UNITED STATES
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 period ended: November 3, 2002
----------------
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ........ to ........
Commission File Number 0-5411
HERLEY INDUSTRIES, INC.
----------------------------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE #23-2413500
- ------------------------------- ---------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
101 North Pointe Boulevard, Lancaster, Pennsylvania 17601
- --------------------------------------------------- --------
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, including Area Code: (717) 397-2777
-------------
3061 Industry Drive, Lancaster, Pennsylvania 17603
--------------------------------------------------------------
(Former name, former address and former fiscal year, if changed
since last report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
[X] Yes [ ] No
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING
THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. [ ] Yes [ ] No
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
As of December 8, 2002 - 14,465,665 shares of Common Stock.
HERLEY INDUSTRIES, INC
AND SUBSIDIARIES
INDEX TO FORM 10-Q
PAGE
----
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements:
Condensed Consolidated Balance Sheets -
November 3, 2002 and July 28, 2002 2
Condensed Consolidated Statements of Income -
For the fourteen weeks ended November 3, 2002
and thirteen weeks ended October 28, 2001 3
Condensed Consolidated Statement of Shareholders' Equity-
For the fourteen weeks ended November 3, 2002 4
Condensed Consolidated Statements of Cash Flows -
For the fourteen weeks ended November 3, 2002
and thirteen weeks ended October 28, 2001 5
Notes to Condensed Consolidated Financial Statements 6
Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations 11
Item 3 - Quantitative and Qualitative Disclosures About Market Risk 14
Item 4 - Controls and Procedures 15
PART II -OTHER INFORMATION
Item 1 - Legal Proceedings 15
Item 6 - Exhibits and Reports on Form 8K 16
Signatures 17
Certifications pursuant to Section 302(a) of the Sarbanes-Oxley
Act of 2002 18
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands except share data)
November 3, July 28,
2002 2002
----------- --------
(Unaudited)
ASSETS
Current Assets:
Cash and cash equivalents $ 82,274 $ 86,210
Accounts receivable 18,860 14,486
Costs incurred and income recognized in excess
of billings on uncompleted contracts 6,618 6,882
Other receivables 553 274
Inventories, net of allowance of $2,430 in fiscal 2003
and $2,407 in fiscal 2002 35,758 33,371
Prepaid income taxes - 382
Deferred taxes and other 2,758 2,670
------- -------
Total Current Assets 146,821 144,275
Property, Plant and Equipment, net 22,656 22,231
Goodwill 26,338 21,665
Intangibles, net of accumulated amortization of $156 in fiscal
2003 and $145 in fiscal 2002 412 423
Available-For-Sale Securities 46 46
Other Investments 197 195
Other Assets 1,266 1,367
------- -------
$ 197,736 $ 190,202
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Current portion of long-term debt $ 719 $ 215
Accounts payable and accrued expenses 15,776 12,857
Income taxes payable 797 -
Reserve for contract losses 1,216 820
Advance payments on contracts 2,421 1,371
------- -------
Total Current Liabilities 20,929 15,263
Long-term Debt 6,568 5,684
Deferred Income Taxes 3,897 3,897
------- -------
31,394 24,844
------- -------
Commitments and Contingencies
Shareholders' Equity:
Common stock, $.10 par value; authorized
20,000,000 shares; issued and outstanding
14,534,065 at November 3, 2002 and 14,680,960 at July 28, 2002 1,453 1,468
Additional paid-in capital 114,237 116,579
Retained earnings 50,893 47,541
Accumulated other comprehensive loss (241) (230)
------- -------
Total Shareholders' Equity 166,342 165,358
------- -------
$ 197,736 $ 190,202
======= =======
The accompanying notes are an integral part of these financial statements.
2
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(In thousands except per share data)
14 weeks ended 13 weeks ended
November 3, October 28,
2002 2001
-------------- --------------
Net sales $ 27,290 $ 22,213
------ ------
Cost and expenses:
Cost of products sold 18,099 14,574
Selling and administrative expenses 3,735 3,407
Litigation costs 650 156
Plant closing costs - 406
------ ------
22,484 18,543
------ ------
Income from operations 4,806 3,670
Other income (expense), net 273 79
------ ------
Income from continuing operations
before income taxes 5,079 3,749
Provision for income taxes 1,727 1,310
------ ------
Income from continuing operations 3,352 2,439
Loss from discontinued operations - (144)
------ ------
Income before cumulative effect of change
in accounting principle 3,352 2,295
Cumulative effect of adopting SFAS 142 - (4,637)
------ ------
Net income $ 3,352 $ (2,342)
====== ======
Earnings (loss) per common share - Basic
Income from continuing operations $ .23 $ .23
Loss from discontinued operations - (.01)
Cumulative effect of adopting SFAS 142 - (.43)
--- ---
Net earnings $ .23 $(.22)
=== ===
Basic weighted average shares 14,668 10,695
====== ======
Earnings (loss) per common share - Diluted
Income from continuing operations $ .22 $ .21
Loss from discontinued operations - (.01)
Cumulative effect of adopting SFAS 142 - (.40)
--- ---
Net earnings $ .22 $(.20)
=== ===
Diluted weighted average shares 15,506 11,695
====== ======
The accompanying notes are an integral part of these financial statements.
3
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
14 weeks ended November 3, 2002
(In thousands except share data)
Accumulated
Additional Other
Common Stock Paid-in Retained Treasury Comprehensive
Shares Amount Capital Earnings Stock Loss Total
---------- ------ ------- -------- -------- ------------- -------
Balance at July 28, 2002 14,680,960 $ 1,468 116,579 47,541 - (230) $ 165,358
Net income 3,352 3,352
Exercise of stock options 43,149 4 331 335
Tax benefit upon exercise of stock
options 464 464
Purchase of 190,044 shares of treasury stock (3,156) (3,156)
Retirement of treasury shares (190,044) (19) (3,137) 3,156 -
Other comprehensive loss:
Unrealized loss on interest rate swap (12) (12)
Foreign currency translation loss 1 1
---------- ------ ------- ------ ------- --- -------
Balance at November 3, 2002 14,534,065 $ 1,453 114,237 50,893 - (241) $ 166,342
========== ====== ======= ====== ======= === =======
The accompanying notes are an integral part of these financial statements.
4
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
14 weeks ended 13 weeks ended
November 3, October 28,
2002 2001
-------------- --------------
Cash flows from operating activities:
Income from continuing operations $ 3,352 $ 2,439
------ ------
Adjustments to reconcile income from
continuing operations to net cash
provided by operations:
Depreciation and amortization 968 952
Equity income of limited partnership (2) (13)
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable (4,374) 2,921
Decrease (increase) in costs incurred and income
recognized in excess of billings on
uncompleted contracts 832 (1,697)
(Increase) decrease in other receivables (106) 10
(Increase) in inventories (2,035) (1,052)
Decrease in prepaid income taxes 382 -
(Increase) in prepaid expenses and other (31) (82)
Increase (decrease) in accounts payable
and accrued expenses 1,812 (306)
(Decrease) in billings in excess of
costs incurred and income recognized
on uncompleted contracts - (52)
Increase in income taxes payable 1,261 890
Increase (decrease) in reserve for contract losses 9 (20)
Increase in advance payments on contracts 354 1,151
Other, net 77 (614)
------ -------
Total adjustments (853) 2,088
------ ------
Net cash provided by continuing operations 2,499 4,527
------ ------
Cash flows from investing activities:
Investment of unexpended industrial revenue bond proceeds - (1,910)
Acquisition of businesses, net of cash acquired (2,384) -
Capital expenditures (1,106) (725)
------ ------
Net cash used in investing activities (3,490) (2,635)
------ ------
Cash flows from financing activities:
Proceeds from industrial revenue bond financing - 3,000
Proceeds from exercise of stock options and warrants, net 335 1,600
Payments of long-term debt (124) (63)
Purchase of treasury stock (3,156) -
------ ------
Net cash (used in) provided by financing activities (2,945) 4,537
------ ------
Net cash used in discontinued operations - (855)
------ ------
Net (decrease) increase in cash and cash equivalents (3,936) 5,574
Cash and cash equivalents at beginning of period 86,210 13,041
------ ------
Cash and cash equivalents at end of period $ 82,274 $ 18,615
====== ======
The accompanying notes are an integral part of these financial statements.
5
Herley Industries, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements - (Unaudited)
1. The consolidated financial statements include the accounts of Herley
Industries, Inc. and its subsidiaries, all of which are wholly-owned. All
significant inter-company accounts and transactions have been eliminated in
consolidation.
In the opinion of the Company's management, the accompanying consolidated
financial statements reflect all adjustments (which include only normal
recurring adjustments) necessary to present fairly the consolidated
financial position and results of operations and cash flows for the periods
presented. These financial statements (except for the balance sheet
presented at July 28, 2002) are unaudited and have not been reported on by
independent public accountants.
Results of operations for interim periods are not necessarily indicative of
the results of operations for a full year due to external factors which are
beyond the control of the Company.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations". SFAS No. 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible
long-lived assets and the associated asset retirement costs. SFAS No. 143
is effective for fiscal years beginning after June 15, 2002. Management
adopted this standard on July 29, 2002 and has determined that the adoption
did not have a significant impact on the financial position, results of
operations or cash flows of the Company.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." This statement is effective for fiscal years beginning after
May 15, 2002. SFAS 145 requires, among other things, eliminating reporting
debt extinguishments as an extraordinary item in the income statement.
Management adopted this standard on July 29, 2002 and has determined that
the adoption did not have a significant impact on the financial position,
results of operations or cash flows of the Company.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." The statement is effective
for fiscal years beginning after December 31, 2002. SFAS No. 146 requires
companies to recognize costs associated with exit or disposal activities
when they are incurred rather than at the date of a commitment to an exit
or disposal plan. Management does not believe the adoption of this standard
will have a material impact on the Company's financial position or results
of operations.
2. The Company entered into an agreement as of September 1, 2002, to acquire
all of the issued and outstanding common stock of EW Simulation Technology,
Limited ("EWST"), a British company of Aldershot, UK, which operates as a
wholly-owned subsidiary. EWST designs, develops and produces electronic
warfare simulator systems for prime defense contractors and countries
worldwide. The acquisition of EW Simulation Technology was driven by a two
part strategic initiative: a) to leverage the Company's microwave expertise
vertically into the international threat and jamming simulator markets, and
b) to increase the amount of microwave content supplied by the Company on
each simulator platform. This strategy will expand international revenues
from new sources and increase content to existing customers. The
transaction, which closed on September 20, 2002, provides for payment of
$3,000,000 in cash and a note for $1,500,000, including interest at 1.8%,
payable in annual installments of $500,000. The transaction has been
accounted for in accordance with the provisions of SFAS No. 141, "Business
Combinations", which requires that all business combinations be accounted
for using the purchase method. The consolidated financial statements
reflect preliminary estimates of the fair value of the assets acquired and
liabilities assumed and the related allocations of the purchase price, and
preliminary
6
estimates of adjustments necessary to conform EWST data to the Company's
accounting policies. The Company is currently reviewing the preliminary
estimates, and the final determination of the fair value of assets acquired
and liabilities assumed and final allocation of the purchase price may
differ from the amounts included in the accompanying consolidated financial
statements. The excess cost over the preliminary estimated fair value of
net assets acquired of approximately $4,673,000 has been recorded as
goodwill.
3. In September 2000, the Company acquired all of the issued and outstanding
common stock of Terrasat, Inc. ("Terrasat"), a California corporation, for
cash of $6,000,000, $3,000,000 of which was paid in December 2000 and
$3,000,000 of which was paid in December 2001. In addition, the agreement
provided for additional cash payments in the future up to $2,000,000, based
on gross revenues through December 31, 2001. The targeted gross revenues
under the agreement were not achieved, therefore no addition cash payments
were made.
In August 2001, the FASB issued SFAS No 144 "Accounting for the Impairment
or Disposal of Long-Lived Assets" which addresses financial accounting and
reporting for the impairment of long-lived assets and for long- lived
assets to be disposed of. SFAS No 144 supersedes SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed Of," and retains the fundamental provisions of Statement 121 for
(a) recognition and measurement of the impairment of long-lived assets to
be held and used and (b) measurement of long-lived assets to be disposed of
by sale. SFAS 144 also supersedes the accounting and reporting provisions
of APB Opinion No. 30, "Reporting the Results of Operations -- Reporting
the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions," for segments
of a business to be disposed of, but retains the requirement of Opinion 30
to report discontinued operations separately from continuing operations and
extends that reporting to a component of an entity that either has been
disposed of (by sale, by abandonment, or in a distribution to owners) or is
classified as held for sale. The provisions of this statement were adopted
by the Company effective on July 30, 2001.
In January 2002 the Board of Directors of the Company determined that
Terrasat would no longer be able to generate sufficient returns to justify
continued investment due to the overcapacity in the telecom industry and
deteriorating economic conditions in Terrasat's primary markets. Therefore,
the Company decided to discontinue the operations of Terrasat and to seek a
purchaser for the business. Consequently, the accompanying consolidated
financial statements reflect Terrasat as discontinued operations in
accordance with SFAS No. 144. Results of operations and cash flows of
Terrasat have been classified in the October 2001 financial statements as
"Loss from discontinued operations", and "Net cash provided by discontinued
operations", respectively.
The sale of certain assets and liabilities, and the business of Terrasat
was consummated on March 1, 2002, effective the close of business January
27, 2002, to certain current employees of Terrasat for cash and a note
which approximates the value of the net assets held for sale as of January
27, 2002 of $878,000.
Summarized below are the results of discontinued operations:
Thirteen weeks ended
October 28, 2001
----------------
Net sales $ 824
---
Loss from discontinued operations (218)
Income tax (benefit) (74)
---
Net loss from discontinued operations $ (144)
===
7
4. Inventories at November 3, 2002 and July 28, 2002 are summarized as follows
(in thousands):
November 3, 2002 July 28, 2002
---------------- -------------
Purchased parts and raw materials $ 17,999 $ 18,680
Work in process 18,911 15,707
Finished products 1,278 1,391
------ ------
38,188 35,778
Less reserve 2,430 2,407
------ ------
$ 35,758 $ 33,371
====== ======
5. The Company recognizes all derivatives on the balance sheet at fair value.
On the date the derivative instrument is entered into, the Company
generally designates the derivative as either (1) a hedge of the fair value
of a recognized asset or liability or of an unrecognized firm commitment
("fair value hedge") or (2) a hedge of a forecasted transaction or of the
variability of cash flows to be received or paid related to a recognized
asset or liability ("cash flow hedge"). Changes in the fair value of a
derivative that is designated as, and meets all the required criteria for,
a fair value hedge, along with the gain or loss on the hedged asset or
liability that is attributable to the hedged risk, are recorded in current
period earnings. Changes in the fair value of a derivative that is
designated as, and meets all the required criteria for, a cash flow hedge
are recorded in accumulated other comprehensive income and reclassified
into earnings as the underlying hedged item affects earnings. The portion
of the change in fair value of a derivative associated with hedge
ineffectiveness or the component of a derivative instrument excluded from
the assessment of hedge effectiveness is recorded currently in earnings.
Also, changes in the entire fair value of a derivative that is not
designated as a hedge are recorded immediately in earnings. The Company
formally documents all relationships between hedging instruments and hedged
items, as well as its risk-management objective and strategy for
undertaking various hedge transactions. This process includes relating all
derivatives that are designated as fair value or cash flow hedges to
specific assets and liabilities on the balance sheet or to specific firm
commitments or forecasted transactions.
The Company also formally assesses, both at the inception of the hedge and
on an ongoing basis, whether each derivative is highly effective in
offsetting changes in fair values or cash flows of the hedged item. If it
is determined that a derivative is not highly effective as a hedge or if a
derivative ceases to be a highly effective hedge, the Company will
discontinue hedge accounting prospectively.
In October 2001, the Company entered into an interest rate swap with a bank
pursuant to which it exchanged floating rate interest in connection with
the East Hempfield Township Industrial Development Authority Variable Rate
Demand/Fixed Rate Revenue Bonds Series 2001(the "Bonds") on a notional
amount of $3,000,000 for a fixed rate of 4.07% for a 10 year period ending
October 1, 2011. The notional amount reduces each year in tandem with the
annual installments due on the Bonds. The fixing of the interest rate for
this period offsets the Company's exposure to the uncertainty of floating
interest rates on the Bonds, and as such has been designated as a cash flow
hedge. The hedge is deemed to be highly effective and any ineffectiveness
will be recognized in interest expense in the reporting period. The fair
value of the interest rate swap was a liability of $159,515 as of November
3, 2002. There was no material hedge ineffectiveness related to cash flow
hedges during the period to be recognized in earnings. There was no gain or
loss reclassified from accumulated other comprehensive income into earnings
during the quarter ended November 3, 2002 as a result of the discontinuance
of a cash flow hedge due to the probability of the original forecasted
transaction not occurring.
6. In July 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 142 "Goodwill and Other Intangible Assets," which requires the use of a
non-amortization approach to account for purchased goodwill and certain
intangibles. Under a non-amortization approach, goodwill will not be
amortized into results of
8
operations, but instead will be reviewed for impairments, which will be
charged to results of operations in the periods in which the recorded value
of goodwill is more than its fair value. The provisions of this statement
were adopted by the Company on July 30, 2001. The adoption of SFAS No.142
resulted in the Company's discontinuation of amortization of its goodwill
as of July 30, 2001.
In connection with the adoption of SFAS 142, the Company was required to
assess goodwill for impairment within six months of adoption, and completed
its assessment in the second quarter of fiscal 2002.
The Company operates as a single integrated business and as such has one
operating segment which is also the reportable segment as defined in SFAS
131. Within the operating segment, the Company has identified two
components as reporting units as defined under SFAS 142, defense
electronics and commercial technologies. The Company has determined the
carrying value of each reporting unit by assigning assets and liabilities,
including the existing goodwill and intangible assets, to those reporting
units as of July 30, 2001. The Company determined that an impairment of
goodwill in the commercial technologies unit had occurred, and accordingly,
a transition adjustment in the amount of $4,637,000 was recorded as of July
30, 2001 as a cumulative effect of a change in accounting principle. There
is no tax benefit associated with the adjustment since the impaired
goodwill is not deductible for income tax purposes.
The change in the carrying amount of goodwill for the quarter ended
November 3, 2002 is as follows:
Balance at July 28, 2002 $ 21,665
Goodwill acquired during period 4,673
-------
Balance at November 3, 2002 $ 26,338
======
An annual impairment test is performed in the fourth quarter of each fiscal
year and any future impairment of goodwill will be charged to operations.
Intangibles, consisting of patents having an estimated useful life of
fourteen years, are carried at an aggregate gross amount of $568,000 with
accumulated amortization at November 3, 2002 of $156,000. Amortization
expense for the fourteen weeks ended November 3, 2002, and the thirteen
weeks ended October 28, 2001 was approximately $11,000. Estimated annual
amortization expense for each of the next five fiscal years is
approximately $41,000.
7. The Company is involved in various legal proceedings and claims which arise
in the ordinary course of its business. While any litigation contains an
element of uncertainty, management believes that the outcome of such
litigation will not have a material adverse effect on the Company's
financial position or results of operations. See Part II, Item 1. "Legal
Proceedings".
8. The following table shows the calculation of basic and diluted
weighted-average shares outstanding (in thousands except per share data):
Fourteen weeks Thirteen weeks
ended ended
November 3, October 28,
2002 2001
-------------- --------------
Basic weighted-average shares 14,668 10,695
Effect of dilutive securities:
Employee stock options and warrants 838 1,000
------ ------
Diluted weighted-average shares 15,506 11,695
====== ======
9
Options to purchase 675,541 weighted shares of common stock, with exercise
prices ranging from $19.03 to $19.52, were outstanding during the first
quarter of fiscal 2003, but were not included in the computation of diluted
EPS because the exercise price is greater than the average market price of
the common stock. The options, which expire through May 21, 2012, were
still outstanding as of November 3, 2002. There were no anti-dilutive
options outstanding during the first quarter of fiscal 2002.
9. The components of comprehensive income for the first quarter of fiscal 2003
and 2002 are as follows:
Fourteen weeks Thirteen weeks
ended ended
November 3, October 28,
2002 2001
-------------- --------------
Net income $ 3,352 $ (2,342)
Unrealized loss on interest rate swap (12) -
Foreign currency translation gain 1 -
----- -----
Comprehensive income (loss) $ 3,341 $ (2,342)
===== =====
The components of accumulated other comprehensive loss at November 3, 2002
is as follows:
November 3, 2002
----------------
Unrealized loss from available-for-sale
securities $ 66
Unrealized loss on interest rate swap 109
Foreign currency translation gain 66
----
Accumulated other comprehensive loss $ 241
===
10. Supplemental cash flow information is as follows (in thousands):
Fourteen weeks Thirteen weeks
ended ended
November 3, October 28,
2002 2001
-------------- --------------
Cash paid during the period for:
Interest $ 99 $ 61
Income taxes 65 202
Cashless exercise of stock options - 7,798
Tax benefit related to stock options 464 4,837
10
Item 2: Management's Discussion and Analysis of Financial Condition and Results
of Operations
Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995
Certain statements contained in this report are "forward-looking statements"
that involve various important assumptions, risks, uncertainties and other
factors which could cause the Company's actual results to differ materially from
those expressed in such forward-looking statements. Forward-looking statements
can be identified by terminology such as "may", "will", "should", "expects",
"intends","anticipates","believes","estimates","predicts", "continue", or the
negative of these terms or other comparable terminology. These important factors
include, without limitation, a large percentage of sales are under government
contracts, cost overruns under fixed price contracts, doing business in foreign
markets, customer concentration, competitive factors and pricing pressures,
effective integration of acquired businesses, management of future growth,
recruiting and retaining qualified technical personnel, general economic
conditions, as well as other risks previously disclosed in the Company's
securities filings and press releases. Although the Company believes that the
expectations reflected in the forward-looking statements are reasonable, it
cannot guarantee future results, performance or achievements. Further, the
Company is under no duty to update any of the forward-looking statements after
the date of this quarterly report to conform such statements to actual results.
Results of Operations
Fourteen weeks ended November 3, 2002 and thirteen weeks ended October 28, 2001
Net sales from continuing operations for the fourteen weeks ended November 3,
2002 were approximately $27,290,000 compared to $22,213,000 in the thirteen
weeks ended October 28, 2002. Of the sales increase of $5,077,000 (22.9%),
$1,322,000 is attributable to the acquisition of EWST. The balance relates to
increased revenue in defense electronics microwave components. In addition, the
first quarter of fiscal 2003 consisted of fourteen weeks as compared to thirteen
in fiscal 2002.
The gross profit margin of 33.7% in the fourteen weeks ended October 28, 2002 is
lower than the margin of 34.4% in the first quarter of the prior year. The
growth in revenue is primarily from microwave components having lower gross
margins than microwave systems resulting in an overall lower margin than in
fiscal 2002. The continuing investment in product development related to
commercial applications also had an impact on the gross margin for the quarter.
Selling and administrative expenses for the fourteen weeks ended November 3,
2002 were 13.7% of net sales as compared to 15.3% in the first quarter of fiscal
2002. The increase in expenses of $328,000 includes expenses of EWST of
$147,000, an increase in incentive compensation under employment contracts of
$110,000, and net increases in payroll and related costs of $50,000.
Litigation costs of $650,000 in the quarter relate to the Robinson Labs trial in
August 2002. (See Part II, Item 1. "Legal Proceedings").
Plant closing costs in the amount of $406,000 were accrued in the first quarter
of fiscal 2002 in connection with the facilities in Nashua, NH and Anaheim, CA.
As of November 3, 2002, $359,000 of costs have been paid.
Investment income increased approximately $225,000 from the prior year first
quarter primarily due to interest earned on the investment of cash reserves
including the proceeds of approximately $64,812,000 from the sale of common
stock to the public in the second quarter of fiscal 2002 , as well as proceeds
from the partial liquidation of the limited partnership investment. Interest
expense increased approximately $31,000 as compared to the first
11
quarter of fiscal 2002 primarily due to the $3,000,000 financing of the
expansion of the Lancaster facility through industrial revenue bonds at the end
of the first quarter of fiscal 2002.
Liquidity and Capital Resources
As of November 3, 2002 and July 28, 2002, working capital was $125,892,000 and
$129,012,000, respectively, and the ratio of current assets to current
liabilities was 7.0 to 1 and 9.5 to 1, respectively.
As is customary in the defense industry, inventory is partially financed by
progress payments. The unliquidated balance of these advanced payments was
approximately $2,421,000 at November 3, 2002, and $1,371,000 at October 28,
2001.
Net cash provided by continuing operations during the fourteen weeks ended
November 3, 2002 was approximately $2,499,000 as compared to $4,527,000 during
the comparable period in the prior year. Significant items contributing to the
sources of funds include income from continuing operations of $4,320,000
(adjusted for depreciation and amortization), increases in accounts payable and
accrued expenses of $1,812,000, and income taxes of $1,261,000. Offsetting these
increases are an increase in accounts receivable of $4,374,000, and an increase
in inventory of $2,035,000.
Net cash used in investing activities consists of net cash paid for the
acquisition of EWST of $2,384,000, and $1,106,000 for capital expenditures.
Net cash used in financing activities of $2,945,000 consists primarily of the
acquisition of approximately 190,000 shares of treasury stock, which has been
retired, for $3,156,000 under a stock buyback program approved by the Board of
Directors in October 2002 for the purchase of up to 1,000,000 shares of common
stock.
In June 2002, the Company entered into a new $50,000,000 Revolving Credit Loan
Syndication agreement with two banks on an unsecured basis which may be used for
general corporate purposes, including business acquisitions. The revolving
credit facility requires the payment of interest only on a monthly basis and
payment of the outstanding principal balance on January 31, 2004. The Company
may elect to borrow up to a maximum of $5,000,000 with interest based on the
FOMC Federal Funds Target Rate plus a margin of 1.50% to 1.80%, or up to a
maximum of $45,000,000 with interest based on LIBOR plus a margin of 1.35% to
1.65%. The applicable incremental margin is based on the ratio of total
liabilities to tangible net worth, as those terms are defined in the agreement,
ranging from less than .40 to 1.0, to greater than 1.0 to 1.0. The FOMC Federal
Funds Target Rate and the LIBOR rate was 1.75% and 1.74%, respectively, at
November 3, 2002. There is a fee of 15 basis points per annum on the unused
portion of the $45,000,000 LIBOR based portion of the credit facility payable
quarterly. There were no borrowings outstanding as of November 3, 2002 and July
28, 2002. Stand-by letters of credit were outstanding in the amount of
$4,857,000 under the credit facility at November 3, 2002.
The Company believes that presently anticipated future cash requirements will be
provided by internally generated funds, its existing unsecured credit facility,
and cash balances of approximately $82,000,000. A significant portion of the
Company's revenue for fiscal 2003 will be generated from its existing backlog of
sales orders. The backlog of orders at November 3, 2002 was in excess of
$105,000,000. All orders included in backlog are covered by signed contracts or
purchase orders. Nevertheless, contracts involving government programs may be
terminated at the discretion of the government. In the event of the cancellation
of a significant amount of government contracts included in the Company's
backlog, the Company will be required to rely more heavily on cash reserves and
its existing credit facility to fund its operations. The Company is not aware of
any events which are reasonably likely to result in any cancellation of its
government contracts. The Company has $45,143,000 available under its bank
credit facility, net of outstanding stand-by letters of credit of $4,857,000.
12
Future payments required on long-term debt are as follows (in thousands):
Twelve months Industrial
ended Mortgage revenue Other
October Total note bonds obligations
------- ----- ---- ----- -----------
2003 $ 719 $ 82 $ 100 $ 537
2004 707 88 105 514
2005 705 95 110 500
2006 218 103 115 -
2007 230 110 120 -
Future 4,708 2,194 2,355 159
----- ----- ----- -----
$ 7,287 $ 2,672 $ 2,905 $ 1,710
===== ===== ===== =====
Stand-by letters of credit expire as follows:
During
fiscal
year Amount
---- ------
2003 $ 1,299
2004 3,168
2005 115
2006 275
-----
$ 4,857
=====
Minimum annual rentals under noncancellable operating leases are as follows (in
thousands):
During
fiscal
year Amount
---- ------
2003 $ 1,024
2004 1,106
2005 954
2006 969
2007 948
Future 2,049
-----
$ 7,050
=====
Critical Accounting Policies
Revenue under certain long-term, fixed price contracts is recognized using the
percentage of completion method of accounting. Revenue recognized on these
contracts is based on estimated completion to date (the total contract amount
multiplied by percent of performance, based on total costs incurred in relation
to total estimated cost at completion). Prospective losses on long-term
contracts are based upon the anticipated excess of inventoriable manufacturing
costs over the selling price of the remaining units to be delivered and are
recorded when first reasonably determinable. Contract costs include all direct
material and labor costs and those indirect costs related
13
to contract performance. Actual losses could differ from those estimated due to
changes in the ultimate manufacturing costs. Risks and uncertainties inherent in
the estimation process could affect the amounts reported in our financial
statements. The key assumptions used in the estimate of costs to complete relate
to labor costs and indirect costs required to complete the contract. The
estimate of rates and hours as well as the application of overhead costs is
reviewed on a regular basis. If our business conditions were different, or if we
used different assumptions in the application of this and other accounting
policies, it is likely that materially different amounts would be reported on
our financial statements.
New Accounting Pronouncements
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations". SFAS No. 143 addresses financial accounting and reporting for
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. SFAS No. 143 is effective for fiscal years
beginning after June 15, 2002. Management adopted this standard on July 29, 2002
and has determined that the adoption did not have a significant impact on the
financial position, results of operations or cash flows of the Company.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections."
This statement is effective for fiscal years beginning after May 15, 2002. SFAS
145 requires, among other things, eliminating reporting debt extinguishments as
an extraordinary item in the income statement. Management adopted this standard
on July 29, 2002 and has determined that the adoption did not have a significant
impact on the financial position, results of operations or cash flows of the
Company.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." The statement is effective for fiscal years
beginning after December 31, 2002. SFAS No. 146 requires companies to recognize
costs associated with exit or disposal activities when they are incurred rather
than at the date of a commitment to an exit or disposal plan. Management does
not believe the adoption of this standard will have a material impact on the
Company's financial position or results of operations.
Item 3: Quantitative and Qualitative Disclosures About Market Risk
The Company is subject to market risk associated with changes in interest rates.
In October 2001, the Company entered into an interest rate swap with a bank
pursuant to which it exchanged floating rate interest in connection with the
Bonds discussed in Note 4 on a notional amount of $3,000,000 for a fixed rate of
4.07% for a 10 year period ending October 1, 2011. The notional amount reduces
each year in tandem with the annual installments due on the Bonds. The fixing of
the interest rate for this period offsets the Company's exposure to the
uncertainty of floating interest rates on the Bonds, and as such has been
designated as a cash flow hedge. The hedge is deemed to be highly effective and
any ineffectiveness will be recognized in interest expense in the reporting
period. The market value of the interest rate swap was immaterial to the
consolidated financial statements as of April 28, 2002. There was no material
hedge ineffectiveness related to cash flow hedges during the period to be
recognized in earnings. There was no gain or loss reclassified from accumulated
other comprehensive income into earnings during the quarter ended April 28,
2002, as a result of the discontinuance of a cash flow hedge due to the
probability of the original forecasted transaction not occurring.
The Company has not entered into any market risk sensitive instruments for
trading purposes.
14
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 Rule 13a-14 adopted under the
Securities Exchange Act of 1934. Based upon that evaluation, the chief executive
officer and chief financial officer concluded that the Company's disclosure
controls and procedures are effective. There were no significant changes in the
Company's internal controls or in other factors that could significantly affect
these controls subsequent to the date of their evaluation.
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings:
On August 14, 2001, Robinson Laboratories, Inc. ("RLI") and Ben Robinson
("Robinson") filed an Amended Complaint against Herley Industries, Inc.
("Herley"). Although the Amended Complaint sets forth fifteen counts, the core
allegations are (i) that Herley failed to issue 97,841 shares of common stock in
connection with certain earn out requirements contained in an Asset Purchase
Agreement dated February 1, 2000; (ii) that Herley breached an Employment
Agreement with Robinson by terminating his employment on August 5, 2001; and
(iii) that Herley breached a Stock Option Agreement dated January 31, 2000, with
Robinson. RLI and Robinson asserted (i) violations of state and federal
securities laws; (ii) fraud claims; (iii) breach of contract claims; and (iv)
other equitable claims arising from the above core factual allegations.
On September 17, 2001, Herley filed an Answer, Affirmative Defenses and
Counterclaims in this matter. In the Answer and Affirmative Defenses, Herley
denied the material allegations of the Amended Complaint. Herley also filed
Counterclaims against both RLI and Robinson. In these counterclaims, Herley's
core allegations concern Robinson's misconduct (i) in connection with the manner
he attempted to satisfy RLI's earn out requirements; (ii) misrepresentations
made in connection with the Asset Purchase Agreement; (iii) wrongdoing as a
Herley employee leading to his termination and (iv) post-Herley employment
wrongdoing in connection with a new company known as RH Laboratories. In
addition to seeking a Declaratory Judgment pursuant to 28 U.S.C. ss. 2201 et.
seq., Herley also asserted claims for, among other things, fraud, breach of
contract, breach of fiduciary duty, unfair competition and tortious interference
with actual and prospective contractual relationships.
On August 5, 2002, a jury trial commenced. A jury verdict was rendered on August
21, 2002 in which the jury determined, among other things, that (i) Herley was
not required to pay any additional stock; (ii) Herley breached the Employment
Agreement with Robinson and awarded Robinson $1.5 million in damages; (iii)
Herley breached the Lease Agreement with Robinson and awarded Robinson
approximately $552,000 in compensatory damages; (iv) Robinson breached fiduciary
duties to Herley and awarded Herley $400,000 in compensatory damages; (v)
Robinson and RLI breached indemnity obligations and awarded Herley $100,000 in
damages; (vi) RLI breached representations and warranties given to Herley and
awarded Herley $320,000 in damages.
On October 18, 2002, the Court entered a final judgment consistent with the
above, and both parties filed post-trial motions. Additionally, as the
prevailing party in connection with the claims asserted by RLI relating to the
earn-out stock, as well as claims advanced relating to the various breaches of
the Asset Purchase Agreement, Herley filed a petition for fees and costs against
both RLI and Robinson on November 27, 2002 for approximately $2,000,000. RLI and
Robinson also filed petitions to recover attorneys fees of approximately
$240,000 for certain claims in which they contend that they were the prevailing
party. Post-trial motions and petitions to recover attorneys fees are now
pending with the Court.
15
The Company is involved in various other legal proceedings and claims which
arise in the ordinary course of its business. While any litigation contains an
element of uncertainty, management believes that the outcome of such litigation
will not have a material adverse effect on the Company's financial position or
results of operations.
Item 2 - Changes In Securities:
None
Item 3 - Defaults Upon Senior Securities:
None
Item 4 - Submission Of Matters To A Vote Of Security Holders:
None
Item 5 - Other Information:
None
Item 6 - Exhibits And Reports On Form 8-K:
(a) Exhibits
99.1 Certification of Chief Executive Officer
99.2 Certification of Chief Financial Officer
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the first quarter of fiscal
2003.
16
FORM 10-Q
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.
HERLEY INDUSTRIES, INC.
-----------------------
Registrant
BY: /S/ Myron Levy
------------------------------------
Myron Levy, Chief Executive Officer
BY: /S/ Anello C. Garefino
------------------------------------
Anello C. Garefino
Principal Financial Officer
DATE: December 17, 2002
17
CERTIFICATIONS PURSUANT TO RULE 13-A-14 OF THE SECURITIES ACT OF 1934
AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
CERTIFICATION
I, Myron Levy, Chief Executive Officer of Herley Industries, Inc., hereby
certify that:
1. I have reviewed this quarterly report on Form 10-Q of Herley Industries,
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: December 17, 2002
By: /S/ Myron Levy
-----------------------
Myron Levy
Chief Executive Officer
18
CERTIFICATION
I, Anello C. Garefino, Vice President Finance and Chief Financial Officer of
Herley Industries, Inc., do hereby certify that:
1. I have reviewed this quarterly report on Form 10-Q of Herley Industries,
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: December 17, 2002
By: /S/ Anello C. Garefino
---------------------------
Anello C. Garefino
Vice President Finance and
Chief Financial Officer
19
EXHIBIT 99.1
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
In connection with the Quarterly Report on Form 10-Q of Herley Industries, Inc.
and subsidiaries (the "Company") for the quarterly period ended November 3, 2002
as filed with the Securities and Exchange Commission on the date hereof (the
"Report"), I Myron Levy, Chief Executive Officer of the Company, hereby certify,
pursuant to 18 U.S.C. ss. 1350, as adopted pursuant to ss. 906 of the
Sarbanes-Oxley Act of 2002, that, to the best of my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of
the Securities and Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
By: /S/ Myron Levy
--------------------------
Myron Levy
Chief Executive Officer
Dated: December 17, 2002
This certification accompanies the Report pursuant to ss. 906 of the
Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by the
Sarbanes-Oxley Act of 2002, be deemed filed by the Company for purposes of ss.
18 of the Securities Exchange Act of 1934, as amended.
20
EXHIBIT 99.2
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
In connection with the Quarterly Report on Form 10-Q of Herley Industries, Inc.
and subsidiaries (the "Company") for the quarterly period ended November 3, 2002
as filed with the Securities and Exchange Commission on the date hereof (the
"Report"), I Anello C. Garefino, Vice President Finance, and Chief Financial
Officer of the Company, hereby certify, pursuant to 18 U.S.C. ss. 1350, as
adopted pursuant to ss. 906 of the Sarbanes-Oxley Act of 2002, that, to the best
of my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of
the Securities and Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
By: /S/ Anello C. Garefino
---------------------------
Anello C. Garefino
Vice President Finance and
Chief Financial Officer
Dated: December 17, 2002
This certification accompanies the Report pursuant to ss. 906 of the
Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by the
Sarbanes-Oxley Act of 2002, be deemed filed by the Company for purposes of ss.
18 of the Securities Exchange Act of 1934, as amended.
21