criminal Investigative Services division of the DOD.
In June 2003, the Company was advised that the US Government was willing to
enter into negotiations regarding a comprehensive settlement of this
investigation. Prior to the preliminary discussions with the US Government in
June 2003, the Company had no basis to estimate the financial impact of this
investigation. Based on preliminary settlement discussions with the US
Government, discussions with the Company's advisors, consideration of
settlements reached by other parties in investigations of this nature, and
consideration of the Company's capital resources, management then developed an
estimate of the low end of the potential range of the financial impact.
Accordingly, during the third quarter of fiscal 2003, the Company recorded a
charge of $2.3 million, which represented its estimate of the low end of a range
of potential fines and legal and professional fees.
Following negotiations, Del Global reached a global settlement in February 2004
with the US Government that resolves the civil and criminal matters relating to
the DOD's investigation. The settlement included the Company pleading guilty to
one criminal count and agreeing to pay fines and restitution to the US
Government of $4.6 million if paid by June 30, 2004 and $5.0 million if paid by
September 30, 2004.
In connection with this settlement, Del Global recognized an additional charge
of approximately $3.2 million in the second quarter of fiscal 2004. This charge
represents the difference between the $2.3 million charge taken during the third
quarter of fiscal 2003, and the up to $5.0 million in fines and restitution,
plus estimated legal and professional fees related to this settlement. The
liability associated with these charges is included in Litigation settlement
reserves on the accompanying balance sheet.
On September 30, 2004, pursuant to the terms of the settlement, Del Global
fulfilled its obligation under this agreement by paying to the US Government the
sum of $5 million representing fines and restitution. On October 7, 2004, RFI
entered a criminal guilty plea to a single count conspiracy charge pursuant to
the settlement and a criminal plea agreement. Sentencing will occur at a later
date to be determined. There can be no assurance that the court will not impose
additional fines or restitution, or that the combined civil and criminal
restitution imposed by the court will not vary significantly from the amount of
fines and restitution the Company has paid to date.
Del Global has been working with the Defense Logistics Agency, a component of
the DOD, to avoid any future limitations on the ability of the Company to do
business with US Government entities. Such limitations could include the US
Government seeking a "debarment" or exclusion of the Company from doing business
with US Government entities for a period of time. The Company has made a written
and oral submission to that agency detailing the remedial measures that the
Company has taken to help ensure future compliance. If the US Government decides
not to debar RFI, Del Global, RFI and the US Government will need to execute a
written compliance agreement. No assurance can be given that the Company, RFI
and the US Government will enter into any such agreement or that the debarment
will be avoided.
22
The Company funded the $5 million paid pursuant to this settlement by a
combination of $2 million in borrowings under its GECC Facility and the receipt
of a combination of dividends, return of intercompany amounts and a $0.6 million
intercompany advance from the Company's Villa subsidiary, totaling $3.0 million.
There can be no assurance that court approval will be reached and that the
ultimate fines and outcome of any settlement will not vary significantly from
the amount of fines and restitution the Company has paid to date.
The Company's Board of Directors, elected at the Company's Annual Meeting of
Shareholders held on May 29, 2003, has reviewed the "change in control"
provisions regarding payments totaling up to approximately $1.8 million under
the employment agreement between the Company and its former Chief Executive
Officer, Samuel Park. As a result of this review and based upon, among other
things, the advice of special counsel, the Company's Board of Directors has
determined that no obligation to pay these amounts has been triggered. Prior to
his departure from the Company on October 10, 2003, Mr. Park orally informed the
Company that, after reviewing the matter with his counsel, he believed that the
obligation to pay these amounts has been triggered. On October 27, 2003, the
Company received a letter from Mr. Park's counsel demanding payment of certain
sums and other consideration pursuant to the Company's employment agreement with
Mr. Park, including these change in control payments. On November 17, 2003, the
Company filed a complaint against Mr. Park seeking a declaratory judgment that
no change in control payment was or is due to Mr. Park and that an amendment to
the employment contract with Mr. Park regarding advancement and reimbursement of
legal fees is invalid and unenforceable. Mr. Park answered the complaint and
asserted counterclaims seeking payment from the Company based on his position
that a "change in control" occurred in June 2003. Mr. Park is also seeking other
consideration he believes he is owed under his employment agreement. The Company
filed a reply to Mr. Park's counterclaims denying that he is entitled to any of
these payments. On October 27, 2003, the Company received a letter from Mr.
Park's counsel demanding payment of certain sums and other consideration
pursuant to the Company's employment agreement with Mr. Park, including these
change of control payments. On November 17, 2003, the Company filed a complaint
against Mr. Park seeking a declaratory judgment that no change in control
payment was or is due to Mr. Park, and that an amendment to the employment
contract with Mr. Park regarding advancement and reimbursement of legal fees is
invalid and unenforceable. Mr. Park answered the complaint and asserted
counterclaims seeking payment from the Company based on his position that a
"change in control" occurred in June 2003. Mr. Park is also seeking other
consideration he believes he is owed under his employment agreement. The Company
filed a reply to Mr. Park's counterclaims denying that he is entitled to any of
these payments. The suit is now in the discovery phase. The parties are in the
process of exchanging documents, and depositions are to be conducted in
December, 2004. If Mr. Park prevails on his claims and the payments he seeks are
required to be paid in a lump sum, these payments may have a material adverse
effect on the Company's liquidity. It is not possible to predict the outcome of
these claims; however, the Company's Board of Directors does not believe that
such a claim is reasonably likely to result in a material decrease in the
Company's liquidity in the foreseeable future.
The outcome of the elections at the Company's Annual Meeting of Shareholders
held on May 29, 2003 represents a change in control under change in control
agreements between the Company and each of four other members of executive
management. However, as each of these agreements contains "double-triggers"
23
requiring the termination of the individual, no change in control payments are
currently due to any such individuals. In August, 2004 the Company entered into
a settlement agreement and release with the former CFO whereby the former
officer provided a general release to the Company, including a release from any
potential claim under his change in control agreement, in exchange for
approximately $0.2 million.
On October 1, 2004, the Company completed the sale of its DHV division for $3.1
million plus the assumption of $0.8 million of liabilities as described more
fully in the Notes to the Consolidated Financial Statements included in Part I,
Item I of this Quarterly Report. Also during the first quarter of fiscal 2005,
the Company signed non-binding letters of intent for the sale of the Medical
Systems Group Segment and the remaining business of the Power Conversion Group
Segment. These letters of intent are non-binding and subject to customary
closing conditions, including , in the case of the Medical Systems Group
Segment, approval of the Company's stockholders. The Company also announced in
October 2005 that it may seek stockholder approval of a plan of liquidation;
however, the Board of Directors of the Company has not yet approved any plan of
liquidation. Any proceeds that may be received by Stockholders of the Company as
a result of any plan of liquidation may be greater or less than the current
market price of the Common Stock of the Company.
The Company has or had no investments in unconsolidated variable interest
entities or other off balance sheet arrangements during any of the periods
presented in this Quarterly Report on Form 10-Q.
We anticipate that cash generated from strategic alternatives, including asset
sales and additional financings, operations and amounts available from credit
facilities will be sufficient to satisfy any remaining obligations under the DOD
Settlement and currently projected operating cash needs for at least the next
twelve months, and for the foreseeable future. However, there is no assurance
that any alternatives will be available to the Company on acceptable terms at
such time or at all. No assurances can be given that the Company will be able to
consummate the transactions outlined in the letters of intent, or consummate a
plan of liquidation.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not ordinarily hold market risk sensitive instruments for trading
purposes. We do, however, recognize market risk from interest rate and foreign
currency exchange exposure. There have been no changes in financial market risk
as originally discussed in the Company's Annual Report on Form 10-K for the
fiscal year ended July 31, 2004.
Item 4. CONTROLS AND PROCEDURES
The Company, under the supervision and with the participation of the Company's
management, including Walter F. Schneider, Chief Executive Officer and Mark
Koch, Principal Accounting Officer, has evaluated the effectiveness of the
design and operation of the Company's "disclosure controls and procedures", as
such term is defined in Rules 13a-15e and 15d-15e promulgated under the
Securities Exchange Act of 1934, as amended, as of the end of the period covered
by this Quarterly Report on Form 10-Q. Based upon that evaluation, the Chief
Executive Officer and Principal Accounting Officer have concluded that the
24
Company's disclosure controls and procedures were effective as of the end of the
period covered by this Quarterly Report on Form 10-Q to provide reasonable
assurance that information required to be disclosed by the Company in reports
that it files or submits under the Securities Act of 1934, as amended, is
recorded, processed, summarized and reported within the time periods specified
in SEC rules and forms.
In the ordinary course of business, the Company routinely enhances its
information systems by either upgrading its current systems or implementing new
systems. There were no changes in the Company's internal controls or in other
factors that could significantly affect these controls, during the Company's
first fiscal quarter ended October 30, 2004, that have materially affected, or
are reasonably likely to materially affect, the Company's internal control over
financial reporting.
A control system, no matter how well conceived and operated, can provide only
reasonable, not absolute assurance that the objectives of the control system are
met. Because of the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues and instances
of fraud, if any, within a company have been detected.
25
PART II - OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
DOD INVESTIGATION - On March 8, 2002, RFI, a subsidiary of the Company and
the remaining part of the Power Conversion Group segment, was served with a
subpoena by the US Attorney for the Eastern District of New York in connection
with an investigation by the DOD. RFI supplies electro magnetic interference
filters for communications and defense applications. Since March 2002, the DOD
has been investigating certain past practices at RFI which date back more than
six years and pertain to RFI's Military Specification testing, record keeping
and general operating procedures. Management retained special counsel to
represent the Company on this matter. The Company has cooperated fully with this
investigation, including voluntarily providing employees to be interviewed by
the Defense Criminal Investigative Services division of the DOD.
In June 2003, the Company was advised that the US Government was willing to
enter into negotiations regarding a comprehensive settlement of this
investigation. Prior to the preliminary discussions with the US Government in
June 2003, the Company had no basis to estimate the financial impact of this
investigation. Based on preliminary settlement discussions with the US
Government, discussions with the Company's advisors, consideration of
settlements reached by other parties in investigations of this nature, and
consideration of the Company's capital resources, management then developed an
estimate of the low end of the potential range of the financial impact.
Accordingly, during the third quarter of fiscal 2003, the Company recorded a
charge of $2.3 million, which represented its estimate of the low end of a range
of potential fines and legal and professional fees.
Following negotiations, Del Global reached a global settlement in February
2004 with the US Government that resolves the civil and criminal matters
relating to the DOD's investigation. The settlement included the Company
pleading guilty to one criminal count and agreeing to pay fines and restitution
to the US Government of $4.6 million if paid by June 30, 2004 and $5.0 million
if paid by September 30, 2004.
In connection with this settlement, Del Global recognized an additional
charge of approximately $3.2 million in the second quarter of fiscal 2004. This
charge represents the difference between the $2.3 million charge taken during
the third quarter of fiscal 2003, and the up to $5.0 million in fines and
restitution, plus estimated legal and professional fees related to this
settlement. The liability associated with these charges is included in
Litigation settlement reserves on the accompanying balance sheet.
On September 30, 2004, pursuant to the terms of the settlement, Del Global
fulfilled its obligation under this agreement by paying to the US Government the
sum of $5 million representing fines and restitution. On October 7, 2004, RFI
entered a criminal guilty plea to a single count conspiracy charge pursuant to
the settlement and a criminal plea agreement. Sentencing will occur at a later
date to be determined. There can be no assurance that the court will not impose
additional fines or restitution, or that the combined civil and criminal
restitution imposed by the court will not vary significantly from the amount of
fines and restitution the Company has paid to date.
Del Global has been working with the Defense Logistics Agency, a component
of the DOD, to avoid any future limitations on the ability of the Company to do
business with US Government entities. Such limitations could include the US
26
Government seeking a "debarment" or exclusion of the Company from doing business
with US Government entities for a period of time. The Company has made a written
and oral submission to that agency detailing the remedial measures that the
Company has taken to help ensure future compliance. If the US Government decides
not to debar RFI, Del Global, RFI and the US Government will need to execute a
written compliance agreement. No assurance can be given that the Company, RFI
and the US Government will enter into any such agreement or that the debarment
will be avoided.
EMPLOYMENT MATTERS - The Company had an employment agreement with Samuel
Park, the previous Chief Executive Officer ("CEO") for the period May 1, 2001 to
April 30, 2004. The terms of this agreement provided a base salary, bonuses and
deferred compensation. The bonus provided by this agreement was based on a
percentage of the base salary, if certain performance goals established by the
board were achieved. In addition, the employment agreement provided for certain
payments in the event of death, disability or change in the control of the
Company.
On October 10, 2003, the Company announced the appointment of Walter F.
Schneider as President and CEO to replace Mr. Park, effective as of such date.
As a result, the Company recorded a charge of $0.2 million during the first
quarter of fiscal 2004 to accrue the balance remaining under Mr. Park's
employment agreement.
In addition, the Company's Board of Directors, elected at the Company's
Annual Meeting of Shareholders held on May 29, 2003, had previously reviewed the
"change of control" provisions regarding payments totaling up to approximately
$1.8 million under the employment agreement between the Company and Mr. Park. As
a result of this review and based upon, among other things, the advice of
special counsel, the Company's Board of Directors determined that no obligation
to pay these amounts has been triggered. Prior to his departure from the Company
on October 10, 2003, Mr. Park orally informed the Company that, after reviewing
the matter with his counsel, he believes that the obligation to pay these
amounts has been triggered. On October 27, 2003, the Company received a letter
from Mr. Park's counsel demanding payment of certain sums and other
consideration pursuant to the Company's employment agreement with Mr. Park,
including these change of control payments. On November 17, 2003, the Company
filed a complaint against Mr. Park seeking a declaratory judgment that no change
in control payment was or is due to Mr. Park, and that an amendment to the
employment contract with Mr. Park regarding advancement and reimbursement of
legal fees is invalid and unenforceable. Mr. Park answered the complaint and
asserted counterclaims seeking payment from the Company based on his position
that a "change in control" occurred in June 2003. Mr. Park is also seeking other
consideration he believes he is owed under his employment agreement. The Company
filed a reply to Mr. Park's counterclaims denying that he is entitled to any of
these payments. The suit is now in the discovery phase. The parties are in the
process of exchanging documents, and depositions are to be conducted in
December, 2004. If Mr. Park prevails on his claims and the payments he seeks are
required to be paid in a lump sum, these payments may have a material adverse
effect on the Company's liquidity. It is not possible to predict the outcome of
these claims. However, the Company's Board of Directors does not believe that
such a claim is reasonably likely to result in a material decrease in the
Company's liquidity in the foreseeable future.
During fiscal 2004, the Company began employment termination proceedings
against an executive of the Company. Subsequently, the executive instituted
legal proceedings alleging certain damages based on change in control provisions
of the executive's employment contract and various additional actions or
damages. The Company believes the former executive's change in control provision
27
has not been triggered and that such termination was justified. Thereafter, the
court issued an order directing a subsidiary of the Company to pay damages. The
Company believes it has meritorious defenses to this matter and has filed an
appeal. However, based on the court's order, the Company recorded a charge in
Fiscal 2004 of approximately $0.4 million in connection with this matter
included in Litigation Settlement reserves in the accompanying financial
statements.
OTHER LEGAL MATTERS - The Company is a defendant in several other legal
actions in various US and foreign jurisdictions arising from the normal course
of business. Management believes the Company has meritorious defenses to such
actions and that the outcomes will not be material to the Company's consolidated
financial statements.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
Exhibits
31.1* Certification of Chief Executive Officer, Walter F. Schneider,
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2* Certification of Principal Accounting Officer, Mark Koch,
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1* Certification of the Chief Executive Officer, Walter F.
Schneider, pursuant to 18 U.S.C. Section 1350 adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2* Certification of the Chief Accounting Officer, Mark Koch,
pursuant to 18 U.S.C. Section 1350 adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
* Filed herewith
28
DEL GLOBAL TECHNOLOGIES CORP. AND SUBSIDIARIES
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
DEL GLOBAL TECHNOLOGIES CORP.
/s/ Walter F. Schneider
-----------------------
Walter F. Schneider
Chief Executive Officer
and President
/s/ Mark Koch
-----------------------
Mark Koch
Principal Accounting Officer
and Treasurer
Dated: December 13, 2004
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