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EXCEL - IDEA: XBRL DOCUMENT - MIKROS SYSTEMS CORPFinancial_Report.xls
EX-31.1 - EXHIBIT 31.1 - MIKROS SYSTEMS CORPex31-1.htm
EX-32.1 - EXHIBIT 32.1 - MIKROS SYSTEMS CORPex32-1.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2011
or
o 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: 000-14801
 
Mikros Systems Corporation
(Exact name of registrant as specified in its charter)

Delaware
14-1598200
(State or other jurisdiction
of incorporation or organization)
(I.R.S. Employer
Identification No.)
 
707 Alexander Road, Building Two, Suite 208, Princeton, New Jersey 08540
(Address of Principal Executive Offices)
 
(609) 987-1513
(Registrant’s Telephone Number, Including Area Code)
 
Indicate by check mark whether the registrant  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934  during the 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. x  Yes     o  No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  x  Yes     o  No
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of  “large accelerated filer”, “accelerated filer” and “ smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
 Large accelerated filer 
o
Accelerated filer
o
 Non-accelerated filer
o
Smaller reporting company
x
 (Do not check if a smaller reporting company) 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes    x  No
 
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:  There were 31,766,753 issued and outstanding shares of the issuer’s common stock, $.01 par value per share, on November 14, 2011.

 
 

 

TABLE OF CONTENTS
 
   
PAGE #
PART I.
FINANCIAL INFORMATION
 
     
Item 1.
Financial Statements
 
     
 
Condensed Balance Sheet (unaudited) as of  September 30, 2011 and December 31, 2010
1
     
  Condensed Statements Of  Operations for the Three and Nine Months Ended  September 30, 2011 and 2010 (unaudited) 3
     
  Condensed Statements Of Cash Flows for the Nine Months Ended  September 30, 2011 and 2010 (unaudited) 4
     
  Notes To The Unaudited Condensed Financial Statements 5
     
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 10
     
Item 4.
Controls and Procedures
14
     
PART II.
OTHER INFORMATION
 
     
Item 1.
Risk Factors
14
     
Item 6.
Exhibits
15
     
     
  SIGNATURES 17

 
 

 
 
PART I.  FINANCIAL INFORMATION

Item 1. Financial Statements
 
 MIKROS SYSTEMS CORPORATION
 CONDENSED BALANCE SHEET
(UNAUDITED)
 
   
SEPTEMBER 30,
   
DECEMBER 31,
 
   
2011
   
2010
 
Current assets
           
             
Cash and cash equivalents
  $ 859,677     $ 638,106  
Certificate of deposit, securing line of credit
    -       50,000  
Receivables on government contracts
    610,985       549,116  
Prepaid expenses and other current assets
    61,425       45,284  
Total current assets
    1,532,087       1,282,506  
                 
                 
Patents and trademarks
    5,383       5,383  
Less: accumulated amortization
    (1,691 )     (1,437 )
      3,692       3,946  
Property and equipment
               
Equipment
    37,070       34,642  
Furniture & fixtures
    9,264       9,264  
      46,334       43,906  
                 
Less:  accumulated depreciation
    (32,974 )     (26,936 )
Property and equipment, net
    13,360       16,970  
Deferred tax assets
    60,600       59,000  
                 
Total assets
  $ 1,609,739     $ 1,362,422  
 
 See Notes to Unaudited Condensed Financial Statements

 
1

 
 
 MIKROS SYSTEMS CORPORATION
 CONDENSED BALANCE SHEET
(UNAUDITED)
 (continued)
 
   
SEPTEMBER 30,
   
DECEMBER 31,
 
   
2011
   
2010
 
Current liabilities
           
             
Accrued payroll and payroll taxes
  $ 300,138     $ 332,823  
Accounts payable and accrued expenses
    233,098       38,046  
Accrued warranty expense
    83,750       50,000  
                 
Total current liabilities
    616,986       420,869  
                 
Long term portion of rent payable
    16,697       2,714  
                 
Total liabilities
    633,683       423,583  
 
               
Redeemable series C preferred stock par value $.01 per share, authorized 150,000 shares, issued and outstanding 5,000 shares (involuntary liquidation value - $80,450)
    80,450       80,450  
                 
Shareholders' equity
               
Preferred stock, series B convertible, par value $.01 per share, authorized 1,200,000 shares, issued and outstanding 1,102,433 shares (involuntary liquidation value - $1,102,433)
    11,024       11,024  
                 
Preferred stock, convertible, par value $.01 per share, authorized 2,000,000 shares, issued and outstanding 255,000 shares (involuntary liquidation value - $255,000)
    2,550       2,550  
                 
Preferred stock, series D, par value $.01 per share, 690,000 shares authorized, issued and outstanding (involuntary liquidation value - $1,518,000)
    6,900       6,900  
                 
Common stock, par value $.01 per share, authorized 60,000,000 shares, issued and outstanding 31,766,753 shares
    317,668       317,668  
                 
Capital in excess of par value
    11,569,399       11,549,587  
                 
Accumulated deficit
    (11,011,935 )     (11,029,340 )
                 
Total shareholders' equity
    895,606       858,389  
                 
Total liabilities and shareholders' equity
  $ 1,609,739     $ 1,362,422  
 
 See Notes to Unaudited Condensed Financial Statements

 
2

 

MIKROS SYSTEMS CORPORATION
CONDENSED STATEMENTS OF INCOME
(UNAUDITED)
 
   
Three Months Ended,
   
Nine Months Ended,
 
   
SEPTEMBER 30,
   
SEPTEMBER 30,
   
SEPTEMBER 30,
   
SEPTEMBER 30,
 
   
2011
   
2010
   
2011
   
2010
 
                         
Contract Revenues
  $ 1,098,430     $ 1,218,928     $ 3,057,406     $ 3,334,624  
                                 
Cost of sales
    641,865       693,770       1,605,572       1,927,900  
                                 
Gross margin
    456,565       525,158       1,451,834       1,406,724  
                                 
Expenses
                               
Engineering
    211,977       143,933       621,220       472,585  
General and administrative
    247,796       283,310       812,625       809,209  
                                 
Total expenses
    459,773       427,243       1,433,845       1,281,794  
                                 
(Loss) income from operations
    (3,208 )     97,915       17,989       124,930  
                                 
Other income:
                               
Interest
    -       1       816       1,316  
                                 
Net (loss) income before income taxes
    (3,208 )     97,916       18,805       126,246  
                                 
Income tax (benefit) expense
    (4,100 )     (8,165 )     1,400       (16,731 )
                                 
Net income
  $ 892     $ 106,081     $ 17,405     $ 142,977  
                                 
Basic and diluted earnings per share
  $ -     $ -     $ -     $ -  
                                 
Basic weighted average number of shares outstanding
    31,766,753       31,766,753       31,766,753       31,766,753  
                                 
Diluted weighted average number of shares outstanding
    35,396,987       35,329,052       35,351,946       35,342,630  
 
See Notes to Unaudited Condensed Financial Statements

 
3

 
 
MIKROS SYSTEMS CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
 
   
Nine Months Ended
 
   
SEPTEMBER 30,
   
SEPTEMBER 30,
 
   
2011
   
2010
 
             
Cash flow from operating activities:
           
Net income
  $ 17,405     $ 142,977  
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
               
Depreciation and amortization
    6,292       5,454  
Deferred tax benefit
    (1,600 )     (44,925 )
Provision for warranty expense
    33,750       -  
Stock compensation – options
    19,812       33,415  
                 
Net changes in operating assets and liabilities
               
Decrease in certificate of deposit, securing line of credit
    50,000       -  
Decrease (increase) in receivables on government contracts
    (61,869 )     (689,873 )
Increase in prepaid expenses and other current assets
    (16,141 )     2,517  
(Decrease) increase in accrued payroll and payroll taxes
    (32,685 )     16,882  
Increase  in accounts payable and accrued expenses
    195,052       283,671  
Decrease in other current liabilities
    -       (4,770 )
Increase in long-term liabilities
    13,983       -  
                 
Net cash provided by (used in) operating activities
    223,999       (254,652 )
                 
                 
Cash flow from investing activities:
               
                 
Purchase of property and equipment
    (2,428 )     (898 )
                 
Net cash used in investing activities:
    (2,428 )     (898 )
                 
Net increase (decrease) in cash and cash equivalents
    221,571       (255,550 )
                 
                 
Cash and cash equivalents, beginning of period
    638,106       430,133  
                 
Cash and cash equivalents, end of period
  $ 859,677     $ 174,583  
 
See Notes to Unaudited Condensed Financial Statements
 
 
4

 
 
MIKROS SYSTEMS CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
 
NOTE 1 – BASIS OF PRESENTATION:
 
The financial statements included herein have been prepared by Mikros Systems Corporation (the “Company”) pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations.  These condensed financial statements should be read in conjunction with the financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010.

In the opinion of the Company’s management, the accompanying unaudited interim condensed financial statements contain all adjustments, consisting solely of those which are of a normal recurring nature, necessary to present fairly its financial position as of September 30, 2011, and the results of its operations and its cash flows for the three and nine months ended September 30, 2011 and 2010.  The December 31, 2010 balance sheet is derived from the 2010 audited financial statements.  Certain amounts for the prior period have been reclassified to conform to the current presentation.  The Company has evaluated the impact of subsequent events through the date the condensed financial statements were issued and filed with the Securities and Exchange Commission, or the SEC.
 
Interim results are not necessarily indicative of results for the full fiscal year.

NOTE 2 – RECENT ACCOUNTING PRONOUNCEMENTS

There have been no developments to recently issued  accounting standards, that would apply to the Company, including the expected dates of adoption and estimated effects on the Company’s condensed financial statements, from those disclosed in the Company’s 2010 Annual Report on Form 10-K.

 
5

 
 
MIKROS SYSTEMS CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
 
NOTE 3 – SIGNIFICANT ACCOUNTING POLICIES
 
Revenue Recognition

The Company is engaged in research and development contracts with the federal government to develop certain technology to be utilized by the US Department of Defense. The contracts are cost plus fixed fee contracts and revenue is recognized based on the extent of progress towards completion of the long term contract.

The Company generally uses a variation of the cost to cost method to measure progress for all long term contracts unless it believes another method more clearly measures progress towards completion of the contract.

Revenues are recognized as costs are incurred and include estimated earned fees, or profit, calculated on the basis of the relationship between costs incurred and total estimated costs at completion.  Under the terms of certain contracts, fixed fees are not recognized until the receipt of full payment has become unconditional, that is, when the product has been delivered and accepted by the Federal government.  Backlog represents the estimated amount of future revenues to be recognized under negotiated contracts as work is performed.  In July 2011, the Company received orders to produce and deliver 36 Adaptive Diagnostic Electronic Portable Testset (ADEPT®) units and related support under the Indefinite-Delivery, Indefinite-Quantity (IDIQ) contract.  As of September 30, 2011, there was $3,166,723 of backlog which includes the additional orders under the IDIQ contract.

Unbilled revenue reflects work performed, but not billed at the time, per contractual requirements. As of September 30, 2011 and 2010, the Company had no unbilled revenues.  Billings to customers in excess of revenue earned are classified as advanced billings and shown as a liability.  As of September 30, 2011 and 2010, the Company had no advanced billings.  

Research and Development Costs
 
Research and Development expenditures for research and development of the Company's products are expensed when incurred, and are included in general and administrative expenses. The Company recognized research and development costs of $8,794 and $5,155 for the three months ended September 30, 2011 and 2010, respectively, and $34,741 and $18,184, for the nine months ended September 30, 2011 and 2010, respectively.

 
6

 
 
MIKROS SYSTEMS CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
 (UNAUDITED)
 
NOTE 4 – REDEEMABLE SERIES C PREFERRED STOCK

The Redeemable Series C Preferred Stock is not convertible into any other class of the Company’s stock and is subject to redemption at the Company’s option at any time if certain events occur, such as capital reorganizations, consolidations, mergers, or sale of all or substantially all of the Company’s assets.  Each share is entitled to cast one vote on all matters to be voted on by the Company’s shareholders.  Upon any liquidation, dissolution or winding up of the Company, each holder of Redeemable Series C Preferred Stock will be entitled to be paid, before any distribution or payment is made upon any other class of stock of the Company, an amount in cash equal to the redemption price for each share of Redeemable Series C Preferred Stock held by such holder, and the holders of Redeemable Series C Preferred Stock will not be entitled to any further payment. The redemption price is $16.09 per share.

NOTE 5 – SHAREHOLDER’S EQUITY
 
SERIES B CONVERTIBLE PREFERRED STOCK
 
Each share of Series B Preferred Stock is convertible into three shares of the Company’s common stock at a price of $.33 per common share to be paid upon conversion and entitles the holder of the Series B Convertible Preferred Stock thereof to cast three votes for each share of the Series B Convertible Preferred Stock held on all matters to be voted on by the Company’s shareholders.  Upon any liquidation, dissolution, or winding up of the Company, each holder of Series B Preferred Stock will be entitled to be paid, after all distributions of payments are made upon redemption of the Series C Preferred Stock an amount in cash equal to $1.00 for each share of Series B Preferred Stock held, and such holders will not be entitled to any further payment.

CONVERTIBLE PREFERRED STOCK

Each share of Convertible Preferred Stock is entitled to dividends when, and if declared by the Board of Directors of the Company.  In the event any dividend is payable to holders of the Company’s common stock, each share is entitled to receive a dividend equal to the amount of such common stock dividend multiplied by the number of shares of common stock into which each share of Convertible Preferred Stock may be converted.  Shares of Convertible Preferred Stock can be redeemed in whole, but not in part, at the Company’s option for $1.00 per share.  Holders of Convertible Preferred Stock are entitled to cast one vote per share on all matters to be voted upon by the Company’s shareholders.  Each share of Convertible Preferred Stock is convertible at any time into one share of common stock at a conversion price of $1.00 per share, subject to adjustment in certain circumstances.  The convertible preferred stock has the nonforfeitable right to participate equally in dividends and distributions with the holders of the common stock.  Upon any liquidation, dissolution or winding up of the Company, each holder will be entitled to be paid, after holders of Redeemable Series C Preferred Stock and Series B Preferred Stock have been paid in full, an amount in cash equal to $1.00 per share.

SERIES D PREFERRED STOCK

The Series D Preferred Stock provided for an annual cumulative dividend of $.10 per share and entitles the holder thereof to cast one vote for each share held on all matters to be voted on by the Company’s shareholders.  The shares are not convertible into any other class of stock and are subject to redemption at the Company’s option at any time at a redemption price of $1.00 per share plus all unpaid cumulative dividends.  Upon liquidation, dissolution or winding up of the Corporation, each holder of Series D Preferred Stock will be entitled to be paid, after all distributions or payments are made upon the Corporation’s Convertible Preferred Stock, Series B Preferred Stock, and Redeemable Series C Preferred Stock, an amount in cash equal to the Redemption Price, as defined, for each share of Series D Preferred Stock held by such holder. The holders of Series D Preferred Stock will not be entitled to any further payment.

Effective January 1, 2006, the holders of the shares of Series D Preferred Stock agreed to waive the future accumulation of dividends.  As of December 31, 2005, there were dividends in arrears on the Series D Preferred Stock of $828,000.  Such waiver does not affect dividends accrued through December 31, 2005.  Accordingly, $828,000 of such undeclared dividends in arrears remains outstanding at September 30, 2011 and is included in the liquidation value of $1,568,000.
 
 
7

 
 
MIKROS SYSTEMS CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
 
 NOTE 6 – EARNINGS PER SHARE
 
The Company’s calculation of weighted average shares outstanding for the three and nine months ended September 30, 2011 and 2010 is set forth below:
 
   
Three Months Ended,
   
Nine Months Ended,
 
   
SEPTEMBER, 30
   
SEPTEMBER, 30
   
SEPTEMBER, 30
   
SEPTEMBER, 30
 
   
2011
   
2010
   
2011
   
2010
 
Basic EPS:
                       
Net income applicable to common shareholders - basic
  $ 892     $ 106,081     $ 17,405     $ 142,977  
Portion allocable to common shareholders
    99.0 %     99.2 %     99.1 %     99.2 %
Net earnings allocable to common shareholders
    883       105,232       17,248       141,833  
Weighted average basic shares outstanding
    31,766,753       31,766,753       31,766,753       31,766,753  
Basic earnings per share
  $ -     $ -     $ -     $ -  
                                 
Dilutive EPS:
                               
Net income applicable to common shareholders
    883       105,232       17,248       141,833  
Add: undistributed earnings allocated to participating securities
    9       849       157       1,144  
Numerator for diluted earnings per share
    892       106,081       17,405       142,977  
                                 
Weighted average shares outstanding - basic
    31,766,753       31,766,753       31,766,753       31,766,753  
Diluted effect:
                               
Restricted Stock
    67,935       -       22,894       -  
Stock options
    -       -       -       13,578  
Conversion equivalent of dilutive Series B Convertible Preferred Stock
    3,307,299       3,307,299       3,307,299       3,307,299  
Conversion equivalent of dilutive Convertible Preferred Stock
    255,000       255,000       255,000       255,000  
Weighted average dilutive shares outstanding
    35,396,987       35,329,052       35,351,946       35,342,630  
Dilutive earnings per share
  $ -     $ -     $ -     $ -  
 
 
The table below sets forth the calculation of the percentage of net earnings allocable to common shareholders under the two-class method:
 
   
Three Months Ended,
   
Nine Months Ended,
 
   
SEPTEMBER, 30
   
SEPTEMBER, 30
   
SEPTEMBER, 30
   
SEPTEMBER, 30
 
   
2011
   
2010
   
2011
   
2010
 
                         
Numerator:
                       
Weighted average participating common shares
    31,766,753       31,766,753       31,766,753       31,766,753  
Denominator:
                               
Weighted average participating common shares
    31,766,753       31,766,753       31,766,753       31,766,753  
Add: Weighted average shares of Convertible Preferred Stock
    255,000       255,000       255,000       255,000  
Add: Weighted average shares of Restricted Stock
    67,935       -       22,894       -  
Weighted average participating shares
    32,089,688       32,021,753       32,044,647       32,021,753  
Portion allocable to common shareholders
    99.0 %     99.2 %     99.1 %     99.2 %
 
 
Diluted net income per share for the periods presented do not reflect the following potential common shares, as the effect would be antidilutive:
 
   
Three Months Ended,
   
Nine Months Ended,
 
   
SEPTEMBER, 30
   
SEPTEMBER, 30
   
SEPTEMBER, 30
   
SEPTEMBER, 30
 
   
2011
   
2010
   
2011
   
2010
 
                         
Stock options
    690,000       846,816       690,000       765,000  
Restricted stock awards
    250,000       -       -       -  
Series B Convertible preferred stock
    -       -       -       -  
Convertible preferred stock
    -       -       -       -  
Total
    940,000       846,816       690,000       765,000  
 
 
8

 
 
MIKROS SYSTEMS CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
 
NOTE 7 – INCOME TAX MATTERS
 
The Company conducts an on-going analysis to review the deferred tax assets and the related valuation allowance that it has recorded against deferred tax assets, primarily associated with Federal net operating loss carryforwards.  As a result of this analysis and the actual results of operations, the Company has increased its net deferred tax assets by $1,600 during the nine months ended September 30, 2011.  The Company increased its net deferred tax assets by approximately $44,925 during the nine months ended September 30, 2010.  The change in deferred tax assets is attributable to the reduction in the valuation allowance as the Company anticipates earnings from operations to continue.  
 
NOTE 8 – SHARE BASED COMPENSATION

2007 Stock Incentive Option Plan

During the three and nine months ended September 30, 2011, the Company did not issue any stock options   In accordance with the recognition provisions of  ASC 718, the Company recognized stock-based compensation expense of $8,799 and $11,138 for the three months ended September 30, 2011 and 2010, respectively.  The Company recognized stock-based compensation expense of $19,812 and $33,415 for the nine months ended September 30, 2011 and 2010, respectively.   As of September 30, 2011, there were 690,000 outstanding options, 409,020 of which were exercisable.  As of September 30, 2011, there was $19,289 of unrecognized stock-based compensation expense that will be recognized in future periods.

On September 6, 2011, the Company granted 260,000 restricted stock awards.  The fair value of the restricted stock awards was determined on the date of grant using the closing stock price of $0.09.  The fair value of the restricted stock awards is amortized over the vesting period of three to five years utilizing the straight-line method.  During September 2011, 10,000 restricted stock awards granted to an employee were forfeited upon termination of employment.  As of September 30, 2011, there were 250,000 restricted stock awards outstanding and $22,500 of unrecognized stock-based compensation expense that will be recognized in future periods.
 
 NOTE 9 – RELATED PARTY TRANSACTIONS

The Company is a subcontractor to Ocean Power Technologies, Inc. under a four-year program to develop and deploy a Vessel Detection System based on the Littoral Expeditionary Autonomous Power Buoy (LEAP) technology.  Thomas Meaney, the Company’s president and member of the Company’s board of directors, also serves as a director of Ocean Power Technologies, Inc.  For the three months ended September 30, 2011 and 2010, the Company recognized revenues of $6,884 and $62,567, respectively, in connection with the subcontracting agreement with Ocean Power Technologies, Inc.  For the nine months ended September 30, 2011 and 2010, the Company recognized revenues of $115,861 and $213,056, respectively.

NOTE 10 – COMMITMENTS AND CONTINGENCIES

In April 2011, the Company entered into a line of credit agreement with Sun National Bank.  The agreement increases the Company’s borrowing capacity to $200,000.  Any loans under the facility accrue interest at a variable rate equal to the bank’s prime rate plus 300 basis points with a minimum annual interest rate of 6.0%.  The facility matures on May 5, 2012, may be prepaid at any time without penalty, and is secured by substantially all the assets of the Company.  Borrowings under the facility are limited to a percentage of aggregate outstanding receivables that are due within 90 days.  The credit agreement contains customary affirmative and negative covenants, and a net worth financial covenant.  Upon securitizing the line of credit, the Company extinguished the $50,000 certificate of deposit that was held as collateral under the previous credit facility.  As of September 30, 2011, there have been no borrowings under this credit facility.

 
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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
 
This report contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.  All statements other than statements of historical facts included or incorporated by reference in this report, including, without limitation, statements regarding our future financial position, business strategy, budgets, projected revenues, projected costs and plans and objectives of management for future operations, are forward-looking statements.  In addition, forward-looking statements generally can be identified by the use of forward-looking terminology such as “may,” “will,” “expects,” “intends,” “plans,” “projects,” “estimates,” “anticipates,” or “believes” or the negative thereof or any variation there on or similar terminology or expressions.
 
These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from results proposed in such statements.  Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to have been correct.  Important factors that could cause actual results to differ materially from our expectations include, but are not limited to: changes in business conditions, a decline or redirection of the U.S. Defense budget, the failure of Congress to approve a budget or a continuing resolution, the termination of any contracts with the U.S. Government, changes in our sales strategy and product development plans, changes in the marketplace, continued services of our executive management team, our limited marketing experience, security breaches, competition between us and other companies seeking Small Business Innovative Research grants, competitive pricing pressures, market acceptance of our products under development, delays in the development of products, and statements of assumption underlying any of the foregoing, as well as other factors set forth under the caption “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2010 filed with the Securities and Exchange Commission.
 
All subsequent written and oral forward-looking statements attributable to us, or persons acting on our behalf, are expressly qualified in their entirety by the foregoing.  Except as required by law, we assume no duty to update or revise our forward-looking statements based on changes in internal estimates or expectations or otherwise.
 
Item 2.   Management’s Discussion and Analysis of Financial Position and Results of Operations
 
Mikros Systems Corporation (“Mikros,” the “Company,” “we” or “us”) was incorporated in the State of Delaware in June 1978.  We are an advanced technology company specializing in the research and development of electronic systems technology primarily for military applications.  Classified by the U.S. Department of Defense (DoD) as a small business, our capabilities include technology management, electronic systems engineering and integration, radar systems engineering, combat/command, control, communications, computers and intelligence (C4I) systems engineering, and communications engineering.
 
Overview
 
Our primary business focus is to pursue Small Business Innovation Research (SBIR) programs from the U.S. Department of Defense, Department of Homeland Security, and other governmental authorities, and to expand this government-funded research and development into products, services, and other business areas of the Company.  Since 2002, we have been awarded a number of Phase I, II, and III SBIR contracts.
 
Revenues from our government contracts represented 100% of our revenues for the three and nine months ended September 30, 2011 and 2010.  The majority of our revenue was generated by sales of Adaptive Diagnostic Electronic Portable Testset (ADEPT®) units.  We believe that we can utilize the intellectual property developed under our various SBIR awards to create proprietary products for both the government and commercial marketplace.
 
On August 2, 2011, Congress passed the Budget Control Act of 2011 (the “Budget Act”). The Budget Act immediately imposes spending caps that contain approximately $300 billion in reductions to the projected DoD base budgets over the next ten years (fiscal years 2012-2021). The Budget Act also raises the federal debt limit and creates a bipartisan congressional joint select committee on deficit reduction. Deficit reduction actions over the next ten years beginning with fiscal year 2013 and beyond may result in changes to business taxes such as the elimination of the corporate R&D tax credit and additional reductions in defense spending. If the committee cannot reach agreement on a package of reductions and Congress does not approve such reductions by the end of 2011, then an additional $1.2 trillion of automatic reductions through fiscal year 2021 would be triggered, of which, approximately $500 billion would be expected to come from defense budgets. In the second half of 2011, the DoD is expected to complete the review of U.S. military missions and capabilities that President Obama announced in April 2011, and it is expected that such review will provide guidance for the DoD budget reductions mandated by the Budget Act. Although we currently cannot predict the timing, size or nature of these proposed cuts, if they do occur and if they affect funding for our revenue arrangements, we expect that such budget reductions will negatively impact our sales, results of operations and cash flows in future periods.
 
 
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Below is a brief description of certain of the material projects we are working on at this time.
 
Adaptive Diagnostic Electronic Portable Testset (ADEPT®)
 
Originally designated as the Multiple Function Distributed Test and Analysis Tool (MFDAT), the ADEPT began as an SBIR investigation in 2002. Additional ADEPT development was completed through a series of SBIR grants and contracts. ADEPT is an automated maintenance workstation designed to significantly reduce the man-hours required to align the AN/SPY-1 Radar System aboard U.S. Navy AEGIS cruisers and destroyers, while optimizing system performance and readiness.  ADEPT represents a new approach to Navy shipboard maintenance, integrating modular instrumentation cards in a rugged enclosure with an onboard computer, input and output devices, networking hardware, removable hard drives, and a touch screen display.  A custom software application provides the user interface and integrates the hardware with a database that stores user information, instrument readings, maintenance requirements, and training aids.  ADEPT is designed to be adapted to other complex shipboard systems, and to provide integrated distance support capabilities for remote diagnostics and troubleshooting by shore-based Navy experts.
 
Key benefits of ADEPT include:
 
 
Distance support capability enabling “expert” remote (shore-based) system support and fleet-wide system analysis;
 
 
Reduction in the amount of electronic test equipment required for organizational level support; and
 
 
Modularity and programmability which aims to overcome obsolescence issues encountered with current test equipment and support capability enhancements in future systems.
 
The goal for ADEPT has been to obtain a multi-year Indefinite-Delivery, Indefinite-Quantity (IDIQ) contract for production, engineering, and logistics support.  On March 19, 2010, we were awarded and entered into an IDIQ contract with the Naval Surface Warfare Center.  The contract is for a term of five years and provides for the purchase and sale of up to $26 million of ADEPT units and related support.   
 
In March 2010, September 2010, and July 2011, we were awarded significant task orders under the IDIQ contract.  For the three months ended September 30, 2011 and 2010, we realized revenues of $792,529 and $926,056, respectively, related to the ADEPT production orders.  For the nine months ended September 30, 2011 and 2010, we realized revenues of $2,187,997 and $2,349,153, respectively, related to the ADEPT production orders.  We delivered 27 units in 2010 and an additional 18 units during the first three quarters of 2011.  In July 2011, we received orders to produce and deliver an additional 36 ADEPT units and related support services.  For the nine months ended September 30, 2011 and 2010, revenue per unit increased under the IDIQ contract due to increase service support for the orders received in September 2010 and July 2011.  We expect to produce and deliver a majority of these units during 2011 and receive additional delivery orders during the remaining term of the contract.  Contracting with the federal government is a lengthy and complex process and many factors could materialize that would negatively impact our ability to secure future ADEPT orders.

Wireless Local Area Network Systems
 
Since June 2004, we have been working with the Office of Naval Research regarding emerging Wireless Local Area Network systems (WLANs) and DoD radar systems to, among other things, evaluate and quantify the potential improvements which may be afforded by selected mitigation techniques.  We continue to perform contracts in connection with this project and are working closely with engineers from the Naval Air Warfare Center, Weapons Division (NAWCWD).  The technical objective of this effort is to develop simulation models that can be used to predict the performance of data links in a jamming environment.
 
Additional Contracts and Recent Developments
 
In February 2009, we were awarded by Northrop Grumman Corporation (Northrop Grumman) a $68,000 production support contract on the Navy’s Next Generation Command and Control Processor (NGC2P) program.  The NGC2P system is a tactical data link (TDL) communications processor which provides warfighters with critical real-time information during combat operations.  We anticipate future work with Northrop Grumman in areas associated with our expertise in electronic systems development and wireless technologies.
 
In April 2010, we were awarded a $250,000 subcontract with a major defense prime contractor to perform design of shipboard wireless networks for a new U.S. Navy communications program.
 
 
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In July 2010, we received a $750,000 SBIR Phase II contract from the Naval Sea Systems Command for development of a “Wave Energy MicroBuoy” to be used as an at-sea platform for a communications relay or network gateway.   Ocean Power Technologies, Inc. (OPT), who we collaborate with on certain projects, has been a key team member in the pursuit of the contract and will be a major subcontractor.  We intend to work with OPT in the design and development of a miniaturized, self-powered ocean buoy which can be deployed at sea for extended periods to support various on-board payload packages, such as network communications nodes.  The main objective of the SBIR Phase II Program is the development and testing of a prototype MicroBuoy and demonstration of a persistent power level specified for the Navy system.
 
Key Performance Indicator

As substantially all of our revenue is derived from contracts with the federal government, our key performance indicator is the dollar volume of contracts awarded to us.  Increases in the number and value of contracts awarded will generally result in increased revenues in future periods and, assuming relatively stable variable costs associated with our fulfilling such contracts, increased profits in future periods.  The timing of such awards is uncertain as we sell to federal government agencies where the process of obtaining such awards can be lengthy and at times uncertain.  As the majority of our revenue during the first three quarters of 2011, and expected revenue over the next three months, is or will be from sales of ADEPT units under our IDIQ contract, continued generation of task orders and our ability to expand the market and potential customer base for ADEPT units will be a key indicator of future revenue.
 
Outlook

Our strategy for continued growth is three-fold.  First, we expect to continue expanding our technology base, backlog and revenue by continuing our active participation in the DoD SBIR program and bidding on projects that fall within our areas of expertise.  These areas include electronic systems engineering and integration, radar systems engineering, combat/C4I (Command, Control, Communications, Computers & Intelligence) systems engineering, and communications engineering.  We believe that we can utilize the intellectual property developed under our various SBIR awards to develop proprietary products, such as the ADEPT described above, with broad appeal in both the government and commercial marketplace.  This state-of-the-art test equipment can be used by many commercial and governmental customers such as the FAA, radio and television stations, cellular phone service providers and airlines.  Second, we will continue to pursue SBIR projects with the Department of Homeland Security, the U.S. Navy, and other government agencies.  Third, we believe that through our marketing of products such as ADEPT, we will develop key relationships with prime defense system contractors.  Our strategy is to develop these relationships into longer-term, key subcontractor roles on future major defense programs awarded to these prime contractors.
 
For the remainder of 2011, our primary strategic focus is to continue to: (i) establish ourselves as a premium provider of research and development and product development services to the defense industry; and (ii) grow our business, generate profits and increase our cash reserves through obtaining additional SBIR contracts and positioning ourselves to obtain future SBIR contracts.  From an operational prospective, we expect to focus substantial resources on generating purchase orders under the IDIQ contract for ADEPT units and exploring commercialization opportunities.  We intend to capitalize on the Navy modernization program which could result in two or three ADEPT units being placed on each destroyer and cruiser in the U.S. Navy, with the potential to install multiple units on additional U.S. Navy ships and submarines.
 
Over the longer term, we expect to further develop technology based on existing and additional SBIR contracts and to develop these technologies into products for wide deployment to DoD customers and contractors as well as developing potential commercial applications.  For example, we recently entered into a memorandum of understanding with a global provider of telecommunications equipment and related services pursuant to which we will assist the global provider in marketing its products to the DoD.
 
Changes to Critical Accounting Policies and Estimates
 
Our critical accounting policies and estimates are set forth in our Annual Report on Form 10-K for the fiscal year ended December 31, 2010.   As of September 30, 2011, there have been no changes to such critical accounting policies and estimates.  Certain amounts for the prior period have been reclassified to conform to the current presentation.  
 
Results of Operations
 
The discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America and the requirements of the U.S. Securities and Exchange Commission.  The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities.  On an on-going basis, we evaluate our estimates, including those related to bad debts, recoverability of long-lived assets, income taxes and commitments.  We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.  The accounting estimates and assumptions discussed in the footnotes to our financial statements included herein are those that we consider to be the most critical to an understanding of our financial statements because they inherently involve significant judgments and uncertainties.
 
 
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Three Months Ended September 30, 2011 and 2010
 
We generated revenues of $1,098,430 during the three months ended September 30, 2011 compared to $1,218,928 during the three months ended September 30, 2010, a decrease of $120,498 or 10%.  The decrease was primarily due to the delay in receipt of additional purchase orders under the IDIQ contract for ADEPT units.  Orders for an additional 36 units were not received until July 2011.

Cost of revenues consist of direct contract costs such as labor, material, subcontracts, travel, and other direct costs.  Cost of revenues for the three months ended September 30, 2011 was $641,865 compared to $693,770 for the three months ended September 30, 2010, a decrease of $51,905 or 7%.  The decrease was primarily due to the reduction in labor costs upon completion of the purchase orders under the IDIQ contract for ADEPT units in April 2011.  The decrease was also attributable to the delay in receipt of additional purchase orders under the IDIQ contract for ADEPT units.
 
The majority of our engineering costs consist of (i) salary, wages and related fringe benefits paid to engineering employees, (ii) rent-related costs, and (iii) consulting fees paid to engineering consultants.  As the nature of these costs benefit the entire organization and all research and development efforts, and their benefit cannot be identified with a specific project or contract, these engineering costs are classified as part of “engineering overhead” and included in operating expenses.  Engineering costs for the three months ended September 30, 2011 were $211,977 compared to $143,933 for the three months ended September 30, 2010, an increase of $68,044 or 47%.  The increase was due primarily to increases in salaries, travel costs, and equipment related costs.
 
General and administrative expenses consist primarily of salary, consulting fees paid to bid and proposal consultants and related costs, professional fees, business insurance, franchise tax, SEC compliance costs, travel, and unallowable expenses (consisting of those expenses for which the government will not reimburse us).  General and administrative costs for the three months ended September 30, 2011 were $247,796 compared to $283,310 for the three months ended September 30, 2010, a decrease of $35,514 or 13%.  The decrease was primarily due to decreases in unallowable costs and changes in responsibilities for certain employees that are reflected within engineering costs. 
 
At September 30, 2011, we estimate our annual effective tax rate for 2011 to be 6.5%.  We are recognizing a tax benefit of $4,100 for the quarter ended September 30, 2011 primarily due to the tax benefit recognized from the decrease in valuation allowance established for net deferred tax assets.  At September 30, 2011, the difference from the expected federal income tax rate is attributable to state income taxes and changes in the valuation allowance established for net deferred tax assets.
 
We reported net income of $892 during the three months ended September 30, 2011 as compared to net income of $106,081 during the three months ended September 30, 2010.  The decrease was primarily attributable to the delay in receiving additional orders under the IDIQ contract.
 
Nine Months Ended September 30, 2011 and 2010
 
We generated revenues of $3,057,406 during the nine months ended September 30, 2011 compared to $3,334,624 during the nine months ended September 30, 2010, a decrease of $277,218 or 8%.  The decrease was primarily due to the delay in receipt of additional purchase orders under the IDIQ contract for ADEPT units.  Orders for an additional 36 units were not received until July 2011.

Cost of revenues for the nine months ended September 30, 2011 was $1,605,572 compared to $1,927,900 for the nine months ended September 30, 2010, a decrease of $322,328 or 17%.  The decrease was primarily due to the reduction in material costs upon completion of the purchase orders under the IDIQ contract for ADEPT units in April 2011 and the delay in receipt of additional purchase orders under the IDIQ contract for ADEPT units until July 2011.
 
Engineering costs for the nine months ended September 30, 2011 were $621,220 compared to $472,585 for the nine months ended September 30, 2010, an increase of $148,635 or 31%.  The increase was due primarily to increases in incentive compensation, salaries and related benefits.

General and administrative costs for the nine months ended September 30, 2011 were $812,625 compared to $809,209 for the nine months ended September 30, 2010, an increase of $3,416 or 0.4%.  The slight increase was primarily due to increases in professional fees, and the establishment of a provision for warranty related expenses in connection with the units produced and delivered under the IDIQ contract for ADEPT units offset by decreases in traveling changes in responsibilities for certain employees that are reflected within engineering costs.
 
At September 30, 2011, we estimate our annual effective tax rate for 2011 to be 6.5%.  We are recognizing a tax expense of $1,400 for the nine months ended September 30, 2011 primarily due to the expected continuation of earnings that is offset by the tax benefit recognized from the decrease in valuation allowance established for net deferred tax assets.  At September 30, 2011, the difference from the expected federal income tax rate is attributable to state income taxes and changes in the valuation allowance established for net deferred tax assets.
 
 
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We generated net income of $17,405 during the nine months ended September 30, 2011 as compared to net income of $142,977 during the nine months ended September 30, 2010.  The decrease was primarily attributable to the completion of the IDIQ contract awarded in March and September 2010 and the delay in receiving additional orders under the IDIQ contract.

Liquidity and Capital Resources
 
Since our inception, we have financed our operations through debt, private and public offerings of equity securities, and cash generated by operations.
 
During the nine months ended September 30, 2011, net cash provided by operations was $223,999 compared to $254,652 of cash used in operations during the nine months ended September 30, 2010. The increase was due primarily to the timing of collecting outstanding receivables, paying outstanding payables, and reducing our valuation allowance related to our deferred tax assets.   We had working capital of $915,101 as of September 30, 2011 as compared to working capital of $861,637 at December 31, 2010.  

In 2009, we entered into a $50,000 line of credit agreement with Sun National Bank (“Sun”).  Subsequently, In January 2010 and 2011, the credit agreement was extended for additional one year periods.  In April 2011, we increased our borrowing capacity under the facility to $200,000.  The facility matures on May 5, 2012 and accrues interest at a variable rate equal to the bank’s prime rate plus 300 basis points with a minimum interest rate of 6.0% per annum.  Principal borrowings may be prepaid at any time without penalty, and the facility is secured by substantially all of our assets. Borrowings under the facility are limited to a percentage of aggregate outstanding receivables that are due within 90 days.  The facility contains customary affirmative and negative covenants and a net worth financial covenant.  As of the end of this report, there are no amounts outstanding under the facility.

We believe our available cash resources and expected cash flows from operations will be sufficient to fund operations for the next twelve months.  We do not expect to incur any material capital expenditures during the next twelve months.

In order to pursue strategic opportunities, obtain additional SBIR contracts, or acquire strategic assets or businesses, we may need to obtain additional financing or seek strategic alliances or other partnership agreements with other entities.  In order to raise any such financing, we anticipate considering the sale of additional debt or equity securities under appropriate market conditions.  There can be no assurance, assuming we successfully raise additional funds or enter into business alliances, that any such transaction will achieve profitability or generate positive cash flow.

Off-Balance Sheet Arrangements
 
As of September 30, 2011, we did not have any relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or variable interest entities, established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.  As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.
 
Item 4.  Controls and Procedures.
 
An evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934) was carried out by us under the supervision and with the participation of our president, who serves as our principal executive officer and principal financial officer.  Based upon that evaluation, our president concluded that as of September 30, 2011, our disclosure controls and procedures were effective to ensure (i) that information we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and (ii) that such information is accumulated and communicated to management, including our president, in order to allow timely decisions regarding required disclosure.
 
There were no changes in our internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) or 15d-15(f)) that occurred during the fiscal quarter ended September 30, 2011 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.  
 
 
PART II.  OTHER INFORMATION

Item 1.  Risk Factors

The information presented below sets forth what we reasonably believe represent material changes to the risk factors described in our annual report on Form 10-K for the year ended December 31, 2010.
 
 
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Significant delays or reductions in appropriations for our programs and federal government funding more broadly may negatively impact our business and programs and could have a material adverse effect on our financial position, results of operations or cash flows.

The funding of federal government programs is subject to an annual congressional budget authorization and appropriation processes. For many programs, Congress appropriates funds on a fiscal year basis even though the program performance period may extend over several fiscal years. We cannot predict the extent to which total funding and/or funding for individual programs will be included, increased or reduced as part of the 2012 and subsequent budgets ultimately approved by Congress or in separate supplemental appropriations or continuing resolutions. In addition, although Congress has recently passed a continuing resolution to fund federal government operations through November 18, 2011, it is unclear when additional short or long-term funding will be approved. The impact, severity and duration of the current U.S. economic situation and sweeping economic plans adopted or to be adopted by the federal government, along with pressures on, and uncertainty surrounding, the Federal budget, could adversely affect the funding for individual programs and delay purchasing or payment decisions by the federal government. In the event that government funding for any of our programs becomes unavailable, or is reduced or delayed, our contract or subcontract under such program may be terminated or adjusted by the federal government, which could have a material adverse effect on our financial position, results of operations, and/or cash flows.

As discussed previously, in August 2011, Congress passed the Budget Act which, while raising the existing statutory limit on the amount of permissible Federal debt, also committed the federal government to significantly reducing the federal deficit over ten years. The Budget Act caps discretionary spending through 2021, reducing federal spending by approximately $940 billion relative to the fiscal year 2012 Presidential Submission and also establishes a joint committee of Congress responsible for identifying an additional $1.5 trillion in deficit reductions by November 23, 2011. If at least $1.2 trillion in deficit reductions are not identified by the joint committee and passed by Congress by January 15, 2012, then under the Budget Act, very substantial automatic spending cuts split between defense and non-defense programs will be triggered beginning in 2013 over a nine-year period. We are unable to predict whether the required spending cuts will be identified and approved prior to the January 2012 deadline as well as the impact either identified or automatic cuts would have on funding for our individual programs. In either event, long-term funding for the programs in which we participate could be reduced, delayed or cancelled.

Our business could be negatively impacted by security threats, including cybersecurity threats, and other disruptions.

As a defense contractor, we face various security threats, including cybersecurity threats to gain unauthorized access to sensitive information; threats to the security of our facilities and infrastructure; and threats from terrorist acts. Although we utilize various procedures and controls to monitor these threats and mitigate our exposure to such threats, there can be no assurance that these procedures and controls will be sufficient in preventing security threats from materializing. If any of these events were to materialize, they could lead to losses of sensitive information, critical infrastructure, personnel or capabilities, essential to our operations and could have a material adverse effect on our reputation, financial position, results of operations, or cash flows.

Cybersecurity attacks in particular are evolving and include but are not limited to, malicious software, attempts to gain unauthorized access to data, and other electronic security breaches that could lead to disruptions in mission critical systems, unauthorized release of confidential or otherwise protected information and corruption of data. These events could damage our reputation and lead to financial losses from remedial actions, loss of business or potential liability.

Item 6.   Exhibits
 
No.
Description
   
31.1
Certification of principal executive officer and principal financial officer pursuant to Rules 13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes Oxley Act of 2002.
   
32.1
Certification of principal executive officer and principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002.
   
101.INS**
XBRL Instance
   
101.SCH**
XBRL Taxonomy Extension Schema
   
101.CAL**
XBRL Taxonomy Extension Calculation
 
 
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101.DEF**
XBRL Taxonomy Extension Definition
   
101.LAB**
XBRL Taxonomy Extension Labels
   
101.PRE**
XBRL Taxonomy Extension Presentation
 
** XBRL information is furnished and not filed or a part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections.

 
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SIGNATURES
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
MIKROS SYSTEMS CORPORATION
 
       
       
November 14,  2011
By:
/s/ Thomas J. Meaney
 
   
 
Thomas J. Meaney
President (Principal Executive Officer and
Principal Financial Officer)
 
 
 
 
 
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