SMTEK INTERNATIONAL INC - 10-Q Quarterly Report

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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10 - Q

(Mark One)

[X] Quarterly Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the quarterly period ended: SEPTEMBER 30, 2002

[ ] 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: 1-8101

Exact Name of Registrant as
Specified in Its Charter: SMTEK INTERNATIONAL, INC.

DELAWARE 33-0213512
State or Other Jurisdiction of I.R.S. Employer
Incorporation or Organization: Identification No.

Address of Principal Executive Offices: 200 Science Drive
Moorpark, CA 93021

Registrant's Telephone Number: (805) 532-2800

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 [ ]

The registrant had 2,284,343 shares of Common Stock outstanding as of
November 1, 2002.

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(In thousands except share amounts)

See accompanying notes to unaudited condensed consolidated financial statements.

SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND OTHER COMPREHENSIVE INCOME (LOSS) (Unaudited)
(In thousands except per share amounts)

Three Months Ended
September 30,
-------------------
2002 2001
------- -------
Revenues $20,736 $19,634
Cost of goods sold 19,039 17,630
------- -------
Gross profit 1,697 2,004
------- -------
Operating expenses:
Administrative and selling 2,169 1,708
Goodwill amortization - 10
------- -------
Total operating expenses 2,169 1,718
------- -------
Operating income (loss) (472) 286
------- -------
Non-operating income (expense):
Interest expense, net (324) (272)
Other income, net 18 28
------- -------
Total non-operating expense, net (306) (244)
------- -------
Income (loss) before income taxes (778) 42
Income tax provision 5 15
------- -------
Net income (loss) $ (783) $ 27

Other comprehensive income (loss):
Foreign currency translation adjustments (35) 42
Change in unrealized gain/(loss) on
forward contracts (52) -
------- -------
Comprehensive income (loss) $ (870) $ 69
======= =======

Basic and diluted earnings (loss) per share $ (0.34) $ 0.01
======= =======

Shares used in computing basic and diluted
earnings (loss) per share:
Basic 2,284 2,283
======= =======
Diluted 2,284 2,461
======= =======

See accompanying notes to unaudited condensed consolidated financial statements.

SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(In thousands)

Three Months Ended
September 30,
---------------------
2002 2001
------- -------
Cash flows from operating activities:
Net income (loss) $ (783) $ 27
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Depreciation and amortization 633 565
(Increase) decrease in accounts receivable (628) 1,300
Decrease in costs and estimated earnings in
excess of billings on uncompleted contracts - 578
(Increase) decrease in inventories 1,133 (117)
Increase in accounts payable 158 1,326
Decrease in other accrued liabilities (58) (481)
Other, net (206) (52)
------- -------
Net cash provided by operating activities 249 3,146
------- -------

Cash flows from investing activities:
Capital expenditures (711) (1,099)
------- -------
Net cash used in investing activities (711) (1,099)
------- -------

Cash flows from financing activities:
Proceeds from (payments of) bank lines of credit 843 (855)
Payments of long-term debt (420) (360)
Proceeds from the exercise of stock options - 7
------- -------
Net cash provided by (used in) financing activities 423 (1,208)
------- -------

Effect of exchange rate changes on cash (30) (9)
------- -------
Increase (decrease) in cash and cash equivalents (69) 830

Cash and cash equivalents at beginning of period 816 224
------- -------
Cash and cash equivalents at end of period $ 747 $ 1,054
======= =======

Supplemental cash flow information:
Interest paid $ 298 $ 259
Income taxes paid - 2
Non-cash investing activities:
Capital expenditures financed by lease
obligations and notes payable - 95

See accompanying notes to unaudited condensed consolidated financial statements

SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Three Months Ended September 30, 2002 and 2001

NOTE 1 - DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION

SMTEK International, Inc. (the "Company," "we," "us" or "our") is an
electronics manufacturing services ("EMS") provider to original equipment
manufacturers ("OEMs") primarily in the industrial and instrumentation,
medical, telecommunications, security, financial services automation and
aerospace and defense industries. We provide integrated solutions to OEMs
across the entire product life cycle, from design to manufacturing to end-of-
life services, for the worldwide low-to-medium volume, high complexity segment
of the EMS industry.

We have seven wholly owned subsidiaries: SMTEK, Inc. (dba SMTEK
Moorpark), located in Moorpark, California; Technetics, Inc. (dba SMTEK San
Diego), located in Poway, California; Jolt Technology, Inc. (aka SMTEK Fort
Lauderdale), located in Fort Lauderdale, Florida; SMTEK Europe Limited,
located in Craigavon, Northern Ireland; SMTEK New England, located in
Marlborough, Massachusetts; SMTEK Santa Clara, located in Santa Clara,
California; and SMTEK International Thailand Limited, located in Ayutthya,
Thailand.

All significant intercompany transactions and accounts have been
eliminated in consolidation. In the opinion of the Company's management, the
accompanying condensed consolidated financial statements reflect all
adjustments (consisting of normal recurring accruals) necessary to present
fairly our financial position, results of operations and cash flows as of and
for the periods presented.

We utilize a 52-53 week fiscal year ending on the Friday closest to June
30, which for fiscal year 2002 fell on June 28, 2002. In the accompanying
condensed consolidated financial statements, the 2002 fiscal year end is shown
as June 30 and the interim period end for both years is shown as September 30
for clarity of presentation. The actual interim periods ended on September
27, 2002 and September 28, 2001.

Certain notes and other information are condensed or omitted from the
interim financial statements presented in this Quarterly Report on Form 10-Q.
Therefore, these condensed financial statements should be read in conjunction
with our 2002 Annual Report on Form 10-K as filed with the Securities and
Exchange Commission on September 26, 2002.

NOTE 2 - ACQUISITION OF THE ASSETS OF CENTURY ELECTRONICS MANUFACTURING, INC.

On October 24, 2001, we completed a transaction to purchase certain
assets, but not assume any liabilities, of Century Electronics Manufacturing,
Inc. ("Century"), an EMS company that filed for bankruptcy. As part of this
transaction, we also purchased substantially all of the common stock of
Century's subsidiary in Thailand. The aggregate purchase price of this
transaction was approximately $3.2 million in cash and was funded by our
existing long-term bank lines of credit.

Specifically, we purchased from Century certain equipment and machinery
for approximately $1.4 million and inventory for approximately $900,000. We
have and will continue to utilize some of the purchased assets at our other
locations. We negotiated new facility leases in Marlborough, Massachusetts
and Santa Clara, California and began operations in Marlborough and Santa
Clara in connection with the purchase of these assets.

As part of the Century agreement we purchased the common stock of the
Century subsidiary in Thailand ("Century Thailand") for approximately
$900,000. The acquisition of the Thailand subsidiary provides us with a low
cost manufacturing facility in Southeast Asia. The acquisition of Century
Thailand was accounted for using the purchase method of accounting and,
accordingly, the statements of condensed consolidated operations include the
results of the Thailand subsidiary from the date of acquisition. The assets
acquired and liabilities assumed were recorded at fair value as determined by
us based on information currently available. A summary of the assets acquired
and the liabilities assumed in the acquisition is as follows (in thousands):

Estimated fair values:
Assets acquired $1,392
Liabilities assumed 476

Purchase price $ 916
Less cash received 787
------
Net cash paid $ 129
======

Unaudited pro forma results of operations for the three months ended
September 30, 2001, as if the acquisition of the Thailand subsidiary had
occurred at the beginning of the period reported, follow (dollars in
thousands). The unaudited pro forma results are not necessarily indicative of
the results which would have occurred if the business combination had occurred
on the date indicated:

Three Months Ended
September 30, 2001
------------------

Revenue $20,954
=======

Net income $ 90
=======

Earnings per share:
Basic and diluted $ 0.04
=======

NOTE 3 - EARNINGS PER SHARE

Basic earnings (loss) per share is computed by dividing net income
(loss) available to common stockholders by the weighted average number of
common shares outstanding during the period. Diluted earnings (loss) per
share reflects the potential dilution that could occur if securities or other
contracts to issue Common Stock were exercised or converted into Common Stock
or resulted in the issuance of Common Stock that then shared in our earnings
(losses).

Common stock equivalents used in the determination of diluted earnings
per share include the effect, when such effect is dilutive, of our outstanding
employee stock options and the 8-1/2% Convertible Subordinated Debentures
(which are convertible into 7,435 shares of Common Stock at $212.50 per share
of Common Stock). The following is a summary of the calculation of basic and
diluted earnings per share (dollars in thousands, except per share data):

Three Months Ended
September 30,
----------------------
2002 2001
--------- ---------

Net income (loss) $ (783) $ 27
========= =========

Weighted average shares:
Basic weighted average number of
common shares outstanding 2,284,343 2,283,043
Dilutive effect of outstanding
common stock equivalents - 177,781
--------- ---------
Diluted weighed average number of
common shares outstanding 2,284,343 2,460,824
========= =========

Earnings (loss) per share basic and diluted $ (0.34) $ 0.01
========= =========

Because we had a net loss for the three months ended September 30, 2002,
there were no common stock equivalents which had a dilutive effect on earnings
per share. However, if we had reported net income rather than a loss for the
three months ended September 30, 2002, the additional diluted shares
outstanding would have been 2,299. Further options to purchase approximately
622,100 of Common Stock at prices ranging from $1.21 to $10.00 which were
outstanding at September 30, 2002, would not have been included in the
computation of diluted earnings per share for the three months ended September
30, 2002, because the exercise price of these options were greater than the
average market price of the Common Stock. Options to purchase approximately
126,200 shares of Common Stock at prices ranging from $7.47 to $10.00 were
outstanding at September 30, 2001, but were not included in the computation of
diluted earnings per share for the three months ended September 30, 2001,
because the exercise price of these options and warrants were greater than the
average market price of the Common Stock.

Convertible subordinated debentures aggregating $1,580,000, due in 2008
and convertible at a price of $212.50 per share at any time prior to maturity
were outstanding during the three months ended September 30, 2002 and 2001,
but were not included in the computation of diluted earnings per share because
the effect would be antidilutive.

NOTE 4 - REVENUE RECOGNITION

All of our subsidiaries recognize revenues and cost of sales upon
shipment of products. We ship products FOB shipping point and accordingly,
title and risk of ownership pass to the customer upon shipment.

Prior to June 30, 2002, the Moorpark facility historically generated a
significant portion of its revenue through long-term contracts with suppliers
of electronic components and products. Consequently, this operating unit
historically used the percentage of completion method to recognize revenues
and cost of sales. Percentage of completion was determined on the basis of
costs incurred to total estimated costs. Contract costs include direct
material and direct labor costs and those indirect costs related to the
assembly process, such as indirect labor, supplies, tools, repairs and
depreciation costs. Selling and administrative costs were charged to expense
as incurred. In the period in which it was determined that a loss would
result from the performance of a contract, the entire amount of the estimated
loss was charged to cost of goods sold. Other changes in contract price and
estimates of costs and profits at completion were recognized prospectively.
The asset "costs and estimated earnings in excess of billings on uncompleted
contracts" represented revenues recognized in excess of amounts billed.

During fiscal 2002, our Moorpark facility entered into sales contracts
consistent with our other locations, and as such, recognized revenue on these
new arrangements upon shipment of products rather than on a percentage of
completion method. As a result, during most of fiscal 2002, the Moorpark
facility was recognizing revenue upon shipment of product as well as under the
percentage of completion method. At June 30, 2002 there were no existing
sales contracts with customers under the percentage of completion method of
accounting.

NOTE 5 - INVENTORIES

Inventories consist of the following (in thousands):

September 30, June 30,
2002 2002
------------- --------
Raw materials $ 6,565 $ 7,553
Work in process 3,269 3,174
Finished goods 278 496
------- -------
$10,112 $11,223
Total inventories ======= =======

Note 6 - PROPERTY, EQUIPMENT AND IMPROVEMENTS

Property, equipment and improvements consist of the following (in
thousands):

September 30, June 30,
2002 2002
------------- --------
Buildings and improvements $ 4,026 $ 3,980
Plant equipment 16,946 16,243
Office and other equipment 3,025 2,941
Less accumulated depreciation and amortization (15,078) (14,355)
-------- --------
Total property, equipment and improvements $ 8,919 $ 8,809
======== ========

NOTE 7 - CREDIT AGREEMENTS

At September 30, 2002, we have an $11 million working capital line
secured by accounts receivable, inventory and equipment for our domestic
operating units. Borrowings under the credit agreement bear interest at
either the bank's prime rate (4.75% at September 30, 2002) plus 0.75% or a
Eurodollar-base rate (1.79% at September 30, 2002) plus 3.50%. At September
30, 2002, borrowings outstanding under this credit facility amounted to $4.4
million and the effective weighted average interest rate was 5.30%. The line
of credit agreement contains certain financial covenants, with which we were
in compliance at September 30, 2002. Our available borrowing capacity as of
September 30, 2002 was approximately $3.0 million. This credit facility
matures September 25, 2003.

In addition, during fiscal 2002 we borrowed $1.6 million on our
equipment line of credit to finance our capital expenditures. This advance
has a maturity date of October 24, 2006. At September 30, 2002, the balance
outstanding was $1.0 million. Interest is at either the bank's prime rate plus
0.75% or at a Eurodollar-base rate plus 3.50%. The effective weighted average
interest rate was 5.30% at September 30, 2002. Additional advances under our
equipment line of credit will not be available to us until a review by the
bank at a future date.

We also have a credit facility agreement with Ulster Bank Markets for
our Northern Ireland operating company. This agreement consists of an
accounts receivable revolver, with maximum borrowings equal to the lesser of
75% of eligible receivables or 2,500,000 British pounds sterling
(approximately $3,925,000 at September 30, 2002), and bears interest at the
bank's base rate (4.00% at September 30, 2002) plus 2.00%. At September 30,
2002, borrowings outstanding under this credit facility amounted to
approximately $3.7 million and there was nominal available borrowing capacity.
The credit facility agreement with Ulster Bank Markets matures on November 30,
2002 and we are currently negotiating a renewal and extension of this credit
facility with Ulster Bank through November 30, 2003.

NOTE 8 - BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION

We operate in a single business segment - the EMS industry. Our
revenues and long-lived assets, net of accumulated depreciation, by geographic
area are as follows (in thousands):

Three Months Ended
September 30,
-------------------
2002 2001
------- -------
Revenues:
United States $16,832 $17,942
Northern Ireland 3,149 1,692
Thailand 755 -
------- -------
Total revenues $20,736 $19,634
======= =======

September 30, June 30,
2002 2002
------------- --------
Long-lived assets:
United States $7,516 $7,487
Northern Ireland 1,643 1,549
Thailand 180 193
------ ------
Total long-lived assets $9,339 $9,229
====== ======

NOTE 9 - FOREIGN CURRENCY FORWARD CONTRACTS

It is our policy not to enter into derivative financial instruments for
speculative purposes. We may, from time to time, enter into foreign currency
forward exchange contracts in an effort to protect us from adverse currency
rate fluctuations on foreign currency commitments entered into in the ordinary
course of business. These commitments are generally for terms of less than
one year. The foreign currency forward exchange contracts are executed with
banks believed to be creditworthy and are denominated in currencies of major
industrial countries. In accordance with Statement of Financial Accounting
Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities," all derivative financial instruments are measured at fair value
and are recognized as either assets or liabilities in the balance sheet. The
accounting treatment of changes in fair value is dependent upon whether or not
a derivative financial instrument is designated as a hedge and, if so, the
type of hedge. Changes in fair value are recognized in current results of
operations for fair value hedges and in other comprehensive income for cash
flow hedges. Derivative financial instruments not qualifying for hedge
accounting treatment under SFAS No. 133 are recognized as assets or
liabilities with gains or losses recognized in current results of operations.
At September 30, 2002 we had forward foreign currency contracts to sell
$326,000 for approximately 220,000 British pounds sterling between October 21,
2002 through December 24, 2002. The U.S. dollar to British pounds sterling
exchange rate at September 30, 2002 was 1.57. These forward foreign currency
contracts are designated as cash flow hedge instruments. In accordance with
SFAS No. 133, we recognized a gain of $19,000 in other comprehensive income at
September 30, 2002, related to these contracts.

NOTE 10 - COMMITMENTS AND CONTINGENCIES - ENVIRONMENTAL MATTERS

Since the early 1990s, we continue to be involved in certain remediation
and investigative studies regarding soil and groundwater contamination at the
site of a former printed circuit board manufacturing plant in Anaheim,
California. One of our former subsidiaries, Aeroscientific Corp., leased the
Anaheim facility. Under the terms of a cost sharing agreement entered into
several years ago, the remaining remediation costs are currently being shared
on a 50-50 basis with the landlord. There is no environmental insurance
coverage for this remediation. At September 30, 2002, we had a reserve of
$416,000 for future remediation costs. Management, based in part on
consultations with outside environmental engineers and scientists, believes
that this reserve is adequate to cover its share of future remediation costs
at this site. However, the future actual remediation costs could differ
significantly from the estimates. Further, our portion could potentially
exceed the amount of our reserve. Our liability for remediation in excess of
our reserve could have a material adverse impact on our business, financial
condition, results of operations and cash flows.

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

THIS QUARTERLY REPORT ON FORM 10-Q (THE "REPORT"), INCLUDING THE
DISCLOSURES BELOW, CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS THAT INVOLVE
SUBSTANTIAL RISKS AND UNCERTAINTIES. WHEN USED HEREIN, THE TERMS
"ANTICIPATES," "EXPECTS," "ESTIMATES," "BELIEVES" AND SIMILAR EXPRESSIONS, AS
THEY RELATE TO US OR OUR MANAGEMENT, ARE INTENDED TO IDENTIFY SUCH FORWARD-
LOOKING STATEMENTS. FORWARD-LOOKING STATEMENTS IN THIS REPORT OR HEREAFTER
INCLUDED IN OTHER PUBLICLY AVAILABLE DOCUMENTS FILED WITH THE SECURITIES AND
EXCHANGE COMMISSION ("SEC"), REPORTS TO THE STOCKHOLDERS OF SMTEK
INTERNATIONAL, INC., A DELAWARE CORPORATION (THE "COMPANY," "WE," "US" OR
"OUR") AND OTHER PUBLICLY AVAILABLE STATEMENTS ISSUED OR RELEASED BY US
INVOLVE KNOWN AND UNKNOWN RISKS, UNCERTAINTIES AND OTHER FACTORS WHICH COULD
CAUSE OUR ACTUAL RESULTS, PERFORMANCE (FINANCIAL OR OPERATING) OR ACHIEVEMENTS
TO DIFFER FROM THE FUTURE RESULTS, PERFORMANCE (FINANCIAL OR OPERATING) OR
ACHIEVEMENTS EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. SUCH
FUTURE RESULTS ARE BASED UPON MANAGEMENT'S BEST ESTIMATES BASED UPON CURRENT
CONDITIONS AND THE MOST RECENT RESULTS OF OPERATIONS. THESE RISKS INCLUDE,
BUT ARE NOT LIMITED TO, THE RISKS SET FORTH HEREIN AND IN SUCH OTHER DOCUMENTS
WITH THE SEC, EACH OF WHICH COULD ADVERSELY AFFECT OUR BUSINESS AND THE
ACCURACY OF THE FORWARD-LOOKING STATEMENTS CONTAINED HEREIN. OUR ACTUAL
RESULTS, PERFORMANCE OR ACHIEVEMENTS MAY DIFFER MATERIALLY FROM THOSE
EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS.

THE FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ IN CONJUNCTION WITH
THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND RELATED NOTES INCLUDED
ELSEWHERE IN THIS REPORT.

DESCRIPTION OF THE BUSINESS

SMTEK International, Inc. (the "Company," "we," "us" or "our") is an
electronics manufacturing services ("EMS") provider to original equipment
manufacturers ("OEMs") primarily in the industrial and instrumentation,
medical, telecommunications, security, financial services automation and
aerospace and defense industries. We provide integrated solutions to OEMs
across the entire product life cycle, from design to manufacturing to end-of-
life services, for the worldwide low-to-medium volume, high complexity segment
of the EMS industry.

We have seven wholly owned subsidiaries: SMTEK, Inc. (dba SMTEK
Moorpark), located in Moorpark, California; Technetics, Inc. (dba SMTEK San
Diego), located in Poway, California; Jolt Technology, Inc. (aka SMTEK Fort
Lauderdale), located in Fort Lauderdale, Florida; SMTEK Europe Limited,
located in Craigavon, Northern Ireland; SMTEK New England, located in
Marlborough, Massachusetts; SMTEK Santa Clara, located in Santa Clara,
California; and SMTEK International Thailand Limited, located in Ayutthya,
Thailand.

CRITICAL ACCOUNTING POLICIES

In response to SEC Release No. 33-8040, "Cautionary Advice Regarding
Disclosure About Critical Accounting Policies," we have identified our most
critical accounting policies that require significant management judgment or
involve complex estimates upon which our financial status depends. The
consolidated condensed financial statements and related notes within this
Quarterly Report on Form 10-Q contain information that is pertinent to our
accounting policies and to management's discussion and analysis and should
also be read in conjunction with our 2002 Annual Report on Form 10-K as filed
with the SEC on September 26, 2002. The information that follows describes
specific disclosures about our accounting policies regarding risks, estimates,
subjective decisions, or assessments under which materially different results
of operations and financial condition could have been reported had different
assumptions been used or different conditions existed.

REVENUE AND COST RECOGNITION--We recognize revenues and cost of sales
upon shipment of products. Prior to June 30, 2002, our Moorpark subsidiary
historically generated a significant portion of its revenue through long-term
contracts with suppliers of electronic components and products. Consequently,
this operating unit historically used the percentage of completion method to
recognize revenues and cost of sales. Percentage of completion was determined
on the basis of costs incurred to total estimated costs. Contract costs
include direct material and direct labor costs and those indirect costs
related to the assembly process, such as indirect labor, supplies, tools,
repairs and depreciation costs. Selling and administrative costs were charged
to expense as incurred. In the period in which it was determined that a loss
would result from the performance of a contract, the entire amount of the
estimated loss was charged to cost of goods sold. Other changes in contract
price and estimates of costs and profits at completion were recognized
prospectively. A change in our estimate of costs to complete may have
resulted in lower earnings than currently recorded. A portion of the asset
"costs and estimated earnings in excess of billings on uncompleted contracts"
represented revenues recognized in excess of amounts billed.

During fiscal 2002, our Moorpark facility entered into sales contracts
consistent with our other locations, and as such, recognized revenue on these
new arrangements upon shipment of products rather than on a percentage of
completion method. As a result, during most of fiscal 2002, the Moorpark
facility was recognizing revenue upon shipment of products as well as under
the percentage of completion method. At June 30, 2002 there were no existing
sales contracts with customers under the percentage of completion method of
accounting.

ACCOUNTS RECEIVABLE--We perform ongoing credit evaluations of our
customers and adjust credit limits based upon each customer's payment history
and current credit worthiness, as determined by credit information available
at that time. We continuously monitor collections and payments from our
customers and we maintain allowances for doubtful accounts for estimated
losses resulting from the inability of our customers to make required
payments. If the condition of our customers were to deteriorate, resulting in
an impairment of their ability to make payments, additional allowances may be
required.

INVENTORIES--Inventories are stated at the lower of cost or net
realizable value, with cost determined principally by use of the first-in,
first-out method. We write down inventory for slow-moving and obsolete
inventory based on assessments of future demands, market conditions and
customers who may be experiencing financial difficulties. If these factors
are less favorable than those projected, additional inventory write downs may
be required.

LONG-LIVED ASSETS--Property, equipment and improvements are stated at
cost. Depreciation and amortization are computed on the straight-line method.
The principal estimated useful lives are: buildings - 20 years; improvements
- - 5 to 10 years; and plant, office and other equipment - 3 to 7 years.
Property, equipment and improvements acquired by our Northern Ireland
operating unit are recorded net of capital grants received from the Industrial
Development Board ("IDB") for Northern Ireland. Goodwill represents the
excess of acquisition cost over the fair value of net assets of a purchased
business, and has been amortized over 5 to 15 years through June 30, 2002.
Amortization of goodwill ceased on July 1, 2002 when we adopted Statement of
Financial Accounting Standards ("SFAS") No. 142 (see section entitled "Recent
Accounting Pronouncements"). The recoverability of long-lived assets is
evaluated whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable, and if future undiscounted
cash flows expected to result from the use of such assets are believed
insufficient to recover the carrying value of the asset, the carrying value is
written down to fair value in the period the impairment is identified.
Factors we consider important which could trigger an impairment review
include, but are not limited to, the following:

- - the asset's ability to continue to generate income;

- - loss of legal ownership or title to the asset;

- - significant changes in our strategic business objectives and
utilization of the asset;

- - the impact of significant negative industry or economic trends; or

- - significant decrease in the market value of the asset

RESULTS OF OPERATIONS

We utilize a 52-53 week fiscal year ending on the Friday closest to June
30, which for fiscal year 2002 fell on June 28, 2002. In the accompanying
condensed consolidated financial statements, the 2002 fiscal year end is shown
as June 30 and the interim period end for both years is shown as September 30
for clarity of presentation. The actual interim periods ended on September 27,
2002 and September 28, 2001.

Consolidated revenues for the three months ended September 30, 2002 were
$20.7 million compared to $19.6 million for the three months ended September
30, 2001, an increase of approximately 6%. The increase in revenues was
primarily due the revenues generated at our three new facilities, offset by
the current downward economic and EMS market trends in the United States.
Starting in the third quarter of fiscal 2001, existing customers began to
defer shipments, and some cancelled orders.

Consolidated gross profit for the three months ended September 30, 2002
was $1.7 million (8.2% of sales) compared to $2.0 million (10.2% of sales) for
the three months ended September 30, 2001. The decrease in gross profit and
gross profit margin was due to an increase in fixed costs, primarily due to
our new facilities.

Administrative and selling expenses increased 27% to $2.2 million for
the three months ended September 30, 2002 from $1.7 million for the three
months ended September 30, 2001. The increase was primarily due to selling
and administrative expenses incurred in our three new facilities.

Total non-operating expense was $306,000 for the three months ended
September 30, 2002 compared to $244,000 for the three months ended September
30, 2001. The primary reason for this increase was due to the increase in
interest expense as a result of higher levels of debt outstanding during the
three months ended September 30, 2002 as compared to the three months ended
September 30, 2001. The increased debt level is a result of the acquisition
costs of the new facilities and from supporting their working capital
requirements.

We had an income tax provision of $5,000 for the three months ended
September 30, 2002, as compared to $15,000 for the three months ended
September 30, 2001. The income tax provision for the three months ended
September 30, 2002 was lower than that for the three months ended September
30, 2001, due to our net loss for the three months ended September 30, 2002.

Net loss was $783,000 for the three months ended September 30, 2002, or
$0.34 per diluted share, compared to net income of $27,000 for the three
months ended September 30, 2001, or $0.01 per diluted share, due mainly to
lower gross profit and higher administrative and selling expenses and non-
operating expense.

RECENT ACCOUNTING PRONOUNCEMENTS

In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other
Intangible Assets." SFAS No. 142 requires that goodwill and intangible assets
with indefinite useful lives no longer be amortized, but instead tested for
impairment, at least annually, in accordance with the provisions of SFAS No.
142. SFAS No. 142 also requires that intangible assets with definite useful
lives be amortized over their respective estimated useful lives to their
estimated residual values, and reviewed for impairment in accordance with SFAS
No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-
Lived Assets to Be Disposed Of" and SFAS No. 144 (see below) upon adoption.
We have adopted SFAS No. 142 as of July 1, 2002. In accordance with SFAS No.
142, we have until December 31, 2002 to complete our initial assessment of
impairment. We are currently assessing the impact of SFAS No. 142. The
possibility of impairment may exist based on the transitional goodwill
impairment test that will be performed in the December 2002 quarter.

In October 2001 the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." SFAS No. 144 replaces SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of." The primary objectives of SFAS No. 144 were to
develop one accounting model, based on the framework established in SFAS No.
121, for long-lived assets to be disposed of by sale and to address other
significant implementation issues. While SFAS No. 144 supersedes SFAS No.
121, it retains many of the fundamental provisions of SFAS No. 121. SFAS No.
144 is effective for financial statements issued for fiscal years beginning
after December 15, 2001. We have adopted SFAS No. 144 as of July 1, 2002.

LIQUIDITY AND CAPITAL RESOURCES

Our primary sources of liquidity are our cash and cash equivalents,
which amounted to $747,000 at September 30, 2002, and amounts available under
our bank lines of credit, which provided approximately $3.0 million of
availability in excess of current borrowings at September 30, 2002. During
the three months ended September 30, 2002, cash and cash equivalents decreased
by $69,000. This decrease resulted from cash provided by operations of
$249,000 and cash provided by financing activities of $423,000, offset by
purchases of equipment of $711,000.

Net cash provided by operating activities of $249,000 for the three
months ended September 30, 2002 was attributable primarily to a decrease in
inventories of $1.1 million offset by an increase in accounts receivables of
$628,000 and net loss before depreciation and amortization of $150,000.

Net cash used in investing activities was $711,000 for the three months
ended September 30, 2002 compared to $1.1 million for the three months ended
September 30, 2001. The cash used was for the purchase of capital
expenditures mainly for production purposes.

Net cash provided by financing activities was $423,000 for the three
months ended September 30, 2002 compared to net cash used in financing
activities of $1.2 million for the three months ended September 30, 2001. At
September 30, 2002, we had approximately $3.0 million available to borrow
under our bank lines of credit.

At September 30, 2002, we have an $11 million working capital line
secured by accounts receivable, inventory and equipment for our domestic
operating units. Borrowings under the credit agreement bear interest at
either the bank's prime rate (4.75% at September 30, 2002) plus 0.75% or a
Eurodollar-base rate (1.79% at September 30, 2002) plus 3.50%. At September
30, 2002, borrowings outstanding under this credit facility amounted to $4.4
million and the effective weighted average interest rate was 5.30%. The line
of credit agreement contains certain financial covenants, with which we were
in compliance at September 30, 2002. Our available borrowing capacity as of
September 30, 2002 was approximately $3.0 million. This credit facility
matures September 25, 2003.

In addition, during fiscal 2002 we borrowed $1.6 million on our
equipment line of credit to finance our capital expenditures. This advance
has a maturity date of October 24, 2006. At September 30, 2002, the balance
outstanding was $1.0 million. Interest is at either the bank's prime rate plus
0.75% or at a Eurodollar-base rate plus 3.50%. The effective weighted average
interest rate was 5.30% at September 30, 2002. Additional advances under our
equipment line of credit will not be available to us until a review by the
bank at a future date.

We also have a credit facility agreement with Ulster Bank Markets for
our Northern Ireland operating company. This agreement consists of an
accounts receivable revolver, with maximum borrowings equal to the lesser of
75% of eligible receivables or 2,500,000 British pounds sterling
(approximately $3,925,000 at September 30, 2002), and bears interest at the
bank's base rate (4.00% at September 30, 2002) plus 2.00%. At September 30,
2002, borrowings outstanding under this credit facility amounted to
approximately $3.7 million and there was nominal available borrowing capacity.
The credit facility agreement with Ulster Bank Markets matures November 30,
2002 and we are currently negotiating a renewal and extension of this credit
facility with Ulster Bank through November 30, 2003.

We anticipate that additional expenditures of as much as $300,000 may be
made during the remainder of fiscal 2003, primarily to improve production
efficiency at all our subsidiaries. A substantial portion of these capital
expenditures is expected to be financed by our line of credit or other
notes/leases payable.

At September 30, 2002, the ratio of current assets to current
liabilities was 1.0 to 1.0 compared to 1.3 to 1.0 at June 30, 2002. At
September 30, 2002, we had $482,000 of working capital compared to $5.9
million at June 30, 2002. At September 30, 2002, we had long-term borrowings
of $5.6 million compared to $10.1 million at June 30, 2002. The decreases in
the working capital and long-term debt is due to the reclassification of our
domestic line of credit of $4.4 million from long-term debt to current
liabilities as this matures in less than 12 months.

As more fully described in Note 6 to the notes to our consolidated
financial statements in our June 30, 2002 Form 10-K, at September 30, 2002, we
have a federal tax assessment liability of approximately $1.1 million and a
related accrued interest liability of approximately $1.2 million, which
reflect the results of a settlement with the IRS Appeals Division in December
2001. We are currently seeking an installment payment plan with the IRS.

We may continue to experience an adverse effect on our operating results
and our financial condition if current economic conditions continue for an
extended period of time, despite our cost reduction measures and efficiency
improvements made at our operating subsidiaries. For further discussion, see
section entitled "Risk Factors That May Affect Your Decision to Invest in Us"
in our 2002 Form 10-K, which was filed with the SEC on September 26, 2002.

Management believes that our cash resources, cash from operations and
available borrowing capacity on our working capital lines of credit are
sufficient to fund operations for at least the next 12 months.

ENVIRONMENTAL MATTERS

Since the early 1990s, we continue to be involved in certain remediation
and investigative studies regarding soil and groundwater contamination at the
site of a former printed circuit board manufacturing plant in Anaheim,
California. One of our former subsidiaries, Aeroscientific Corp., leased the
Anaheim facility. Under the terms of a cost sharing agreement entered into
several years ago, the remaining remediation costs are currently being shared
on a 50-50 basis with the landlord. There is no environmental insurance
coverage for this remediation. At September 30, 2002, we had a reserve of
$416,000 for future remediation costs. Management, based in part on
consultations with outside environmental engineers and scientists, believes
that this reserve is adequate to cover its share of future remediation costs
at this site. However, the future actual remediation costs could differ
significantly from the estimates. Further, our portion could potentially
exceed the amount of our reserve. Our liability for remediation in excess of
our reserve could have a material adverse impact on our business, financial
condition, results of operations and cash flows.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our financial instruments include cash and cash equivalents, accounts
receivable and short-term and long-term debt. At September 30, 2002, the
carrying amount of long-term debt (including current portion thereof but
excluding bank lines of credit) was $8.2 million and the fair value was $7.7
million. The carrying values of our other financial instruments approximated
their fair values. The fair value of our financial instruments is estimated
based on quoted market prices for the same or similar issues. A change in
interest rates of one percent would result in an annual impact on interest
expense of approximately $110,000.

It is our policy not to enter into derivative financial instruments for
speculative purposes. We may, from time to time, enter into foreign currency
forward exchange contracts in an effort to protect us from adverse currency
rate fluctuations on foreign currency commitments entered into in the ordinary
course of business. These commitments are generally for terms of less than
one year. The foreign currency forward exchange contracts are executed with
banks believed to be creditworthy and are denominated in currencies of major
industrial countries. In accordance with SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities," all derivative financial
instruments are measured at fair value and are recognized as either assets or
liabilities in the balance sheet. The accounting treatment of changes in fair
value is dependent upon whether or not a derivative financial instrument is
designated as a hedge and, if so, the type of hedge. Changes in fair value
are recognized in current results of operations for fair value hedges and in
other comprehensive income for cash flow hedges. Derivative financial
instruments not qualifying for hedge accounting treatment under SFAS No. 133
are recognized as assets or liabilities with gains or losses recognized in
current results of operations. At September 30, 2002 we had forward foreign
currency contracts to sell $326,000 for approximately 220,000 British pounds
sterling between October 21, 2002 through December 24, 2002. The U.S. dollar
to British pounds sterling exchange rate at September 30, 2002 was 1.57.
These forward foreign currency contracts are designated as cash flow hedge
instruments. In accordance with SFAS No. 133, we recognized a gain of $19,000
in other comprehensive income at September 30, 2002, related to these
contracts.

Our operations consist of investments in foreign operating units. Our
foreign subsidiaries represent approximately 19% of our revenues and 28% of
our total assets. As a result, our financial results have been and may
continue to be affected by changes in foreign currency exchange rates.

ITEM 4. CONTROLS AND PROCEDURES

Within the 90 days prior to the date of this report, the Company carried
out an evaluation, under the supervision and with the participation of the
Company's management, including the Company's Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of
the Company's disclosure controls and procedures pursuant to Exchange Act Rule
13a-14. Based upon that evaluation, the Company's Chief Executive Officer and
Chief Financial Officer concluded that the Company's disclosure controls and
procedures are effective in timely alerting them to material information
relating to the Company (including its consolidated subsidiaries) required to
be included in the Company's periodic SEC filings. There have been no
significant changes in the Company's internal controls or in other factors
that could significantly affect these internal controls subsequent to the date
of our most recent evaluation.

ITEM 5. OTHER INFORMATION

PRE-APPROVAL OF NON-AUDIT SERVICES

In accordance with Section 10A of the Securities Exchange Act of 1934,
as amended by Section 202 of the Sarbanes-Oxley Act of 2002, the members of
the Audit Committee approved non-audit, tax-related services by our auditors
during this reported fiscal quarter.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

In the ordinary course of business, we experience various types of
claims which sometimes result in litigation or other legal proceedings. We do
not anticipate that any of these claims or proceedings that are currently
pending will have a material adverse effect on us.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

a. Exhibits:

99.1 Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

b. Reports on Form 8-K:

On September 25, 2002, Edward J. Smith, Chief Executive Officer and
President, and Kirk A. Waldron, Senior Vice President and Chief Financial
Officer, each submitted to the SEC his sworn statement pursuant to SEC order
No. 4-460, and made certifications pursuant to 18 U.S.C. Section 1350 as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

SIGNATURE

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.

November 7, 2002 /s/ Kirk A. Waldron
Date Kirk A. Waldron
Senior Vice President and Chief
Financial Officer (Principal
Financial Officer)

CERTIFICATION OF CHIEF EXECUTIVE OFFICER

I, Edward J. Smith, certify that:

1. I have reviewed this quarterly report on Form 10-Q of SMTEK International,
Inc.;

2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;

3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):

a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.

Date: November 7, 2002

/s/ Edward J. Smith
Edward J. Smith
Chief Executive Officer and President
SMTEK International, Inc.

CERTIFICATION OF CHIEF FINANCIAL OFFICER

I, Kirk A. Waldron, certify that:

1. I have reviewed this quarterly report on Form 10-Q of SMTEK International,
Inc.;

2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;

3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):

a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.

Date: November 7, 2002

/s/ Kirk A. Waldron
Kirk A. Waldron
Senior Vice President and Chief Financial Officer
SMTEK International, Inc.
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