UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
FORM 10-Q
(Mark one)
| þ | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2004 |
OR
| o | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from __________ to __________
Commission File No. 000-12739
AESP, INC.
| FLORIDA | 59-2327381 | |
| (State or other jurisdiction of incorporation or organization) |
(IRS Employer Identification No.) |
| 1810 N.E. 144th STREET NORTH MIAMI, FLORIDA |
33181 | |
| (Address of Principal Executive Offices) | (Zip Code) |
Registrant’s Telephone Number, Including Area Code: (305) 944-7710
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 past 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 o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes o No x
On November 8, 2004, the registrant had 6,143,596 outstanding shares of its common stock, par value $.001 per share.
AESP, INC. AND SUBSIDIARIES
INDEX
Forward-looking statements
Unless the context otherwise requires, references to “AESP, Inc.,” “AESP,” “the company,” “we,” “our” and “us” in this Quarterly Report on Form 10-Q includes AESP, Inc. and its subsidiaries. The matters discussed in this Quarterly Report on Form 10-Q contain or may contain forward-looking statements about such matters as our operations, our financial performance and our prospects within the meaning of Section 21E of the Securities Exchange Act of 1934, which are intended to be covered by the safe harbors created thereby. These forward-looking statements involve risks, uncertainties, and assumptions, including:
| • | our ability to generate sufficient cash flow, or to obtain required incremental capital, to pay our operating expenses and service our debt as it comes due, | |||
| • | competition from other manufacturers and distributors of computer networking products both nationally and internationally, | |||
| • | our ability to generate sales of our products at sufficient gross margins to operate our business on a cash flow positive and profitable basis, | |||
| • | the balance of the mix between original equipment manufacturer sales (which have comparatively lower gross profit margins with lower expenses) and networking sales (which have comparatively higher gross profit margins with higher expenses) from period to period, | |||
| • | our dependence on third parties for manufacturing and assembly of products, and | |||
| • | the absence of supply agreements. | |||
These and additional factors are discussed herein and in our Annual Report on Form 10-K for the 2003 fiscal year (the “Form 10-K”).
You should carefully consider the information incorporated by reference and the information that we file with the Securities and Exchange Commission (“SEC”) from time to time. The words “may,” “will,” “expect,” “anticipate,” “believe,” “continue,” “estimate,” “project,” “intend,” and similar expressions used in this Form 10-Q are intended to identify forward-looking statements. You should not place undue reliance on these forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly release any revision of these forward-looking statements to reflect events or circumstances after the date they are made or to reflect the occurrence of unanticipated events. You should also know that such statements are not guarantees of future performance and are subject to risks, uncertainties and assumptions. Should any of these risks or uncertainties materialize, or should any of our assumptions prove incorrect, actual results may differ materially from those included within the forward-looking statements.
2
Part I. Financial Information
Item 1. FINANCIAL STATEMENTS
AESP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
| September 30, 2004 |
December 31, 2003 |
|||||||
| (unaudited) | ||||||||
Assets |
||||||||
Current Assets |
||||||||
Cash |
$ | 521 | $ | 1,082 | ||||
Accounts receivable, net of allowance for doubtful accounts of $214 |
1,543 | 1,967 | ||||||
at September 30, 2004 and $246 at December 31, 2003
Due from factor |
214 | 265 | ||||||
Inventories, net |
3,582 | 4,194 | ||||||
Due from employees |
106 | 8 | ||||||
Prepaid expenses and other current assets |
268 | 191 | ||||||
Current assets of discontinued operations |
1,073 | 3,200 | ||||||
Total current assets |
7,307 | 10,907 | ||||||
Property and equipment, net |
410 | 504 | ||||||
Goodwill |
289 | 289 | ||||||
Deferred tax assets |
85 | 9 | ||||||
Assets of business transferred under contractual arrangement |
— | 240 | ||||||
Other assets |
200 | 138 | ||||||
Non-current assets of discontinued operations |
145 | 741 | ||||||
TOTAL ASSETS |
$ | 8,436 | $ | 12,828 | ||||
Liabilities and Shareholders’ Equity |
||||||||
Current Liabilities |
||||||||
Lines of credit |
$ | 540 | $ | 1,052 | ||||
Accounts payable |
4,667 | 5,330 | ||||||
Accrued expenses |
148 | 227 | ||||||
Accrued salaries and benefits |
199 | 244 | ||||||
Income taxes payable |
— | 7 | ||||||
Customer deposits and other |
332 | 460 | ||||||
Current portion of long-term debt |
683 | 45 | ||||||
Current liabilities of discontinued operations |
1,322 | 3,559 | ||||||
Total current liabilities |
7,891 | 10,924 | ||||||
Long term debt, less current portion |
74 | 71 | ||||||
TOTAL LIABILITIES |
7,965 | 10,995 | ||||||
Shareholders’ Equity |
||||||||
Preferred stock, $.001 par value; 1,000 shares authorized; none issued |
— | — | ||||||
Common stock, $.001 par value; 20,000 shares authorized; 6,144 shares |
6 | 6 | ||||||
issued at September 30, 2004 and December 31, 2003
Paid-in capital |
13,546 | 13,546 | ||||||
(Deficit) |
(13,313 | ) | (11,664 | ) | ||||
Accumulated other comprehensive income (loss) |
232 | (55 | ) | |||||
TOTAL SHAREHOLDERS’ EQUITY |
471 | 1,833 | ||||||
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY |
$ | 8,436 | $ | 12,828 | ||||
See accompanying notes to condensed consolidated financial statements.
3
AESP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
| Three Months Ended | Nine Months Ended | |||||||||||||||||||
| September 30, |
September 30, |
|||||||||||||||||||
| 2004 |
2003 |
2004 |
2003 |
|||||||||||||||||
Net sales |
$ | 6,434 | $ | 5,543 | $ | 17,433 | $ | 15,795 | ||||||||||||
Operating expenses |
||||||||||||||||||||
Cost of sales |
4,743 | 4,099 | 12,515 | 11,341 | ||||||||||||||||
Selling, general and administrative expenses |
1,785 | 1,513 | 5,123 | 4,812 | ||||||||||||||||
Total operating expenses |
6,528 | 5,612 | 17,638 | 16,153 | ||||||||||||||||
Loss from operations |
(94 | ) | (69 | ) | (205 | ) | (358 | ) | ||||||||||||
Other income (expense): |
||||||||||||||||||||
Interest, net |
(77 | ) | (47 | ) | (227 | ) | (118 | ) | ||||||||||||
Other, net |
25 | 32 | 4 | 131 | ||||||||||||||||
(Loss) from continuing operations before income taxes |
(146 | ) | (84 | ) | (428 | ) | (345 | ) | ||||||||||||
Provision for income taxes |
4 | 2 | 27 | 52 | ||||||||||||||||
(Loss) from continuing operations |
(150 | ) | (86 | ) | (455 | ) | (397 | ) | ||||||||||||
(Loss) from discontinued operations, net of tax |
(293 | ) | (380 | ) | (485 | ) | (637 | ) | ||||||||||||
(Loss) on disposal of discontinued operations, net of tax |
(583 | ) | — | (753 | ) | — | ||||||||||||||
Cumulative effect of a change in accounting principle |
— | — | 44 | — | ||||||||||||||||
Net (loss) |
(1,026 | ) | (466 | ) | (1,649 | ) | (1,034 | ) | ||||||||||||
Preferred stock dividends |
— | — | — | 12 | ||||||||||||||||
Net (loss) applicable to common shareholders |
$ | (1,026 | ) | $ | (466 | ) | $ | (1,649 | ) | $ | (1,046 | ) | ||||||||
Basic and diluted loss per common share: |
||||||||||||||||||||
(Loss) from continuing operations |
$ | (0.02 | ) | $ | (0.02 | ) | $ | (0.07 | ) | $ | (0.07 | ) | ||||||||
(Loss) from discontinued operations, net of tax |
(0.05 | ) | (0.06 | ) | (0.08 | ) | (0.11 | ) | ||||||||||||
(Loss) on disposal of discontinued operations, net of tax |
(0.10 | ) | — | (0.13 | ) | — | ||||||||||||||
Cumulative effect of a change in accounting principle |
— | — | 0.01 | — | ||||||||||||||||
| $ | (0.17 | ) | $ | (0.08 | ) | $ | (0.27 | ) | $ | (0.18 | ) | |||||||||
Weighted average shares, basic and diluted |
6,144 | 5,975 | 6,144 | 5,880 | ||||||||||||||||
See accompanying notes to condensed consolidated financial statements.
4
AESP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004
(UNAUDITED)
| Common Stock | Accumulated | |||||||||||||||||||||||||||
| Additional | Other | Comprehensive | Total | |||||||||||||||||||||||||
| Shares | Par | Paid-In | Comprehensive | Income | Shareholders' | |||||||||||||||||||||||
| Outstand. |
Value |
Capital |
(Deficit) |
Income (Loss) |
(Loss) |
Equity |
||||||||||||||||||||||
Balance at December 31, 2003 |
6,144 | $ | 6 | $ | 13,546 | $ | (11,664 | ) | $ | (55 | ) | $ | 1,833 | |||||||||||||||
Net loss |
(1,649 | ) | (1,649 | ) | (1,649 | ) | ||||||||||||||||||||||
Other comprehensive income
(loss): |
||||||||||||||||||||||||||||
Foreign currency
translation
adjustment, net of
tax |
287 | 287 | 287 | |||||||||||||||||||||||||
| (1,362 | ) | |||||||||||||||||||||||||||
Balance at September 30, 2004 |
6,144 | $ | 6 | $ | 13,546 | $ | (13,313 | ) | $ | 232 | $ | 471 | ||||||||||||||||
See accompanying notes to condensed consolidated financial statements.
5
AESP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
| Nine months ended September 30, |
||||||||
| 2004 |
2003 |
|||||||
Operating Activities: |
||||||||
Net loss |
$ | (1,649 | ) | $ | (1,034 | ) | ||
Adjustments to reconcile net loss to net cash provided by (used in) operating
activities: |
||||||||
Provision, net of losses on accounts receivable |
— | 6 | ||||||
(Income) loss from discontinued operations |
485 | 637 | ||||||
Loss on disposal of discontinued operations |
753 | — | ||||||
Cumulative effect of a change in accounting principle |
(44 | ) | — | |||||
Depreciation and amortization |
168 | 118 | ||||||
Amortization of deferred compensation |
— | 79 | ||||||
Deferred income taxes |
(84 | ) | — | |||||
(Increase) decrease in: |
||||||||
Accounts receivable |
633 | 60 | ||||||
Due from factor |
51 | — | ||||||
Inventories, net |
646 | 596 | ||||||
Prepaid expenses and other current assets |
(65 | ) | 100 | |||||
Other assets |
181 | — | ||||||
Increase (decrease) in: |
||||||||
Accounts payable and accrued expenses |
(541 | ) | (269 | ) | ||||
Accrued salaries and benefits |
(28 | ) | 40 | |||||
Income taxes payable |
(9 | ) | (82 | ) | ||||
Customer deposits and other |
(195 | ) | (227 | ) | ||||
Net cash provided by operating activities of continuing operations |
302 | 24 | ||||||
Net cash (used in) operating activities of discontinued operations |
(327 | ) | (1,137 | ) | ||||
Investing Activities: |
||||||||
Additions, net to property and equipment |
(83 | ) | (137 | ) | ||||
Grant of loans to employees |
(97 | ) | (7 | ) | ||||
Collection on note receivable from sale of Ukrainian subsidiary |
— | 45 | ||||||
Net cash (used in) investing activities of continuing operations |
(180 | ) | (99 | ) | ||||
Net cash provided by (used in) investing activities of discontinued operations |
(17 | ) | 34 | |||||
Financing Activities: |
||||||||
Increase in long-term debt |
633 | — | ||||||
Net proceeds from (payments on) lines of credit |
(521 | ) | (281 | ) | ||||
Payment of preferred stock dividends |
— | (12 | ) | |||||
Net cash provided by (used in) financing activities of continuing operations |
112 | (293 | ) | |||||
Net cash provided by (used in) financing activities of discontinued operations |
(505 | ) | 815 | |||||
Net decrease in cash |
(615 | ) | (656 | ) | ||||
Effect of exchange rate changes on cash of continuing operations |
6 | 4 | ||||||
Effect of exchange rate changes on cash of discontinued operations |
48 | (26 | ) | |||||
Cash, at beginning of period |
1,082 | 1,226 | ||||||
Cash, at end of period |
$ | 521 | $ | 548 | ||||
Supplemental information: |
||||||||
Cash paid for: |
||||||||
Interest |
$ | 217 | $ | 164 | ||||
Taxes |
116 | 114 | ||||||
Non-cash transactions: |
||||||||
Conversion of common stock to preferred stock |
— | 230 | ||||||
Conversion of preferred stock to common stock |
— | 230 | ||||||
See accompanying notes to condensed consolidated financial statements.
6
AESP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. Basis of Presentation
|
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the U.S. for interim financial information and with the instructions to Form 10-Q promulgated by the Securities & Exchange Commission. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the U.S. for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three and nine month periods ended September 30, 2004 are not necessarily indicative of the results that may be expected for the year ended December 31, 2004. The condensed consolidated balance sheet information as of December 31, 2003 was derived from the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for 2003 (the “Form 10-K”). For further information, refer to the consolidated financial statements and footnotes thereto included in the Form 10-K. Certain prior period balances have been reclassified in the unaudited condensed consolidated financial statements in order to provide a presentation consistent with the current period. AESP, Inc. (“AESP”) and its subsidiaries and variable interest entities (see Note 4) are collectively referred to herein as the “Company”. | |
2. U.S. Line of Credit
|
On October 31, 2003, the Company signed two agreements, one an amendment with Commercebank, N.A. (the “Bank”) to extend the maturity date on its $1.9 million U.S. based line of credit to April 20, 2004, and a second agreement with Marquette Commercial Finance, Inc. (formerly KBK Financial, Inc.) (“Marquette”). The initial funding from Marquette was used to fund a permanent reduction in the Company’s line of credit with the Bank. The initial funding under the Marquette agreement was $1,220,000, with $70,000 utilized to cover closing expenses and $1,150,000 applied to the Bank’s line of credit. An additional payment of $100,000 from proceeds of the Marquette agreement, was made in December 2003, to permanently reduce the available balance under the Bank’s line of credit to $631,000 (which was due and payable on April 20, 2004). This balance was paid in full on April 26, 2004 through the proceeds received by the Company under a new one-year term loan agreement with Bendes Investment Ltd (“Bendes”). | |
| The Bendes loan is a $631,000 one-year term loan due in April 2005. However, the Bendes loan is payable earlier from the net proceeds of any sale of the Company’s equity securities. The loan bears interest at the prime rate plus 8% per annum, payable monthly. The Bendes loan is guaranteed by the Company’s principal shareholders. Under the term of the Bendes loan, the Company is required to comply with certain affirmative and negative covenants. At September 30, 2004, the Company was in compliance with these covenants. The Bendes loan is secured by a lien on substantially all of the Company’s assets. |
7
AESP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
| The Marquette agreement advances funds to the Company at a rate of 82.5% of the invoice amount purchased by Marquette. The portion of the invoices not advanced to the Company are recorded as a due from factor until the invoice is paid by the customer, at which point the Company receives the remaining proceeds, less fees. Substantially all of the Company’s invoices to U.S. customers are available for sale under this agreement and may be offered to Marquette on a daily basis, subject to a $2,000,000 funding limit. Marquette can accept or reject offered invoices and is not obligated to purchase any invoices. Marquette exercises control over incoming lockbox receipts to ensure that cash received on purchased invoices is collected. The Marquette agreement contains fixed and variable discount rate pricing components. The fixed discount is 1.25% of the invoice amount and is payable at the time of funding. The variable rate is Marquette’s base rate as established by Marquette from time to time (generally the prime rate), plus 2% per annum and is payable based on the number of days from the sale of the invoice until collection. The agreement is terminable by either party upon 30 days notice and immediately by Marquette upon default by the Company. In the event of termination by the Company prior to November 2005, a termination fee of up to $20,000 may be due. Bendes and Marquette have entered into an intercreditor agreement governing their respective priorities in the assets of the Company securing their respective financings. Because funds advanced under this facility are considered a sale of the particular invoices sold, the Company reports funds advanced as a reduction of accounts receivable in the Condensed Consolidated Financial Statements. The Marquette factoring agreement is guaranteed, on a limited basis, with respect to matters related to the existence and validity of purchased receivables, by the Company’s principal shareholders. Under the terms of the Marquette agreement, the Company is required to comply with certain affirmative and negative covenants and to maintain certain financial benchmarks and ratios on a monthly basis. As of September 30, 2004, the Company was not in compliance with the tangible net worth covenant under the Marquette agreement, however Marquette has waived compliance with this covenant. Further, as of September 30, 2004, Marquette had purchased accounts receivables aggregating $1,135,000. | ||
| The Company incurred net losses in each of the last three fiscal years and in the first three quarters of fiscal 2004 and the Company’s working capital is extremely limited. The Company may not meet its financial covenants in future periods unless its results of operations substantially improve. While there can be no assurance, the Company expects that Marquette will continue to waive covenant violations during future periods. The Company believes that its internally generated cash flow from operations combined with funds available under the Marquette agreement, will be sufficient to fund current operations through the end of 2004. The Company may also consider selling debt or equity securities, or one or more of its operations, in order to meet current and future working capital requirements. However, such fundings or transactions may not be available. If the Company is unable to generate sufficient cash flow from operations to meet its operating costs, or is otherwise unable to raise the required funds or reduce expenses sufficiently to overcome any shortfall, its operations would be materially and adversely affected. |
8
AESP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
3. Earnings (loss) per share |
Options to purchase 3,610,000 shares of common stock at $0.81 — $3.69 per share, were outstanding at September 30, 2004, but were not included in the computation of diluted EPS for the three and nine months ended September 30, 2004, as they are anti-dilutive due to the Company’s loss. | |
| Options to purchase 2,961,000 shares of common stock at $0.81 — $3.69 per share, were outstanding at September 30, 2003, but were not included in the computation of diluted EPS for the three and nine months ended September 30, 2003, as they are anti-dilutive due to the Company’s loss. | ||
4. Variable Interest Entities |
The Company has evaluated its relationship with AESP Ukraine (Ukraine), an entity created before February 1, 2003 and has determined that it is a variable interest entity under the provisions of FASB Interpretation No. 46, Consolidation of Variable Interest Entities (Revised December 2003) (Interpretation No. 46). Ukraine was a wholly-owned subsidiary, which the Company sold to a then thinly capitalized entity in January 2001. The Company has determined that it is the primary beneficiary (as defined in Interpretation No. 46) of Ukraine and as such, under Interpretation No. 46 was required to consolidate Ukraine’s assets, liabilities and noncontrolling interests as of March 31, 2004 at their respective carrying values, as if it were a subsidiary of the Company. As of September 30, 2004, Ukraine has total assets of $649,000 and total debt and other payables of $544,000, of which $460,000 is payable to the Company. The amount payable to the Company consists of a gross note receivable of $603,000 and trade accounts receivable of $238,000 at September 30, 2004. As of December 31, 2003, the Company recorded a $381,000 impairment against the note receivable, based on the Company’s assessment that it is probable that the note is not fully collectible. Ukraine’s operations are not material to the Company. Therefore, in accordance with Interpretation No. 46, the Company has reported the difference of $44,000 in Ukraine’s assets and liabilities, including the reversal of the note receivable impairment due to the Ukraine consolidation, as a cumulative effect of a change in accounting principle in its Condensed Consolidated Statement of Operations for the nine months ended September 30, 2004. | |
| The Company also considered whether RSB Holdings, Inc. (RSB), a related party, is a variable interest entity. RSB, which is owned by the Company’s principal shareholders, is the lessor on the Company’s corporate headquarters in Miami, Florida. Under the provisions of Interpretation No. 46, the Company has determined that RSB is not a variable interest entity. |
9
AESP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
5. Operating Segments
|
The Company’s operations, consisting primarily of sales of computer networking products, are handled by each of its subsidiaries operating in their respective countries. Accordingly, management operates its business based on a geographic basis, whereby sales and related data are attributed to the AESP entity that generates such revenues. United States includes Signamax, Advanced Electronic Manufacturing and sales of products to the Company’s Russian distributor. Western Europe includes Intelek, the Company’s Czech Republic subsidiary and the operations of the Company Ukrainian distributor, which is consolidated in accordance with Interpretation No. 46 (see Note 4). All other European operations (Jotec and Lanse in Norway, AESP Sweden and AESP GmbH and Signamax GmbH in Germany) have been or are in the process of being disposed and are therefore, reflected as discontinued operations. Segment information is presented below for each significant geographic region (in thousands). |
| United States |
Western Europe |
Elimination |
Total |
|||||||||||||
Three months ended Sept. 30, 2004: |
||||||||||||||||
Sales to unaffiliated customers |
$ | 4,159 | $ | 2,275 | $ | — | $ | 6,434 | ||||||||
Transfers between geographical areas |
328 | — | (328 | ) | — | |||||||||||
Total sales |
4,487 | 2,275 | (328 | ) | 6,434 | |||||||||||
Operating income (loss) |
29 | (84 | ) | (39 | ) | (94 | ) | |||||||||
Income (loss) before income taxes
from continuing operations |
(31 | ) | (76 | ) | (39 | ) | (146 | ) | ||||||||
Identifiable assets at September
30, 2004 |
4,415 | 5,324 | (1,303 | ) | 8,436 | |||||||||||
Three months ended Sept. 30, 2003: |
||||||||||||||||
Sales to unaffiliated customers |
$ | 4,049 | $ | 1,494 | $ | — | $ | 5,543 | ||||||||
Transfers between geographic areas |
366 | — | (366 | ) | — | |||||||||||
Total sales |
4,415 | 1,494 | (366 | ) | 5,543 | |||||||||||